Interested party briefs legislators.
I received notes from yesterday’s briefing of legislators about Governor Brown’s proposal for a special fund (SMIF) to lend the general fund $6 billion so the general fund can put that money in CalPERS, a state pension fund. The briefing was led by CalPERS, the beneficiary of the cash infusion. Four items stand out:
- The briefers did not disclose that CalPERS’s fiduciary obligation is not to the state or its taxpayers or citizens. Under current law, CalPERS does not owe its fiduciary interest to citizens or taxpayers. Needless to say, the fact that legislators received a briefing from a self-interested party seeking a $6 billion cash infusion from those legislators is troubling.
- The transaction disguises a partial bailout of CalPERS. In his pitch to divert money from special funds to CalPERS, Governor Brown had not mentioned that money is tight at CalPERS. (Like a lot of underfunded pension funds, CalPERS faces increasing negative cash flow as pension payments exceed investment earnings and contributions.) Ie, the $6 billion injection is not just a potential way to reduce the state’s future pension costs, which is how Governor Brown has been selling the proposition, but also a way to boost CalPERS’s cash flow.
- The briefers did not disclose or don’t understand the makeup of special fund spending. Briefers told legislators that the $6 billion diversion from special funds would not reduce funding of public services because that money would have gone to employee salaries and pensions anyway. That is not true. Salaries and pension costs make up only a fraction of special fund spending. See for yourself. Here is Schedule 4 of the Governor’s Budget:
Notice that total spending on salaries is $18 billion, ~55% of which is allocated to special funds. That’s ~$10 billion per year of special fund salary spending. Next, look at pension spending, again from the Governor’s Budget:
Special Funds pick up ~55% of the CalPERS portion, which translates into $3 billion. Thus, special fund spending on salaries and pensions amounts to ~$13 billion per year. Next, here is the chart from the Governor’s Budget showing Special Fund spending in total:
Notice that Special Funds will spend $55 billion. $13 billion in salary and pension spending amounts to less than 25% of $55 billion. Applying that percentage to the $6 billion being diverted from SMIF to the general fund, $1.5 billion would be going to salaries and pensions down the road. That’s a far cry from the briefers’ assertion that the money would go to salaries and pensions anyway.
3. The briefers didn’t disclose that, with an amendment allowing special funds to invest excess cash for longer terms, profits being skimmed for the benefit of CalPERS could’ve gone to more services for citizens. Here’s how that works: Governor Brown says special funds don’t need the $6 billion until 2030 so he wants to loan that money to the general fund so the general fund can contribute more money to CalPERS. But with an amendment allowing special funds to invest for the long term (indeed, possibly to invest better than CalPERS since it is easier to compound $6 billion than $300 billion), the $6 billion could generate the same profits for special funds. Instead, the profits are being allocated to CalPERS.
4. The briefers didn’t fully explain Proposition 2 to legislators. The briefers told legislators that Proposition 2, which Governor Brown designates as the source for repayment of the pension loan, will have plenty of money to pay off the loan because all budgetary debt will be paid off by the time the pension loan is due. But Proposition 2 is eligible to pay off more than budgetary debt. See below for Governor Brown’s portrayal of Proposition 2 in his budget:
Notice that the vast majority of debts already eligible for repayment from Proposition 2 take the form of non-budgetary borrowing. Designating Proposition 2 to pay off the new $6 billion loan crowds out Proposition 2’s ability to pay off nearly 40x that amount of debt already eligible for Proposition 2 pay-down.
Nearly 20 years ago CalPERS produced a deceptive document in a successful effort to convince the state legislature to approve a huge retroactive pension increase. The document was not objective and the pension increase has led to a massive diversion of money from public services. Later it turned out that CalPERS had not provided the whole picture to legislators. A state legislator who voted for the retroactive pension increase asked CalPERS why they didn’t present that evidence. The answer: “We don’t owe our fiduciary obligation to you.” As Washington DC takes testimony about allegations of collusion, ask yourself how California differs when its officials allow the beneficiary of a $6 billion infusion to brief the legislators responsible for approving that infusion.
NB: Apparently the briefers also noted that Moody’s looks favorably upon the proposed loan. But Moody’s view is irrelevant. Moody’s represents the interests of bondholders who are creditors of the general fund (full disclosure: I am such a bondholder). It makes perfect sense that bondholders would like the general fund to get a loan from a lender under the governor’s control. Indeed, Moody’s expresses a favorable view of the loan in part because the state “could defer repayment of the SMIF loan without triggering a default of bonded debt.” Ie, Moody’s also likes the fact that future governors and legislators could decide not to repay SMIF without negative consequences. If Moody’s represented the interests of citizens or taxpayers its opinion might matter. But it does not.