State and Local Pensions: What Now?

Introduction

1 1 Introduction Vallejo, California (2008), Prichard, Alabama (2010), and Central Falls, Rhode Island (2011) have filed for bankruptcy, with commentators citing pension promises to public employees as a major cause (see box).1 A Googling of the words “state,” “pension,” and “crisis” found more than a twentyfold increase between 2000 and 2011 (see figure 1-1). The Governmental Accounting Standards Board (GASB) has promulgated new standards that could dramatically change how pension liabilities and costs are reported. Many states have substantially reduced benefits for new employees and increased employee contributions across the board. Yet the majority of states should be able to recover from the devastating impact of the 2008 financial crisis. What is going on here? How did the states and localities facing serious problems get into trouble? How did the others avoid problems? And where problems exist, what changes should be made that would be both effective and fair? This book tells the story of state and local pension plans over the past three decades. The late 1970s and early 1980s is a good place to start. In 1978, the 1. Although press accounts link Vallejo’s bankruptcy with pension costs (see Greenhut 2010; Scheer 2008; and Weber 2011), one reviewer of an earlier draft of this book disagrees. He contends that even though CalPERS (California Public Employees’ Retirement System) was the city’s largest single creditor, the cost of servicing the city’s required pension contribution was not a major factor in its bankruptcy. Rather, the bankruptcy was the result of a collapse of the city’s revenue base. This story sounds quite similar to that for Stockton, Calif., which filed for bankruptcy in June 2012. Stockton’s financial problems stemmed more from extensive borrowing and the collapse of its real estate market than from pension pressures. 2 Introduction first comprehensive survey of state and local plans, mandated by the Employee Retirement Income Security Act of 1974, awarded public plans a grade of D: In the vast majority of public employee pension systems, plan participants, plan sponsors, and the general public are kept in the dark with regard to a realistic assessment of true pension costs. The high degree of pension cost blindness is due to the lack of actuarial valuations, the use of unrealistic actuarial assumptions, and the general absence of actuarial standards.2 It was also a period when the author served as a member of the Massachusetts Retirement Law Commission and witnessed the “Wild West” up close. The then chair of the commission later pleaded guilty to state and federal charges that he engaged in a scheme to defraud the Massachusetts retirement systems.3 From the perspective of the late 1970s and early 1980s, the management of state and local plans has improved dramatically. Plans began to put aside assets 2. U.S. Congress (1978), p. 4. 3. Business Wire (1994). Figure 1-1. Total Number of Google News Citations Using the Terms “State,” “Pension,” and “Crisis,” 2000–11 Source: Google News 2012, database search, March 1. Number of citations 2000 2001 2002 2003 2004 2005 2006 2007 2008 2009 2010 2011 3,000 2,000 1,000 141 203 633 762 687 1,080 742 916 2,210 2,880 3,010 3,240 Introduction 3 Cities That Have Filed for Bankruptcy Vallejo, Calif., population 115,942, filed for bankruptcy in May 2008, the second largest municipal bankruptcy in California history behind Orange County in 1994. —Bankruptcy was attributed to excessive compensation for police and fire union members; salaries and benefits accounted for nearly 80 percent of the city’s budget. —In August 2011, Vallejo was cleared to emerge from bankruptcy protection after agreeing to restructure nearly $50 million in debt by reducing pension benefits for new employees, cutting payments for retiree health care, raising contributions for current workers, and creating a rainy-day fund. —Since 2008, the police department workforce has been slashed by nearly 50 percent, the firefighter workforce has been slashed by 42 percent, and three of eight fire stations have been closed. Prichard, Ala., population 22,659, filed for bankruptcy in October 2010. The city’s decline began in the 1970s as its population shrank by 40 percent and its tax base dwindled. —Bankruptcy was attributed to the legislature sweetening benefits of the municipal plan over time without paying for them. —Prichard had been warned since a 2004 actuarial review that continuous underfunding created the risk...