SIEPR report finds Calif. pensions underfunded

A recent study published by the Stanford Institute for Economic Policy Research (SIEPR) estimated that the state of California has underfunded public pensions anywhere from $498 billion to $142.6 billion, depending on assumed rates of return on investments.

The report – authored by public policy professor Joe Nation, with assistance by California Common Sense researcher Evan Storms ’13 – concluded that the state should both reduce retirement benefits for current government employees and work to overhaul California’s public pension system. The study looked at the California Public Employees Retirement System (CalPERS), California State Teachers Retirement System (CalSTRS) and the University of California Retirement Plan (UCRP).

California State Treasurer Bill Lockyer, who had previously agreed to serve on a SIEPR pension advisory panel, resigned from his position on the panel in protest of the recent study. In a Dec. 25 op-ed published in the Sacramento Bee, Lockyer called SIEPR a “Wall Street-supported think tank” and argued that the assumptions Nation used in the study for investment returns had exaggerated the amount of unfunded liability for pensions.

The SIEPR study, titled, “Pension Math: How California’s Retirement Spending is Squeezing the State Budget,” stated that based on a “more realistic 6.2 percent rate of return,” public pensions were underfunded by $290.6 billion, or $24,000 per California household. The report also calculated the amount of unfunded liability using different assumptions for investment returns: pensions were underfunded by $498 billion using a 4.5 percent “risk-free” rate, and by $142.6 billion using a 7.5 to 7.75 percent rate.

In a Dec. 16 op-ed published in the Sacramento Bee, Nation said that the study used a 6.2 percent rate of return because it is the “long-term historical average for investors allocating capital in the same manner as pension funds.”

Lockyer, however, noted in his op-ed that over the past 20 years, CalSTRS’ annual average rate of return has been 8.1 percent, and UCRP’s annual average has been 8.97 percent. He said that Nation had used a “‘black box’ portfolio to cook up different numbers that serve his purpose” and called the result “beyond reproach.”

Nation, who has previously served as Democratic state assemblyman, disagreed in his op-ed, calling Lockyer’s insistence on a higher assumption for investment returns “precisely the reason that pension systems find themselves in poor shape today.”

“Had they assumed lower, more realistic returns in the past, increased contributions would have improved their funded positions today,” Nation wrote.
Nation also argued that CalPERS and CalSTRS would need to earn an average rate of return of more than 12 percent in order to ensure that these pension systems were fully funded.

“That level of long-term return is Bernie Madoff territory,” Nation wrote.

While admitting that that the current system for public pensions is “too expensive and politically unsustainable,” Lockyer disagreed with the study’s conclusion that benefits for current government employees should be mandatorily reduced. He added that the state should find ways to entice current workers to move voluntarily to a plan that would save taxpayers’ money instead.

“Government doesn’t get to break its promises to workers who earn their pay and benefits,” Lockyer wrote, calling the action “unconstitutional” and comparing it to the state refusing to pay interest to its bondholders.

California Governor Jerry Brown has recently been defending a plan for pension reform that was initially proposed in October, which would raise the retirement age for future government employees from 55 to 67 and partially enroll workers in a 401(k)-style plan.

The SIEPR study concluded that “Brown’s reform plan is a needed step in the right direction” but that it is “likely to reduce the unfunded shortfall by a small amount” and “additional reforms are required,” according to a press release.

This report was the first in a three-part series on pensions. The second report, which was published on Dec. 14, concerned San Jose’s federated and safety pension systems, similarly finding them underfunded. The third report, on independent pension systems, was originally scheduled to be published on Dec. 15, according to the press release. However, according to the SIEPR website, the release of this study has been delayed until “early- to mid-January” to include “detailed visualizations.”