COMMENTARY: Politicians Put Taxpayers at Risk Chasing Gain for Pension Plans

Watchdog News - http://watchdog.org - February 16, 2012 

By Frank Keegan | State Budget Solutions ^[1]

Politicians are setting up taxpayers and government workers for an even bigger crash by forcing retirement funds into risky investments, chasing gains required to pay promised benefits. That means trillions of dollars in higher taxes to provide no services or millions of betrayed public workers who will not get pension checks.

The public pension crisis just keeps getting bigger every year, as governors and legislators fail to deal with it, and fund managers have to go after higher and higher returns.

A recent Upjohn Institute “Analysis of Risk-Taking Behavior for Public Defined Benefit Pension Plans ^[2]” concludes: “An investment policy of increasing risk exposure on the asset side, while liabilities continue to increase with near certainty, can be a very poor gamble. Why would managers play this game?

“One motivation might be political decisions to make certain investments. Another could be transferring funding shortfalls as tax burdens to future generations. In addition, bargaining by unions could result in higher benefits, accounting incentives tend to guide behavior, and states may feel pressure because of fiscal constraints.”

Politicians want to project higher return rates, because that means­ less money they have to put in every year. Assuming delusional rates of return on investments lets them “balance” annual budgets by borrowing from retirement funds. That hidden debt just gets bigger every year.

By the time it comes due, they will be safely out of office. All state and municipal politicians have been pushing this time bomb into the future for decades. Now the clock is ticking down. None of them want to be holding it when it detonates.

The idea is simple. If you double the rate of return over 30 years, you only have to invest a third of the money required to pay the benefit.

At 8 percent — which is the rate public pension plans use  — you only have to invest 6 cents to pay $1 in benefits 30 years from now.

At 4 percent return, you have to invest 18 cents this year to pay $1 in benefits three decades from now.

Most lawmakers haven’t even been investing the 6 cents. And what they did invest, pension fund managers recently lost after pocketing billions of dollars for themselves and their cronies.

In just four years through 2010, 222 state pension funds lost $1.46 for every dollar “contributed” by taxpayers through state governments and employees.

It all adds up to trillions of dollars ^[3] somebody must pay.

Sure, all investors are dealing with 30-year, 15 percent, risk-free bonds recently rolling over into 3 percent bonds. And the Federal Reserve Bank’s ongoing policy of keeping interest rates artificially low makes it harder for pension fund managers to lie about how much they are going to gain.

Thirty years ago to guarantee $1 in benefits to be paid in 2011, you had to invest less than 2 cents. Right now to guarantee a $1 benefit in 2042, you must invest about 22 cents. Politicians do not want to do that.

So now they are shifting into riskier investments — which puts even more billions of dollars into insiders’ pockets — to try to claim future returns politicians can use to justify paying even less into pension and retiree health-care funds.

It is a perfect circle of deceit, corruption and racking up debt somebody else will have to pay.

Actuaries, the people who do the detailed accounting on pensions, call it “moral hazard ^[4].”

The fiscal immorality is all on politicians, but all the hazard is on taxpayers present and future.

Pension managers are betting our money that there never, ever will be another market downturn, and overall economic growth and investment gains will be beyond any in history.

If they are wrong, we pay the price. Even the Pew Center on the States’ “Widening Gap ^[5]” study, which showed a 26 percent increase in state and municipal retirement debt in just one year using official assumptions, admits the debt actually doubles when calculated realistically.

The Upjohn report cites as an example an average Ohio teacher. For that one teacher, the State Teacher Retirement System ^[6] will have only $518,000 in the bank to cover $1.3 million in pension checks, according to standard calculations used by everyone but governments.

STRS admits, “… long term, there is a shortfall in the funding …. If no changes are made, STRS Ohio will eventually be unable to pay pensions,” and says “The current expected long-term actuarial rate of return of 8 (percent) … cannot be raised; STRS Ohio cannot count on higher investment returns as a solution.”

The board does not explain how they plan to get even 8 percent. But the Ohio Public Employees Retirement System ^[7] last week revealed one way it plans to get the big bucks: hedge funds.

Ohio’s five state pension funds lost $31.4 billion, down 19.4 percent, from 2007 through 2010. And 2011 is not exactly shaping up to be the year they got it back, plus the 8 percent a year they continue to claim they will always get every year forever even when stark reality proves they never will.

Their solution is to double down on hedge funds, among the riskiest and most expensive investments anyone can make.

Even using delusional accounting, Ohio state pensions are only 66 percent funded, and politicians are not making full contributions, according to Pew. The retirement health-care fund is even worse at 31 percent funded and only 40 percent of the already low-ball annual contribution.

This supports the Upjohn finding that “managers take on more risk if the plan is underfunded and experienced poor investment returns in the previous three or five years. …” and, “… higher union membership percentages and a higher percentage of employees covered by collective bargaining are associated with more risk.”

Of course, none of that risk is on fund managers, politicians or government workers. It’s all on taxpayers, the only people not invited to the table.

Frank Keegan ^[8] is editor of Statebudgetsolutions.org ^[1], a project of sunshinereview.org ^[9]. The State Budget Solutions Project is nonpartisan, positive, pro-reform, proactive and anchored in fundamental-systemic solutions. The goal is to successfully engage political journalists/bloggers, state officials and opinion leaders in a new way of thinking about state government and budgets, fundamental reforms, transparency and accountability. frankkeegan@statebudgetsolutions.org ^[10]