A Day of Reckoning for Public Pensions: The Bills are Due, the Coffers are Empty

COMMENTARY Jobs and Labor

A Day of Reckoning for Public Pensions: The Bills are Due, the Coffers are Empty

Oct 1, 2010 3 min read

Former Distinguished Fellow

Elaine is a former Distinguished Fellow for The Heritage Foundation.

In 1967, Dustin Hoffman’s character in “The Graduate” received a single word of advice for his future: “Plastics!” If Hollywood were to remake that movie today, the updated scene would offer two words of counsel: “Government job!”

After all, a number of recent studies conclude that federal workers earn 20 to 30 percent more per hour than their private sector counterparts. And where local, state, and federal government workers really come out ahead isn’t just in pay; it’s in the benefits. Most private sector workers can only dream of getting the generous lifetime pension and health benefits typical of government service.

These dream benefits are fast becoming a nightmare for taxpayers. Federal pension payouts roll into the $13 trillion national debt. Washington seems little concerned about that, because there’s no urgency to balance the budget.

But most state and local governments are required to produce balanced budgets, and they find themselves increasingly hard-pressed to satisfy their pension obligations.

Unfunded pension promises

For the past few decades, many local and state governments evaded these requirements, using an array of accounting gimmicks and rosy economic predictions to routinely understate pension fund liabilities and overstate assets. All the while, cozy arrangements between politicians and public employee unions fueled pension benefit increases. According to a study by the Pew Center, state and local governments today face at least $1 trillion of unfunded pension promises.

The problem is exacerbated by significant differences between the laws governing public pensions and those in the private sector.

Private sector pensions are required by federal law (Employee Retirement Income Security Act) to conform to certain minimum pension funding rules. These rules require more accurate measurement of pension liabilities and assets and prevent companies with significantly underfunded pension plans from making new promises they can’t afford to keep. State and local government plans are not subject to these federal laws, and many failed to take it upon themselves to responsibly ensure that they would be able to make good on their promises.

The Pew Center study concluded that, during the last decade, only about one-third of states consistently made adequate annual contributions to their pension funds. Moreover, it found that “many states shortchanged their pension plans in both good times and bad.”

Different rules for public plans

Another important distinction is that, unlike private pensions, state and local government pensions are typically 100 percent guaranteed. In California, for example, 12,000 public employees are guaranteed annual pensions exceeding $100,000 apiece. Private employer pensions, by contrast, do not have an automatic draw on government treasuries. Even the most generous ones are insured up to a benefit cap well below $100,000.

Private pension plans must also follow strict federal “fiduciary prudence” requirements – with a fundamental obligation to invest pension assets to protect the workers’, rather than the corporation’s, interests. Regretfully, not all states follow that model. Instead of putting pensioners first, many state and local governments have directed pension fund assets to so-called “social investing” or to bolster local economic development efforts, with dubious results.

Though states can’t withdraw the promises they have already made, they could reform their civil service systems going forward to make them more affordable for taxpayers. Predictably, such reforms are bitterly opposed by public employee unions who fight even modest efforts to reign in expenses.

Steps toward fiscal responsibility

Despite this opposition, governors in some states are moving to address the problem. New Jersey Gov. Chris Christie (R) recently signed legislation taking some first steps to rein in New Jersey’s failing system, and has indicated that more reform will be coming. California Gov. Arnold Schwarzenegger (R) has called attention to the fact that his state already spends more each year on retirement benefits than it does on higher education. California has unfunded retirement liabilities of more than $500 billion – a sum Schwarzenegger terms “unsustainable.”

Local and state officials find themselves between a rock and a hard place: insatiable public employee unions and tapped-out taxpayers. The unions are a formidable political force, which is why public pensions have gotten out of hand in so many states. But at some point the bill comes due. That reckoning is fast-approaching and will be excruciating in many places.

Government at all levels has kicked the fiscal can down the road for far too long. Where public pensions are concerned, many jurisdictions are running out of road. Taxpayers should demand that their states honestly assess public pension plans, accurately measure the assets and liabilities, and take steps to provide fair benefits to public employees that limit taxpayers’ liability.

Elaine L. Chao, who served as US Secretary of Labor from 2001-2009, is a distinguished fellow at The Heritage Foundation.

First appeared in The Christian Science Monitor