I just saw this announcement about an updated list.
State Budget Solutions put out its most recent list of tricks used to hide the true cost of public pensions. It builds upon their list from 2013. Policymakers and key advisors use many of the tactics they identified to confuse or hide the unsound fiscal problems of government sponsored retirement systems reform. Indeed, while investment strategies and returns are often blamed for underfunded systems, other assumptions and models often have just as much (or more) bearing on whether a pension fund will be able to provide a secure retirement to all its employees for decades to come. Some of the examples include:
- Outdated Life Expectancy Assumptions
- Inflated Discount Rates
- Overly Aggressive Investment Assumptions
- Underfunding Pension Contributions
Authors Joe Luppino-Esposito and Bob Williams write, “Those who control the levels of benefits are politicians who must worry about re-election. This is not a system that rewards future planning over present results. If politicians were divorced from the process and employees and retirees had control over their retirement, a good number of these gimmicks would not be necessary to have a sustainable system.”
Overly aggressive investment assumptions and inflated discount rates are essentially the same thing (though they shouldn’t be — the value of a liability shouldn’t depend on the assets backing that liability unless the liability is directly asset-dependent (like those 13th check bonuses…but that’s another day)).
I am going to draw out my most-loathed public pensions trick: pension obligation bonds
Pension Obligation Bonds
As more states recognize the whopping unfunded liabilities in public pension funds, some policymakers have opted to borrow money now in order to make up the difference. When interest rates are low, the logic follows that if a state borrows money today at a lower rate, it can invest that money, have a greater rate of return, and be able to pay off the bond debt and also assist in paying down unfunded liabilities. But this maneuver also allows the state to automatically assume that this new funding will hit the higher rate of returns, often at 7-8% annually. That means that even less money needs to be put into the pension funds now, or at least according to this accounting trick. Another challenge is when a state issues pension obligation bonds, they underfund the annual required contribution in the budget and in some cases (i.e. Illinois) use the pension obligation bonds to “balance” the current budget and thus not put the money into pensions.
- Kansas: Kansas has approved a $1 billion pension bond that will put cash directly into the coffers of the system to be used for investment. Because of the investment assumptions, the state has also decided to lower the contribution to the pension plan by $64 million over two years, which will help “balance” the budget.
- Illinois: “In just ten years, the Illinois General Assembly pushed the burden of billions in government spending onto Illinois’ future generations. Official estimates put Illinois’ unfunded pension liability at $85.6 billion. But that amount does not take into account the $25.8 billion in pension obligation bond (POB) payments still outstanding, which have a net present value of approximately $17.2 billion”
Yes, POBs are indeed of the devil.
You will notice many of these gimmicks are essentially the same move in different ways: simply – undervalue the liability, and underfund it.
They don’t hit all the ways pensions can get goosed – like spiking and 13th check boosts. Still, it does hit the high points of the issue.
Dallas Police and Fire Pensions: Pulling into the Abyss
Public Pensions Watch: Choices Have Consequences
Stupid Public Pension Trends: Divestment Expands