They've been the ones highlighting losses in California's public pension plan (CalPERS), which invested heavily in residential real estate, a mistake that wiped out nearly a third of the state employees' pension plan. Bad planning and huge promises helped force the city of Vallejo, Calif., into an unusual Chapter 9 bankruptcy last spring, partly to renegotiate labor contracts and pension promise.
The state of Illinois has a nearly $50-billion gap in its public pension funds. It's trying to sell the state lottery to raise $10 billion, so far with no takers. The legislature hasn't appropriated pension funds, perhaps not recognizing that its own pension plan was only 32 percent funded -- and that was (SET ITAL) before (END ITAL) the stock market crash last fall!
The City of Chicago has balanced its budget -- but only by selling the Skyway toll road, the city's major parking garages, Midway Airport. Now Chicago is in negotiations to sell the city parking meters! Those one-time cash infusions are a tradeoff that will make it harder to pay tomorrow's pension promises.
It's a hot issue in every state. Kentucky reports a $30-billion gap in pension funding. Connecticut and Massachusetts have highly publicized state budget woes. And the stories keep coming. One of this week's PensionTsunami headlines: "Macomb County, Mich., faces layoffs without $10 million in cuts to pensions and health benefits!"
The magnitude of the state pension shortfall has been hidden by accounting rules that allow pension liabilities to be discounted based on the "expected rate of return." Obviously, the higher the expected return is set, the lower the current pension contributions required. Given recent returns, most pension plans will be even more underfunded when they report on assets in the coming months.
Pension accounting rules add to the problem. The riskier the assets in the pension plan (stocks are considered riskier than bonds), the higher the anticipated return they can use to make the plans look solvent. That encouraged many plans to become overweight in equities in the past few years.
When it comes to making good on retirement promises, states have a far different picture than the federal government or public companies. The federal government can "print" money to pay its retirement obligations, including Social Security benefits. But municipalities can only borrow the money by raising taxes, or selling bonds and other IOUs, or selling assets. It's not a good market for any of those solutions.
When companies go bankrupt, the Pension Benefit Guarantee Corp (PBGC) steps in to cover most defined-benefit pension promises. The PBGC took over 110 plans in 2007, the latest year for which figures are available, paying a maximum benefit of $51,750 a year to eligible retirees. But the PBGC does (SET ITAL) not (END ITAL) cover municipal or state retirement plans.
The little known Chapter 9, of the bankruptcy code, allows cities to reorganize -- and renegotiate all contracts and promises. Chicago attorney James Spiotto of Chapman and Cutler, says the law can be murky: "There are varying levels of protection, ranging from strict constitutional rights to general statutory provisions, that might allow for some renegotiation of benefit levels in light of adverse conditions affecting the pension fund."
In other words, if a government body attempts to renege on pension promise, there will be a huge court battle.
The stage is set. If the generous state and local pension promises negotiated by unions are to be kept, it will be up to taxpayers to come up with the money -- either through higher tax levies or lower service levels. That debate is coming soon to a taxing body near you!