CalPERS Making Strides to Meet Pension Costs

Fox & Hounds Daily, 6/15/10.

By David Crane, Special Advisor to Governor Schwarzenegger for Jobs & Economic Growth

Later this week, CalPERS’s board is expected to approve a staff recommendation to require more money from the state in order to meet pension costs, a decision it had earlier postponed.  The board should be commended for breaking a troubling trend and lowering total pension costs to boot.

The troubling trend is “cost shifting,” a technique by which a generation issues debt to cover operating expenses and then shifts the obligation to service that debt to future generations.

For years, the state has been doing just that by making promises of lifetime pensions and healthcare after retirement but then not contributing enough money to meet those promises.

This leaves shortfalls to be picked up by later generations who then have less money with which to meet their own costs, just as the state’s payment of more than $6 billion for retirement costs this year is arising in large part because of past under-funding and causing cuts to our programs.  While this week’s step will be a small one (the state has already built up $550 billion in unfunded retirement pension and healthcare debt as a result of under-contributing), it’ll be welcome nevertheless.

In addition, total pension costs will be lowered because failing to make that $700 million payment this year would add an extra 7.75% of cost every year the payment is deferred, compounded.   I.e., failing to make that $700 million payment now would mean $754 million would have to be contributed next year, $813 million if made in two years, and so on. This is why cost-shifting is triply cynical: not only do we shift our costs to our kids but they have to pay interest, and expensive interest at that.

But one of the reasons given for the likely decision is equally cynical.  Last week an article in the LA Times on this subject reported that CalPERS’s board is more comfortable with the increased contribution because much of the cost would fall on special funds rather than the state’s general fund. That’s a false distinction. When special funds incur higher employment costs, citizens get hurt because either fees must go up or services paid for by those special funds must go down, or both. Also, greater costs at special funds reduce reserves potentially borrowable by general funds. Thus, while we should applaud CalPERS’s board for its action, we shouldn’t be encouraging the use of special funds as some sort of low-impact repository to which costs should be shifted whenever possible.

The next generation will have something to celebrate if CalPERS’s board supports its staff recommendation.   They’ll have even more to celebrate when CalPERS reduces its investment return assumption (now the principal tool used to shift our employment costs to them) and amortization periods (used to shift our investment losses to them), but those are subjects for another day.

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