PA Pension Reform Presentation

8/7/2019 PA Pension Reform Presentation

1/21

Public Pensions & PoliticsReforming an Unsustainable System andManaging Generational Theft

Richard C. DreyfussBusiness Consultant and Actuary

Senior Fellow - The Commonwealth Foundation

Pennsylvania Business Council Education FoundationPennsylvania Competitiveness Council

Public Policy Seminar

May 3, 2011Camp Hill, PA


2/21

Managing Pension Liabilities

2

The Public Pension CrisisAugust 18, 2006; Page A14

the fundamental problem is that publicpensions are inherently political institutions.

the current public pension system simplyisn't sustainable in the long run.


3/21

Three Factors Drive the PoliticalInstitution of Public Pensions

1.Poor Benchmarking

2.Poor Risk Management Practices

3.Politics

3


4/21

#1 Poor Benchmarking

Pennsylvania public pay and benefits aretypically benchmarked only within the publicsector rather than the entire PA marketplace

Market trends in the private sector are directlyrelevant to the public sector

2010 Hewitt Survey: only 11 of 33 major PAemployers sponsor defined benefit plans All sponsor 401(k) plans with an average employer match of 72

cents per dollar and an average matched employee contributionof 5.4 percent of pay.

4


5/21

Towers Watson Survey

Average DC Employer Cost - 5.77%http://www.towerswatson.com/united-states/research/2106

1998 1999 2000 2001 2002 2003 2004 2005 2006 2007 2008 2009 2010

Traditional DB Plans 67 61 60 55 48 42 40 39 36 30 22 20 17

Hybrid DB Plans 7 13 14 18 24 30 30 29 25 23 26 25 26

DC Plans 26 26 26 27 28 28 30 32 39 47 52 55 58

0%

10%

20%

30%

40%

50%

60%

70%

80%

90%

100%

Fortune 100 Companies - Trends in Retirement Plans

Traditional DB Plans

Hybrid DB Plans

DC Plans

5


6/21

#2 Poor Risk Management Practices

Few absolute metrics defining the affordability or

reasonableness of pension costs given the perpetuallife of the government entity.

Entire defined-benefit (DB) funding system is based

upon annual investment assumption in the 8% range.

Little consistency in funding assumptions and fundingmethods making comparisons most difficult.

The Federal Pension Protection Act (PPA) of 2006requires private sector DB plans funding based upon:

Lower interest rate assumptions (an index: currently ~ 6%)

Shorter amortization periods (generally 7 years)

6


7/21

None of the state retirement systems studied byWilshire Associates will be able to meet its actuarialassumed rates of return over the next 10 years.(Includes PSERS and SERS)

Among 126 systems studied, the median plan willreturn an estimated annualized 6.5% on assets overthe next 10 years, 1.5 percentage points short of the

median actuarial long-term assumed rate of 8%.

Milliman's annual pensions study shows the averageequity allocation has fallen more than 15% over thepast three years.

7

.2011 Wilshire Report on State Retirement Systems

Funding Levels and Asset Allocations


8/21

"Warren Buffett would close down his shop and give hismoney to the city of Orlando" if it could get 8 percent, saysEdward Siedle, a former federal securities lawyer and

president of Benchmark Financial Services in South Florida.

Cities like Orlando have three choices, Siedle says.

1)"They can cut benefits, which is politically unacceptable

2)"They can increase contributions from the employer andemployees, which is politically unacceptable.

3)The third choice is called magic. That's what public pensionfunds across the country are doing, coming up with magic.

Pension Magicin Florida(and elsewhere)

Orlando Sentinel July 7, 2010


9/21

#3 Politics

Pensions as political capital

Pension Fund Surplus = Benefit Improvementsfor Participants

Pension Fund Deficits = Underfunding byTaxpayers

Maintaining or Improving Benefits = High

Political Rate of Return

Reforming and Properly Funding Plans = LowPolitical Rate of Return

9


10/21

In any collaboration between two groups who hold differentbasic principles, it is the more irrational one who wins.

What good is an unprincipled bipartisan reform?

This helps explain the irrational pension legislation of Act 9 (2001) 25%/50% increase in pensions

Act 38 (2002) Retiree pension COLA

Act 40 (2003) Deferring unaffordable costs to 2012 and

beyond Act 44 (2009) City of Philadelphia & Municipal Pension

Non-reform

Act 120 (2010) PSERS & SERS Non-reform(Generational Theft Bill)

10

PA Public Pension Recap


11/21

During the next 30 years all this will be made worse if we:

1. Fail to earn the 8% annual assumed rate-of-return on the assets.

2. Revise the investment assumptions to reflect lower expectations.(March 2011 action by PSERS reduced rate to 7.5% - this willimmediately increase the unfunded liabilities by $3.5B. Act 120savings for PSERS over the next 30 years was estimated at $1.4B)

3. Once again defer scheduled contributions to save money

4. Once again fresh start or re-amortize the unfunded liability

5. Grant retirees an ad-hoc COLA, implement an early retirementincentive or otherwise enhance current or future pension benefits

11

Negative Implications of Act 120Unacceptable Risks, Generational Theft, Non-Reform


12/21

12

0.00%

5.00%

10.00%

15.00%

20.00%

25.00%

30.00%

35.00%

2011

2012

2013

2014

2015

2016

2017

2018

2019

2020

2021

2022

2023

2024

2025

2026

2027

2028

2029

2030

2031

2032

2033

2034

2035

2036

2037

2038

2039

2040

2041

2042

2043

2044

Prior Law

Act 120

HB 2497 Projection of PSERS TaxpayerContribution as Percentage of Payroll

(in FYE 2011, 1% pay =~$135M)


13/21

50%

55%

60%

65%

70%

75%

80%

85%

90%

95%

100%

2011

2012

2013

2014

2015

2016

2017

2018

2019

2020

2021

2022

2023

2024

2025

2026

2027

2028

2029

2030

2031

2032

2033

2034

2035

2036

2037

2038

2039

2040

2041

2042

2043

2044

PSERS Projection of Funded Ratio

Current Law HB2497 Senate Amended

13

PSERS Projection of Funded Ratios


14/21

14


15/21


16/21

Five Step Statewide Pension Reform Plan

1. Establish a Unified Defined Contribution plan for new state and local

government workers, school employees, judges, and legislators Curtails open-ended liabilities; Eliminates long-term commitments

on behalf of taxpayers

Removes politics from pensions

2. Prohibit pension obligation bonds or other post-employment benefit(OPEB) bonds

Prevents generational theft deferment of liabilities

3. Mandate pension and OPEB liability management reforms forcurrent and any newly created liabilities.

Achieve an annual employer cost of 4% to 7% of payroll withstandardized actuarial assumptions, shorter amortization periods,all generally similar to PPA of 2006. Prohibit fresh-starting.

Prohibit benefit improvements if this would result in a funded ratiobelow 90%.


17/21

Five Step Pension Reform Plan

4. Consider modifying unearned pension benefits (if legal and feasible) Reduced formula; Redefinition of eligible earnings; Increasing the

normal retirement age; Curtailing early retirement subsidies;Eliminating COLAs and Deferred Retirement Option Programs(DROPs)

5. Consider funding reforms only after prior steps are achieved

Challenge is to do this without increasing taxes or through newborrowing

Omitting steps 1,2,3,4 pension reform


18/21

18

Many in the state budget process are emphasizing the intent to fundthe full actuarial contribution for 2011-12 for PSERS and SERS.

Quoting from the actuarial note accompanying Act 120:

However, it should be noted that the employer contribution collars (ineffect through 2015) represent a departure from the norms of actuarial

funding practice. The effect of the bill as amended would be to suppressthe employer contributions to both PSERS and SERS resulting in significantunderfunding of both retirement systems.

The PSERS FY 2011-12 budgeted rate is 8.00% + .65% (retireehealthcare) = 8.65% of payroll or $1.2B. This plan has an unfundedliability of $20B ($31B using the market value of assets). Annualbenefit additions are being earned at a rate of 8.12% payroll.

SERS has an unfunded liability of $5.6B ($11.1B using market value).In addition, a separate unfunded liability for state employees retiree

medical is estimated to be approximately $15B.

What good is budgeting 100% of anactuarially deficient rate?


19/21

19

The concept of a budget surplus given the underfunding ofour long-term pension and retiree medical plans unsustainableliabilities is counterintuitive at best.

Sound public policy requires that we consider the long-runeffects and all people, not simply short-run effects and a fewpeople.

State officials are pondering where to directa possible budget surplus of $78M?


20/21

20

A recent Deloitte Growth Enterprise Services survey of 527 executivesat mid-market companies (annual revenues of between $50 millionand $1 billion) found tempered optimism that the economicrecovery will continue.

However, the survey also found significant concern over governmentfiscal and regulatory policies.

50 percent cited federal, state, and local debt as the greatestobstacle to U.S. growth in the coming year.

Lack of consumer confidence (39 percent)

Rising health care costs (33 percent). High tax rates (30 percent).

http://www.deloitte.com/assets/Dcom-UnitedStates/Local%20Assets/Documents/us_dges_Midmarketperspectives_042111.pdf

These unfunded liabilities impactsPennsylvanias future competiveness


21/21

21

1. Deferring unsustainable pension liabilities does not make futureliabilities sustainable. Why is contributing less into alreadyunderfunded plans considered reform?

2. We have over-leveraged our pension system. The challenge is tofinally restore proper funding while offsetting these increased costselsewhere within the state and local budgets without increasingoverall spending (or borrowing).

3. PA Municipal Pension Plans are a variation of this theme.

4. Retiree medical obligations are a parallel problem.

5. Given all this, what are the financial incentives to live, work, or investin Pennsylvania?

6. This debate is effectively one involving self-reliance while removingpolitics from pensions, protecting the taxpayer and stoppinggenerational theft.

Final thoughts for Pension Reform

PA Pension Reform Presentation

Documents

Transcript of PA Pension Reform Presentation