Illinois pension crisis: could it happen here?

Illinois state pension systems are the worst-funded in the nation — called a “crisis” by the governor, “unfixable” by a Chicago business group — and they share a problem with CalSTRS: years of deliberate underfunding.

A website unveiled by Illinois Gov. Pat Quinn last month, featuring a cartoon “Squeezy the pension python” crushing the Capitol, says state pension costs tripled in five years and are projected to exceed state spending on K-12 schools by 2016.

A video on the website by Salman Khan, an online educator, explains that growing pension costs are squeezing the money available for schools, public safety and health care.

Like other pension funds, the five Illinois state pension funds were hit by big investment losses during the decade. But what sets Illinois apart, with a funding level that fell to 38 percent, is the failure to make actuarially required contributions.

“The funding crisis is the result of the deliberate underfunding of pensions year after year, a practice as old as the pension funds themselves, dating back to the creation of the first pension fund: the Teachers’ Retirement System in 1939,” says the governor’s website.

Most California public pensions get actuarially required contributions. Unlike Illinois, nearly all of the retirement systems here have the power to set annual rates calculated by actuaries that must be paid by state and local government employers.

(The bankrupt city of San Bernardino stopped making payments to the pension fund. The California Public Employees Retirement System is asking a federal court to find the city ineligible for bankruptcy and a state court to force payment.)

Moreover, a labor-backed initiative, Proposition 162 in 1992, requires pension boards to give top priority to protecting pensions, a change from previous law that gave equal standing to minimizing taxpayer costs.

A notable exception to pension board power is the California State Teachers Retirement System, whose rates are set by the Legislature. For more than five years, the CalSTRS board has been urging the Legislature to raise rates.

Squeezy

But the state has been deep in red ink for most of the last decade and has made major spending cuts. The Legislature has chosen to deliberately underfund CalSTRS, rather than squeeze funding for other programs.

Now actuaries calculate the annual contribution to CalSTRS would have to be increased by two-thirds, about $3 billion a year, to project full funding of pension obligations over the next 30 years.

An increase of that magnitude seems unlikely, even though a voter-approved tax increase last month and a slowly improving economy may be moving the state budget toward the black and a possible surplus if spending is controlled.

The best CalSTRS may hope for is a modest increase phased in over several years, a plan that falls far short of full funding in the standard 30 years but, at a minimum, delays the date the fund is projected to run out of money, now about 2046.

Critics argue that even if the actuarially required contribution is being made, public pension funds are still being seriously underfunded because pension fund earnings forecasts are too optimistic.

Pension funds make forecasts of future revenue and costs to set contribution rates needed to pay for pensions earned during a year. And crucially, two-thirds of the revenue usually is expected from investment earnings, which are difficult to predict.

CalSTRS and CalPERS have both lowered their earnings forecast to 7.5 percent a year, down from 7.75 percent. The largest of the Illinois pension funds, the teachers system, this year lowered its earnings forecast to 8 percent, down from 8.5 percent.

A small drop in the earnings forecast can cause a big increase in the contribution rate. Lowering the CalSTRS forecast from 7.5 to 7 percent would add about $750 million to the additional $3 billion a year needed to project full funding in 30 years.

Although the earnings forecast is the big one, some suspect pensions may be underfunded, even while making actuarially required contributions, by inflating asset values, lengthening periods for paying off debt, delaying rate increases and other means.

CalPERS adopted a policy that spreads gains and losses over 15 years, well beyond the three to five years used by most funds. The aim is to “smooth” contribution rates, avoiding big annual swings as the stock market rises and falls.

The radical smoothing policy is part of the reason that the CalPERS funding level, about 70 percent of assets projected to be needed for full funding in 30 years, is nearly the same as the CalSTRS funding level, 69 percent.

While the CalPERS funding level may have been held down by actuarial policy, the CalSTRS funding level may have been increased by two automatic contribution increases.

A 10-year diversion of a quarter of the teacher contribution (2 percent of pay went into an individual investment fund with a guaranteed return) ended last year. Old legislation is pushing the state contribution from 2 percent of pay to 3.5 percent by 2016.

Neither pension fund has recovered from huge investment losses during the recession. The CalPERS fund peaked at $260 billion in 2007 and was valued at $245 billion last week. CalSTRS peaked at $180 billion and was at $155 billion on Oct. 31.

The CalPERS policy that keeps employer rates low has political overtones. The 15-year smoothing was adopted in 2005 as former Gov. Arnold Schwarzenegger briefly advocated switching new state and local government workers to 401(k)-style plans.

Public pension systems worry about getting swept up in the trend that has private-sector employers switching from pensions to 401(k) individual investment plans to avoid long-term debt.

A structural problem for pensions is that the need for contributions can go up as the ability of employers to pay goes down. A sagging economy that drops investment earnings below the forecast also can reduce tax revenue, straining government budgets.

A CalPERS policy that restrains rate increases in hard times eases the squeeze on government budgets, reducing the need for painful budget cuts. Critics might argue that debt is being pushed into the future and the need for sweeping pension reform concealed.

But whether its prudent or risky policy, CalPERS has the safeguard of being able to raise rates to keep funding moving in the right direction. The red line is fuzzy. The traditional view has been that a funding level of 80 percent is adequate.

One of the three major credit rating agencies, Fitch, said last year that it “generally considers a funded ratio of 70 percent or above to be adequate and less than 60 percent to be weak.”

CalSTRS has the task of persuading the Legislature that a return to good economic times will not yield the investment earnings needed to get its funding level moving up rather than down.

Illinois is an example of what can happen when pensions are deliberately underfunded. An analyst for the nonpartisan Illinois Policy Institute criticized Gov. Quinn for suggesting a “federal bailout” of the state’s pension funds.

The governor’s fiscal year 2012 budget said “significant long-term improvements will come only from additional pension reforms, refinancing the liability and seeking a federal guarantee of the debt.”

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 10 Dec 12

16 Responses to “Illinois pension crisis: could it happen here?”

  1. captain Says:

    “A small drop in the earnings forecast can cause a big increase in the contribution rate. Lowering the CalSTRS forecast from 7.5 to 7 percent would add about $750 million to the additional $3 billion a year needed to project full funding in 30 years.”

    – What would the additional taxpayer burden look like if CalSTRS, or CalPERS, had lowered their assumed rate of return to 1%, just 17 months ago? Most people would consider that a huge problem – on top of a huge problem! AND that is exactly what both pension systems have earned over the past seventeen months – 1%!

    Although the earnings forecast is the big one, some suspect pensions may be underfunded, even while making actuarially required contributions, by inflating asset values, lengthening periods for paying off debt, delaying rate increases and other means.”

    – “some suspect pensions may be underfunded”. NOW there is an understatement. Those some people are the ones that are paying attention. They are the same people that understand CalPERS is one of the most dangerous & crooked organizations that California must deal with.

    “A CalPERS policy that restrains rate increases in hard times eases the squeeze on government budgets, reducing the need for painful budget cuts. Critics might argue that debt is being pushed into the future and the need for sweeping pension reform concealed.”

    But whether its prudent or risky policy, CalPERS has the safeguard of being able to raise rates to keep funding moving in the right direction. The red line is fuzzy. The traditional view has been that a funding level of 80 percent is adequate.”

    – Ed, CalPERS ability to raise rates is nothing more than what is driving the decrease in city/county services, at increased cost, and forcing cities into bankruptcy. While those same cities/counties are using the cash strapped budget excuse to increase fees on everything – especially the special district costs we normally do NOT pay attention to, they’re also pushing for more bonds and parcel taxes. Now, as I’ve just recently discovered, some of the school bonds I’m currently paying on are called something like CAB’s (Capital Appreciation Bonds) which carry three-four times the interest cost of normal bonds while allowing the school district to exceed their $60 per 100K of assesed value threshold ( a scam that 30 states have deemed illegal) which defers our debt into what resembles an extended – extended Balloon Payment with the stability of the Hindengurg.

    “Illinois pension crisis: could it happen here?” – I love this piece. It is already happening! Even if the argument is “we won’t become worse than Illinois because we have better weather” doesn’t mean we aren’t already just as screwed up financially/politically/union domination wise.

  2. spension Says:

    Captain, you lost me when you refer to CalPERS as dangerous and crooked.

    Seems to me the overly generous pensions were voted in by duly elected officials. The buck stops with the voters who did the electing. That is the nature of democracy.

    Also seems to me that the financial predictions that the (innumerate) elected officials relied upon were clearly faulty, which is why we are in the deep mess we are in.

    Those predictions were faulty primarily because of ignorance among the various financial experts who have now been shown to have been flat wrong. Yet we go on trusting them, and indeed, paying them very high salaries.

    In the end I’m in favor of lowering pension payouts to all public employees and pensioners… also to state bondholders and lenders to the state. Spread the grief around to everybody for the vast miscalculations of our so-called experts.

    Maybe that will prevent a next time.

  3. jskdn Says:

    I don’t understand why any level of unfunded pension liabilities should be considered ok. Nor do I understand how CalStrs can deal with its current $65 billion or so in unfunded liabilities with $3 billion a year, an amount that seems far short of what’s necessary, yet which is never the less more than the state will commit to the problem. Doesn’t the amount of pension funds assets needed to pay the existing pension liabilities, whether they are there or not, need to earn whatever discount rate is used to calculate the actuarial obligations? Look at the “Amortization of Unfunded Actuarial Obligation” table on page 44 in this CalStrs document:

    http://www.calstrs.com/Help/forms_publications/printed/db_valuation_2011.pdf

    It seems to show an annual 7.5% annual interest cost on the compounding unfunded pension liabilities in what appear to be a 30-year negative amortization schedule ending with over a half trillion dollars in unfunded liabilities. And that amount of debt is simply a function of what’s done with the unfunded liabilities as of last June, without regard to how the assets CalStrs does have perform, or whether newly accruing pension obligations are adequately funded.

    If I’m wrong about how I’m thinking about this, I wish someone would please explain why. I want to have an accurate understand of what citizens of this state are facing.

  4. Tough Love Says:

    All this talk of “funding” …..

    Back up one step to the ROOT CAUSE of the problem … Grossly Excessive pension promises, the Taxpayer paid-for share of which is ROUTINELY 2-4 times (5-6 times for safety workers) greater in value at retirement that the pension of a similarly situated Private Sector worker.

    With Public Sector workers earning no less in “cash pay”, there is ZERO justification for ANY greater pensions let alone ones that are MULTIPLES greater in value.

    Of course these promised pensions are impossible to “fund”, BECAUSE they are WAY WAY WAY too generous and therefore VERY VERY expensive.

    ANY Solution requires a reduction in the promised pensions ….. and for CURRENT, not just new workers.

  5. City Employee Says:

    I’m making $25000 per year less in “cash pay” so don’t give me this ZERO justification crap.

  6. Tough Love Says:

    To City Employee, Perhaps you are the exception but over all it ‘s not true, per the US Gov’t BLS., although the BLS did say that cash pay is somewhat higher in certain high-level professional occupations in the Private Sector (e.g., Doctors, Lawyers).

    From the complaints of Public Sector IT workers, you think 5-Star companies like Google would be banging down he doors with offers if only they would apply.

    Really ? The risk-taking, entrepreneurial mindset of the workers Google looks to hire is the antithesis of the 9AM to 4:30PM zero risk mindset that typifies Public Sector workers.

  7. SeeSaw Says:

    Who in the public sector works 9 am to 4:30 p.m.–those are Bankers’ hours–private sector. I worked ten hour days, 4 days/week and lots of unpaid overtime.

  8. captain Says:

    “spension Says: Captain, you lost me when you refer to CalPERS as dangerous and crooked.

    Seems to me the overly generous pensions were voted in by duly elected officials. The buck stops with the voters who did the electing. That is the nature of democracy.”

    Spension, if you haven’t figured it out by now you never will, or you prefer to look the other way. I left you a message on last weeks thread:

    ““The diminished pensions may affect recruitment of some already hard-to-entice professionals, such as lawyers, who earn more in the private sector.

    Other jobs more accessible to the public probably won’t be affected. The Highway Patrol anticipates 60,000 online applicants next month for its cadet academy. Caltrans’ highway maintenance worker eligibility list has 20,000 names.”

    To put that excerpt into context, and to view my entire comment including the link to the above statement, you can go here:

    http://calpensions.com/2012/12/03/reform-ends-market-pressure-to-boost-pensions/

    and here: http://www.sacbee.com/2012/12/06/5034572/the-state-worker-pension-benefits.html#storylink=cpy

    I stand by my statement that CalPERS is both dangerous & crooked!

  9. captain Says:

    jskdn Says: ” Look at the “Amortization of Unfunded Actuarial Obligation” table on page 44 in this CalStrs document:

    http://www.calstrs.com/Help/forms_publications/printed/db_valuation_2011.pdf

    It seems to show an annual 7.5% annual interest cost on the compounding unfunded pension liabilities in what appear to be a 30-year negative amortization schedule ending with over a half trillion dollars in unfunded liabilities. And that amount of debt is simply a function of what’s done with the unfunded liabilities as of last June, without regard to how the assets CalStrs does have perform, or whether newly accruing pension obligations are adequately funded.

    If I’m wrong about how I’m thinking about this, I wish someone would please explain why. I want to have an accurate understand of what citizens of this state are facing.”

    You’re not wrong – you’re right. Both CalPERS and CalSTRS are creating what will amount to, as what’s known as, a financial BUBBLE that will eventually POP. In the case of CalSTRS the increased pension costs will weigh heavy on already financially strapped school districts. That, in turn, will help to accelerate the downward spiral of our educational system, at the hands of the Teachers Unions, because they are fighting for more tax dollars to fund wage increases at the same time they’re also asking for more tax dollars to fund their failing pension system (while they’re also taking money from their own pension fund to pay an additional 400 per month for longevity bonus payments – on top of their pensions).

  10. SeeSaw Says:

    Unfortunately, a non-subscriber may not view articles on the Sacbee website, unless he/she is willing to pay $6.95/mo. for the priviledge.

    You must have had a dispute with CalPERS in the past–what else could engender such statements as, “dangerous and crooked”, with no concrete details–just opinions–not facts.

  11. jskdn Says:

    “You’re not wrong – you’re right”

    But if I am right, I don’t understand why those who fashion themselves as journalists could not been writing about the how unfunded pension liabilities work. How could this be something citizens wouldn’t need to know? Not reading about it in pension reporting makes me question whether my understanding is correct.

  12. fwduptimeman Says:

    As I live in IL I need to make a few points. IL has a Govt spending crisis of gigantic proportions.
    Pat Quinn became our Gov. in 2010 by a margin of 38,000 votes out of 6,000,000 votes cast which was a margin of .0063 %, there was NO RECOUNT allowed, D’s own ALL state GOVT and make ALL political decisions. Nothing is ever voted on in state unless Speaker Madigan wants it to pass, NOTHING.
    Out of 102 counties D’s won in 3 counties and and R’s won in all the other 99 counties.
    Pre-election Pat Quinn promised ALL state employees there would be NO layoffs and NO changes to their benefits. Hence state employees voted in droves for Quinn. Quinn wanted and got a 67% state TEMPORARY income tax TO BRING IN $6 BILLION TO PAY STATE BILLS.
    Since D’s control state spending and controls everything else with a clenched IRON fist what D’s want they GET and what R’s want does NOT even get OUT of committee.
    We just found out the other day that THE 67% INCREASE in state income tax actually brought in $10 BILLION a whopping 70% MORE than they estimated, and true to form they gave it ALL, 100% to the IL retirement system and did not pay a single bill.
    Now there are rumors IL wants to make this 67% increase a permanent new tax.
    Also Speaker Madigan wants to OFF load IL teachers pensions on the local towns that are REELING under the MASSIVE property taxes. I pay $4300 a year for A 1200 SQ FOOT HOUSE in Cook county. The IL teacher pension plan was conceived and carried to huge extremes by Dems LED by speaker Madigan. In my area it is not unusual for teachers to retire with $100,000 + (I personally know 6 who have done that, 3 for $119,000) pensions plus very cheap health plans. High school superintendents retire at $300,000 or MORE per year.
    The IL retirement system for university professors is a huge gravy train. The highest retirement is $430,000 PER YEAR to a man named Gupta and 1000s are getting $200,000 or more each year, + a automatic raise of 4% each year, which translates for the $430,000 man above is over $12,000 which is MORE than the average SS yearly income for Americans.
    Since I do NOT have a FAT pension and SS and medicare keeps me alive I’m annoyed at all these fat cats I am still paying for.
    One last thing: RETIREMENT IS NOT TAXED IN IL SO THESE MONSTER PENSIONS ARE IL TAX FREE.
    The $430,00 man does not have to pay to IL $21,500 in taxes which is almost a drop in the bucket to him.
    Speaker Madigan will not even allowing a deduction on retirement $, say 1st $75,000 is NOT taxable but anything over IS taxable. HIS retirement is coming up, he has been in total control for 35 years +, just asking if this has any bearing on what he will pay at retirement.

  13. spension Says:

    I think CalPERS made substantial numerical mistakes, and like all corporate entities, cannot admit that they did. Looks like CalSTRS too, although their pensions are considerable lower than CalPERS’.

    Inability to admit mistakes isn’t criminal…. if so, every corporate entity in the US would be criminal. Not admitting mistakes is universal in US institutions.

    Dangerous? You bet.

  14. captain Says:

    spension Says: “I think CalPERS made substantial numerical mistakes, and like all corporate entities, cannot admit that they did. Looks like CalSTRS too, although their pensions are considerable lower than CalPERS’.

    Inability to admit mistakes isn’t criminal…. if so, every corporate entity in the US would be criminal. Not admitting mistakes is universal in US institutions.

    Dangerous? You bet.”

    Dangerous is absolutely right and criminal should be a part of the discussion. How you equate corporate mistakes verse what CalPERS & CalSTRS are getting away with (mistakes- really) is beyond me. Failing Public Pension Funds verse failing Corporation are two very different animals. I hope you understand the difference.

  15. spension Says:

    Yes, I understand. I corporate leader seizing $10 billion, including considerable pension assets, via various byzantine maneuvers that leave a company bankrupt, is not a crime and the greed is much admired in the UC.

    Putting the state pension system $200 billion in debt because you are ignorant that the US once had a great depression and don’t understand that the long-term average equity gains are not reliable on a 40-year time scale (but are on a 100-year time scale) is not a crime but doing anything in the public sector is condemned and badmouthed in the US.

    Both are dangerous. Neither are criminal.

    Oh, I forgot, private executives crashing the economy and getting several trillion $ in taxpayer bailouts and tens of trillions $ in long term taxpayer guarantees is not a crime, and is widely admired on Wall Street.

  16. spension Says:

    Whoops… `A corporate leader’… `is not a criminal’…. `much admired in the US’

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