Archive for October, 2009

Battle over costly pension rule proposal

October 30, 2009

SANTA CLARA — A CalPERS federal lobbyist sees progress in a battle to prevent an accounting change that would cause public pensions to begin using a key private-sector pension rule, probably driving up costs for state and local governments.

“I won’t say that the fight is over because the proponents of ‘market-value liability’ are still out there, but I think we have made a lot of progress,” Tom Lussier told a workshop at a CalPERS educational forum here this week.

A 25-year-old organization, the Governmental Accounting Standards Board, shook up state and local governments five years ago by directing that the future unfunded debt for retiree health care be calculated and reported.

In California, most government agencies have not set aside money for health care promised current workers when they retire. A governor’s commission last year made the first estimate of the total unfunded debt: $118 billion over the next 30 years.

Now GASB has begun a routine “re-examination” of the accounting rules for public employee pension systems. One of the questions put out for comment is about the method used to determine the present cost of future benefits.

Public pensions use their assumed annual earnings, 7.75 percent a year in the case of a CalPERS portfolio that includes stocks and a wide range of investments. GASB asked about switching to the method required for corporate pensions.

It’s called the “risk free” or “market value” method because it’s based on interest rates and bonds, rather than unpredictable stocks and other investments. But the assumed yield from risk-free bonds is likely to be lower.

So, if the public pensions switched to the “market value” method, the accounting change could force an increase, perhaps a big one, in the annual pension contributions from government agencies.

The GASB question reflects one of the central issues currently facing public pensions: Are their average investment earnings projected for the decades ahead, usually about 8 percent, overly optimistic?

Gov. Arnold Schwarzenegger’s pension advisor, David Crane, citing investor Warren Buffet and other experts, is among those who think that pension fund earnings will fall well short of their target.

The view that the earnings assumed by CalPERS are unrealistic was the main rationale for the governor’s proposal last June to cut retirement benefits for new state employees.

The chairman of BlackRock, one of the world’s largest money managers, told the CalPERS board last July that the pension fund is unlikely to hit its earnings target of 7.75 percent and suggested a cut in benefits.

“I think it’s going to be subpar for many years,” said Laurence Fink, the BlackRock chief, as quoted by Reuters news service.

The CalPERS lobbyist, who works in the political arena, put the proposed accounting change in the context of the debate about “defined benefit” monthly pensions versus “defined contribution” 401(k)-style individual investment plans.

Lussier said “outside forces” are pushing the accounting change to make the condition of public pensions seem worse than they actually are.

“Not because they are concerned about the reporting,” he said, “but because they want to create an evironment where policymakers will believe they (public pension funds) are unsustainable.”

Lussier said leading actuaries, public retirement systems, labor unions and others have made strong arguments that the accounting change is not a simple question and could have harmful unintended consequences.

“What looked like it was a fast train running to completion has really now been slowed down,” he said.

An invitation to comment on the GASB questions drew responses from alarmed government officials and public retirement systems.

A letter signed by 27 state treasurers, including California’s Bill Lockyer, said that the accounting change could overstate current pension costs and understate future costs, unfairly spreading the burden among generations.

The method based on earnings allows pension costs to be “smoothed” over several years. But annual costs under a “risk free” method would move with interest rates, allowing big swings from year to year.

“This volatility serves no useful purpose in a public pension plan and can wreak havoc on public pension plan sponsors’ budget process,” said the letter from the state treasurers.

A letter from 61 public pension funds, signed by officials from the California Public Employees Retirement System and the California State Teachers Retirement System, cited a comparison that described the volatility problem.

The annual contributions under the “market value” method ranged from 3 percent of payroll in the 1980s (when interest rates were 14 percent) to 40 percent of payroll earlier in this decade (when interest was 4 percent).

In contrast, said the letter, the study found that contributions during the period from 1978 to 2008 under the earnings-based method used by pension funds ranged from 8 percent to 14 percent of payroll.

A letter from a California organization representing 20 county retirement systems said the “risk-free” corporate method is unneeded for government agencies that face little possibility of merger, acquisition or termination.

“This approach will result in higher contribution rates by both the plan sponsor and the participants in order to make up the shortfall of lower investment returns,” said the State Assocation of County Retirement Systems.

In addition to opposition arguments, a National Association of State Retirement Administrators white paper last year listed some of the arguments for switching to the “market value” method:

Reduce the temptation of policymakers to increase benefits, reduce the possibility that costs will be passed to future generations, simplify comparisons between pension plans, stabilize funding levels, and increase the transparency of public pension risks.

The seven-member GASB, which includes Californians William Holder and David Sundstrom, held hearings in August on the discussion document that drew the comments.

A GASB spokeswoman, Christine Klimek, said via e-mail “the current technical plan anticipates the issuance of a due process document in June 2010,” a step usually followed by more public hearings.

Reporter Ed Mendel covered the Capitol in Sacramento for nearly three decades, most recently for the San Diego Union-Tribune. More stories are at http://calpensions.com/ Posted 30 Oct 09


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