Wanted: Dow 31,000

Public Sector Inc, 3/21/12.

by Steve Malanga

Government union leaders as well as their political allies around the country have often blamed the state and local pension crisis, in which governments have built up some $3 trillion in unfunded liabilities, on the 2008 market crash, not on unaffordable pension systems. They see themselves as a victim of Wall Street machinations.

But David Crane, a California Democrat who served as an adviser on pensions to Gov. Arnold Schwarzenegger, reminds us in a recent op-ed why that’s simply not true. As Crane notes, the market’s recent rise has put the Dow Jones Industrial Average above where it was before the crash in 2008. But pension funds remain seriously underfunded and annual required pension contributions are growing for states, cities and school districts around the country.

Crane notes, for instance, that many of today’s benefits are based on unrealistic rates of investment returns promised by pension funds, who often claimed that could get 8 percent a year or better. In California, for instance, the state did a big and costly pension enhancement in 1999, when the Dow was around 11,000, projecting that investment gains alone would pay for many of these additional perks. Crane estimates that for California’s pension system to be whole right now after that enhancement, the Dow would actually have to be at about 29,000 right now. It’s not, which is why required contributions to pensions by state and local governments in California are soaring.

Jersey is another state whose government pensions are in terrible shape. In 1998 the state borrowed $2.7billion dollars and put the money into its pension system, betting that investment managers could earn between 8 percent and 12 percent annually on that money, leaving the surplus after interest payments in the pension fund. At the time of the borrowing the Dow was at about 10,000. I’ve calculated that it would need to be at 31,000, at a minimum, right now for that pension borrowing to have paid off. Obviously, it’s not close, which is one reason why the state continues to have one of the country’s worst funded government pension systems.

Meanwhile, in addition to the investment shortfall, the costs of the pension borrowing are growing on the Jersey budget. The state must make a $300 million annual payment on those bonds, which escalates to $500 million by 2020. By the time it’s done, Jersey will have paid $10 billion to pay off a $2.7 billion offering and, absent some striking market advances in the next decade, will fall well short of the ridiculous investment projections it made to justify the offering in 1998.

Link to full article: http://www.publicsectorinc.com/forum/2012/03/pension-funds-wanted-dow-31000.html