Pension debt bill: new drive toward 401(k)s

IRVINE–The author of a bill in Congress that would result in public pensions reporting much larger debts expects the same outcome as his opponents — a move to switch to the 401(k)-style individual investment plans now common in the private sector.

As U.S. Rep. Devin Nunes, R-Visalia, spoke to local government officials last week at a pension “boot camp” held by reformers, he said the federal action could spark action by “folks on the ground” in the states.

A week earlier the CalSTRS federal lobbyist, John Stanton, told the board that one observer said the Nunes bill is “providing air cover for the troops on the ground in the states” as they push for a switch to 401(k)s and attack public employee unions.

Nunes and other critics contend that public pension funds conceal the size of their taxpayer-backed debt by using an overly optimistic forecast of future pension fund earnings, 7.5 to 7.75 percent a year for the three California state funds.

Some economists argue that the proper way to report debt is to assume that the investment fund will earn the “risk-free” government bond rate to offset or “discount” future obligations.

A report by Stanford graduate students last year shows what happens when a government bond rate, 4.1 percent, is used rather than the pension fund’s forecast of earnings from a diversified portfolio with stocks, bonds and other investments.

The “unfunded liability” or shortfall of the California State Teachers Retirement System, the California Public Employees Retirement System and the UC Retirement Plan ballooned from a reported $55 billion (before the stock market crash) to $500 billion.

The Nunes bill, HR 567, would require pension funds to report debt with a discount rate based on U.S. Treasury bonds along with their regular plan for handling debt.

If the debt using a lower discount rate is not reported, the state could not issue bonds that are exempt from federal taxes. The bill also would ban federal bailouts of state and local public pensions.

Nunes said the “unions who are running those plans” oppose the “apples to apples” comparison of debt with a risk-free discount rate, which would reveal that the “emperor has no clothes” and that many of the plans are in trouble.

“So what this will only set up, what the folks in the private sector have figured out a long time ago, was that you have to get away from the defined benefit plan (pensions) and somehow get to a defined contribution (401(k)-style plan),” Nunes said through an audio hookup.

“That’s not the federal government’s decision to make,” he said. “It’s up to you folks on the ground in local government.”

Rep. Nunes speaks to pension "boot camp"

Critics say the 401(k) was intended to be a supplement, part of the “three-legged stool” of pensions, investments and Social Security. When stock markets dip or crash, workers nearing retirement have little time for their investment funds to recover.

“Retiring Boomers Find 401(k) Plans Fall Short,” said a Wall Street Journal story Saturday. A study said the median household headed by a person age 60 to 62 with a 401(k) has less than a quarter of what is needed to maintain their standard of living in retirement.

But for the employer, a 401(k)-style plan has the major advantage of not creating debt like a guaranteed monthly pension, a cost spanning decades. Instead the employer makes an annual contribution to an employee’s tax-deferred investment plan.

Unlike pension plans that expect to get two-thirds of their revenue from investment earnings, a 401(k) does not make the employer vulnerable to stock market crashes or the temptation to cut contributions and increase pensions when the market is booming.

All three of the state pension plans increased pensions and cut contributions during good times. Now after the stock market crash, their costs are projected to increase at what some think is an “unsustainable” rate, even if they meet their earning forecasts.

Most but not all of the state worker union members in CalPERS have agreed to increase employee contributions and give new hires lower pensions. UC Regents adopted a similar long-range plan to cut pension costs.

The outlier is CalSTRS, which unlike the other two state systems lacks the power to raise contribution rates, needing legislation instead. As of June 2009, CalSTRS was 78 percent funded and needed a $3.8 billion annual contribution increase to be fully funded.

The CalSTRS response so far has been a legal analysis that teacher contributions can’t be increased, without providing a benefit of equal value, and a $600,000 public affairs contract to push for higher contributions from school districts or the state.

The CalSTRS federal lobbyist, Stanton, told the board on Feb. 11 that public pensions face increased scrutiny from Congress, the Securities and Exchange Commission, and the Internal Revenue Service.

He said a “carefully orchestrated and well-financed attack on public plans” is being led by Grover Norquist of Americans for Tax Reform and “think tanks of negotiable virtue.”

Stanton said they are “peddling fright about the supposed imminent insolvency of public plans” with the aim of promoting 401(k)-style plans and attacking public employee unions, a major source of campaign funds against Republican congressional candidates.

“The public plan community is actively working on the hill (Congress),” he said. “It’s really going to require a grass-roots effort, I think, by all of your peer plans to contact their members of Congress and say:

“‘OK, don’t believe what you read in the newspapers. We are not in crisis. We are taking steps to deal with it. We are on the rebound. We don’t need sort of a one-size-fits-all federal solution.’”

Stanton said the peddlers of fright “rely on the work” of Joshua Ruah of Northwestern, a pioneer in the use of a risk-free discount rate to determine pension debt who estimates that 11 state pension funds could run out of money by 2022.

A liberal economist, Dean Baker of the Center for Economic and Policy Research, said in a paper this month that a risk-free discount rate is not needed for government plans with a long time horizon and little worry about the timing of market fluctuations.

But a risk-free rate is getting traction with the Governmental Accounting Standards Board, which is proposing that a risk-free rate be used for any part of pension debt not covered by using the earnings forecast for the fund’s assets.

A supporter of public pensions, Alicia Munnell at the Center for Retirement Research at Boston College, said in a paper last June that a risk-free rate is appropriate for public pensions, because their taxpayer-backed guarantee makes them risk free.

After the Stanford report showing a $500 billion shortfall for state pension funds was issued last April, Jack Ehnes, the CalSTRS chief executive officer, told the board, “Unfortunately, I think most people would give this a letter grade of ‘F’ for quality.”

One of former Gov. Arnold Schwarzenegger’s last-minute appointments to the CalSTRS board on Dec. 30 is Cameron Percy, 26, a co-author of the Stanford report. He did not speak during a lengthy board discussion of the Nunes bill.

Reporter Ed Mendel covered the Capitol in Sacramento for nearly three decades, most recently for the San Diego Union-Tribune. More stories are at Posted 21 Feb 11

17 Responses to “Pension debt bill: new drive toward 401(k)s”

  1. Whinenot Says:

    I heard the GASB looked at the idea of calculating liability using “risk free” rates but decided against using that low rate for assets invested toward payment of liabilities. So conservative accountants decided that “risk free” concept would lead to overstating liabilities. However, they did move to require using a low rate of return for liabilities that are not covered by invested assets. So if the group setting the accounting standards has looked at, and rejected, the concept proposed by some graduate students, why are you still banging the drum in support of this flawed concept?

  2. john moore Says:

    Each city and county should look at its’ unique situation. Here in Pacific Grove a recent Calpers generated report shows that Pacific Groves pension plans(Misc. & safety)should have 100 million to be fully funded,but have lost 51 million since 2001. So PG is much worse off than most,but can you imagine what the city of Bell has for a pension deficit. Basically, based on the info out there,the more corrupt and stupid the past city managers and city attys,the higher the unfunded deficits.Articles like this,imply that the pension crisis is not here,but in cities like PG,Calpers has already buried it. By that,I mean that the deficit is so large that if PG eliminated pensions going forward,services must be cut and cut again,and within a decade or so,PG will not be able to pay full retiree pensions promised. Neighbors,like Monterey and Seaside are in denial. By this,I mean they don’t know, and don’t want to know, the size of their pension deficits. The recent news that Calpers earned only 12.2%,while the Dow and Nasdaq recovered 95% is the worst news of all.Most 401ks’ recouped most losses,but Calpers recovered only 4.45% above its’ investment rate,which was off-set by the imputed loss of 7.75% on its’ unfunded deficit,for a draw. What it means is that there is no hope for Calpers,just like Ron Seeling predicted.

  3. Tbone Says:

    Clearly, this 401K concept is another ploy to line the pockets and put more money into Wall Street con-men’s greedy fat hands.

  4. Tough Love Says:

    From what I can see, the biggest BS is coming from the Union “mouthpiece” … CalSTRS federal lobbyist, John Stanton.

    Public Sector Unions are a cancer on Society and should be eliminated.

    Even Wisconsin isn’t going far enough by simply restricting collective bargaining.

  5. SeeSaw Says:

    I hope the public workers of Wisconsin hold their own and refuse to give into the Governor of Wisconsin, who is conducting pay back to the specific unions that did not endorse him in the election. Certain public safety unions did endorse him, and he has no plans to take their collective bargaining rights away. Enacting higher share/costs of pensions is one thing–the employees have accepted that. Taking away collective bargaining rights is un-American, and such union busting tactics should not be allowed to stand!

  6. Doug Says:

    Fitch Ratings, which establishes ratings for municipal debt, just announced last week that they would be using a 7% assumption rate when evaluating pension plans.

    They also said that they would consider any plan, under that rate, which has a 70% or more funded status to be in good shape. Plans under 60% would be “weak.”

    Seems rather big news that Fitch considered and rejected the “risk free” approach. Can we expect coverage of this in in the future?

  7. Tough Love Says:


    (1) No, it’s not Union payback, it’s following the will of the 85%
    if citizens who aren’t Civil Servants (with their excessive pension and benefits) but are called upon (via their taxes) to pay for 80-90% of it.
    (2) He excluded the cops only because he now needs them to maintain order during the protests. Hopefully, he’ll get to them in short order as there was no logical basis for their exclusion.
    (3) The employees haven’t “accepted” anywhere near what would be sufficient to eliminate their total compensation “advantage” over comparable Private Sector workers.
    (4) Taking away collective bargaining rights is (unfortunately) the only way to beat back the insatiably greedy appetite of Public Sector Unions.

  8. Tough Love Says:

    Doug, I haven’t seen the Fitch announcement, but if true.’m quite amazed. Being well versed in pension plan design and funding, it is patently absurd to consider a Plan that is 70% funded (using a 7% assumption) to be in “good” shape. “Barely marginal” … would be pushing it !

    Just calling a Plan with a funding ratio under 60% “weak”, is comical. By Regulation, a Private Sector Plan with a funding ratio under 60% must freeze further Plan accruals.

  9. Doug Says:

    link to Fitch’s announcement:,1662334.html#

    As to some other points: 70-80% of the money in public pension plans comes from investment earnings, not contributions. Thus, be definition, “80-90%” of a pension does not come from the public.

    The Wall Street Journal had a good article this past week summarizing the real retirement disaster in this country, known as the 401k plan. More and more Americans are belatedly realizing that this so called retirement plan in fact will never provide a secure retirement. From market risk to longevity risk, it is clear 401k are about the worst way to ever provide for a retirement.

  10. john moore Says:

    401ks are a disaster because they are rigged to favor mutual funds of the most mediocre type. On the other hand,I invested in an IRA for over 40 years and stayed even with DB plans without the huge losses heaped on cities and counties. The Ca. problem is Calpers. It is a government sponsored entity which substitutes legislation for hard work. If,for example,Goldman-Sachs,which plays the market both ways,had been managing Calpers investments the past ten years,based on its’ results, Ca. DB plans would be in great shape. A political entity like Calpers was ok when it could only bet on bonds,but with 3@50 it became so aggressive,without hedging,that it blew up.It is the Fannie-Freddie of pension funds. My point is that pension reform should begin by canning Calpers and hiring Goldman-Sachs. The fact that Congress hates them is the highest recommendation. I know,I know,it won’t happen,but compare the results.

  11. Tough Love Says:

    Quoting Doug … “As to some other points: 70-80% of the money in public pension plans comes from investment earnings, not contributions. Thus, be definition, “80-90%” of a pension does not come from the public.”

    First, it’s clear you are a Civil Servant benefiting from the current excesses in pension and benefits, but to respond, anyone who has even a minimal understanding of finance and economics knows that this is nonsense….. investment income is not and has never been a “source” of funds that pay for your pension.

    The are only 2 original sources of contributions, the employees, and the employer (meaning taxpayers). Investment income is a consequence of these contribution and would not exist in the absence of the contributions.

    In almost ALL Public sector Plan, the ratio of Taxpayer contributions to employee contributions is from 5 to 1, to 10 to 1. Had the TAXPAYERS not been forced to make these contributions (to fund pensions with grossly excessive benefits), the investment income would have stayed in the taxpayers’ pockets.

    So, go back to your Union, and tell them this BS isn’t working any more and they’ll need to find something else to continue with their misinformation campaign.

  12. Tough Love Says:

    Doug, THIS is the GUTS of the issue:

    Private sector employers typically contribute 3%-8% of an employee’s cash pay towards retirement, yet the total cost (expressed as a level annual % of cash pay throughout one’s career) of Public Sector Defined Benefit pensions (for a 30-year employee retiring at age 55) ranges from 29% to 58% depending on the richness of the benefit formula (with safety workers generally at the highest end).

    More specifically, for the noted formulas, the level annual %s of cash pay are as follows:
    2% per year of service w/o COLA – 29%
    2% per year of service with COLA – 39%
    3% per year of service w/o COLA – 44%
    3% per year of service with COLA – 58%

    Even after deducting the typical employee contribution of about 5% of pay, that still leaves the employer (meaning TAXPAYERS) contributing 24% to 53% of pay. The middle of these %s is 38.5% vs 5.5% (the middle of the range of what Private Sector employers contribute) or SEVEN (yes SEVEN) times greater.

    This is completely absurd, and the very modest “tweaking” at the edges by practically begging employees for a few more percent of pay contributions will NOT even begin solve the HUGE financial problem.

    TOTAL COMPENSATION (Cash Pay plus Pensions plus Benefits) should be comparable in the Public and Private Sectors for similar jobs, and with Cash Pay in the Public Sector now AT LEAST equal to (if not greater) than that in the Private Sector, there is ZERO justification for greater Public Sector Pensions and Benefits .

    Not for PAST service, but for FUTURE service, Public Sector pension accruals must immediately be brought FULLY down to the level of their Private Sector counterparts. Due to the huge reduction needed, the ONLY way to do this is to freeze the current defined benefit plans for CURRENT (yes CURRENT) workers, and switch everyone into a 401K-style Defined Contribution Plan with an employer contribution in the same 3%-8% range granted Private Sector workers.

    Additionally, since Private Sector retirees rarely get any retiree healthcare subsidy before eligibility for Medicare at age 65, similar restrictions should apply to Public Sector retirees.

    It’s TAXPAYERS’ money and Civil Servants are NOT more worthy of bigger pensions and better benefits.

  13. SeeSaw Says:

    More power to you John–I salute you, and give you my best wishes for continued success in managing and being so successful with your personal finances.

    A world where every individual would solely responsible and successful for their respective sustainability, is a dream world. I wish it were not.

    Your idea that CalPERS should be ditched, and all the money given to Golden Sachs is absurd. GS would just take all that money and chop it into bonuses for its CEO’s.

    Former CalPERS actuary Seeling never said that there is no hope for CalPERS. He said that CalPERS was bordering on unsustainability, unless something were done, to make it so. Seeling introduced the CalPERS smoothing policy. I am sure he is enjoying the fruits of his CalPERS pension right now.

  14. john moore Says:

    Seeling said that because of a lack of assets,Calpers rates would go as high as 50% of salary for decades. I read that as a derogation of “smoothing” which allow cities to run deficits instead of paying up. As to Goldman-Sachs,what I said is compare its’ returns on a like amount of assets with Calpers. As to bonuses,its their money. At least it is paid out of investment earnings,not tax payers money. Yes I know,Calpers is to make 4$ for every dollar of rate collections. Two problems: First that is way too much leverage,and Second,since 3@50,it hasn’t come close. Last year,with the market up 95%, Calpers earned 12.2%,4.45 % over its investment rate. But by its’ number,its’ 80 billion deficit accrued an actuarial deficit of 7.75%. So it was about a draw. But,the market was up 95%. This is the worst possible news for Calpers and younger public employees. I expected that when the market came back,cities would gain back at least 70% of deficits,but a draw. Now what?

  15. Doug Says:

    “anyone who has even a minimal understanding of finance and economics knows that this is nonsense….. investment income is not and has never been a “source” of funds that pay for your pension.

    The are only 2 original sources of contributions, the employees, and the employer (meaning taxpayers). Investment income is a consequence of these contribution and would not exist in the absence of the contributions. ”

    The illogic of these statements are both breathtaking and fascinating.

    The money that exists in defined benefit plans to pay pensions–ie “the source of funds”—is 70-80% from investment returns. That is reality, it is what pays the pension benefits month in and month out.

    “Had the TAXPAYERS not been forced to make these contributions (to fund pensions with grossly excessive benefits), the investment income would have stayed in the taxpayers’ pockets.”

    Huh? The “investment income” derived from investing contributions would have stayed in the taxpayers pockets?? I am fascinated to learn the explanation for how the contributions that multiplied by pension funding investing would, in absence of the investment, “stayed in taxpayers pockets. The thinking behind such an idea is truly absurd, defying any sort of logic.

  16. Tough Love Says:

    Doug, if you’re not just pretending to be as “thick” as you appear, I truely feel sorry for you.

  17. Bruce Ross Says:

    It’s hard to understand how the risk-free rate is an effective management tool. Nobody invests long-term money based on it.

    Aren’t newer CalSTRS numbers out? If it was 78 percent funded near the market’s trough in June of 2009, I’d imagine — just looking at the charts — that it’s pretty close to even now, no?

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