Sunday, February 26, 2012

As Greece goes, so goes California

A column by @BorensteinDan in the Mercury News, Feb. 26:

The average California household's share of the debt for underfunded state and local government employee pensions comes to about $30,500.

Stanford University studies released last week and in December for the first time aggregate public pension shortfalls statewide. Using moderate assumptions about future investment returns, the unfunded liability is about $379 billion.

To calculate the contributions, actuaries and pension boards make assumptions about future investment returns and pension costs. Unfortunately, they've been wrong.

They have overestimated investment earnings, underestimated pension costs and retroactively added benefits without proper funding. As a result, pension systems across California have huge unfunded liabilities.

Keep in mind that the shortfall is for pension benefits employees already earned. Like salary and health care benefits, it's a cost that should be paid when labor is performed.

Instead, the shortfall has been converted into debt to be paid off over time, up to 30 years. Government agencies make those payments, diverting money that would otherwise go for government services. So we're depriving current and future generations to pay off past labor costs.

Most California public pension systems anticipate they can earn about 7.75 percent annually. Every year they fall short of that target they go deeper into debt.

• When pension systems assume a 7.75 percent return rate, they have only a 42 percent chance of meeting or exceeding that target. But even using that optimistic assumption, the systems are currently only 77 percent funded, with a $180 billion shortfall. That averages $14,500 for each of California's 12.4 million households.

• Many argue that pension systems should base investment projections on much-less-risky bond rates, about 4.5 percent. The chance of reaching that goal is 81 percent. Using that rate, California pension systems are currently 48 percent funded, with a $658 billion shortfall, or about $53,000 per household.

• Investment gurus such as Warren Buffett have argued for a midpoint, about 6.2 percent. The chance of reaching that goal is 63 percent. Using that rate, California systems are currently 61 percent funded, with a $379 billion shortfall, or about $30,500 per household.
Another in a series of outsourced commentaries during these difficult economic times.

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