Detroit’s Emergency Manager Threatens Pension Fund Takeover
Detroit’s emergency manager Kevyn Orr says a pension fund takeover is a “right, if not an obligation” after Orr learned of extra, unwarranted pension payments.
Please consider Emergency Manager Weighs Pension-Fund Takeover.
Kevyn Orr said in a recent interview that at the current pace, the city’s General Services System pension fund could lose its ability to pay pensions owed to current and future retirees within 12 years. A takeover is a “right, if not an obligation, that I have to consider under the statute, and we’re considering that right now,” he said.
Representatives of the pension board said Mr. Orr’s figures were faulty.
The Oct. 25 draft report by the city’s auditor general and inspector general, which was reviewed by The Wall Street Journal, found that during the 12 years ended in fiscal year 2012, the pension funds paid $1.22 billion of interest credits into retirees’ savings accounts while the funds had losses of $2.05 billion, or 29% of their net asset value.
Earlier this year, Mr. Orr unveiled a proposal calling for the city to pay 20 cents on the dollar for the $3.5 billion that the city says it owes its two pension funds, one for 20,500 nonuniformed retirees and one for 12,700 retired police and firefighters.
“When workers in Chicago and L.A. realize that their pension benefits are no longer inviolate, unions are going to say what they really want is not bigger benefits but better funding. And that’s going to put enormous pressure on current budgets,” said Robert Novy-Marx, associate professor of finance at the Simon Business School at the University of Rochester.
A person familiar with the matter said Mr. Orr would like to engineer a takeover of the city’s General Retirement System for nonuniformed employees and retirees. Mr. Orr’s office estimates that the fund has only 64% of what it needs to meet its obligations, while fund officials put the figure at 80%. The separate fund for the city’s police and firefighters is in better shape, both Mr. Orr and fund officials say.
Michigan’s emergency-manager law allows for the takeover of a municipal pension system that is less than 80% funded.
20 Cents on the Dollar
Twenty cents on the dollar sounds about right to me. But Orr ought to take over both funds. More importantly, new rules are needed.
From my Lesson for Union Dinosaurs post …
I propose the final settlement should include …
- An agreement to end collective bargaining for all city workers
- An end to defined benefit pension plans for new workers and also for workers with less than 10 years of service
- A sustainable benefit model for existing workers with over 10 years of service, with pension plan assumptions equal to the long-term treasury rate
- Automatic provisions for further pension cuts if plan assumptions were not met
- An end to the right to strike for public safety workers
- An end to all prevailing wage laws
Point number 4 highlighted in red would in theory allow the union to value the pension fund however optimistically it wanted.
Unfortunately, that would unfairly benefit those first on the totem pole (the already retired) over everyone else.
Mish’s Eight-Point “Bold” Plan
On April 23, 2012 in Public Unions Bankrupt Illinois I proposed a similar “bold” plan.
- Immediately kill public defined benefit plans going forward
- End collective bargaining of public unions
- Scrap prevailing wage laws
- Tax at an 85% rate all defined benefits above $80,000
- Claw back all pension-spiking
- Lower corporate tax rates to previous levels to attract businesses.
- Set long-term pension plan assumptions at 5% or the 30-year Treasury rate, whichever is lower (currently 3%).
- Default, if necessary on pension benefits above a certain level, whatever it takes to make the state solvent within 10 years, using conservative pension plan assumptions.
Points 4, 7, and 8 are the critical ones.
The “bold” plan has considerable merits vs. an across the board 20 cents on the dollar offer of Orr.
I am not sure what the cutoff should be in point number 4. Perhaps it’s lower or higher. It depends on plan funding.
It’s the concept that is important. And I strongly suggest unions openly embrace the idea as being more fair.
From Yahoo!Finance … Juanita Sailes-Jackson, 64 years old, a Detroit retiree who worked as a typist and parking enforcement officer, said she opposed the idea of any takeover of the city’s pension funds, because she believes the system works well. Ms. Sailes-Jackson, who collects $500 a month in pension, said, “I can’t have any cuts because I wouldn’t be able to pay most of my bills.”
I don’t know how long Sailes-Jackson worked to accumulate her promised benefit. Thus such quotes only exist to play on emotions.
But cuts are coming. And they should come, because the system clearly doesn’t work! But how to distribute them?
The fairest possible thing to do is sit down at the table and negotiate a settlement, with everything taken under consideration, but with a 100% premise of no taxpayer responsibility.
As a starting point, I suggest, those with the least pension benefits get the smallest cuts, and those with the most benefits get the biggest cuts.
Indeed, if unions were smart, the majority could come to negotiated terms with a starting point along the lines of
- No cuts in benefits for the bottom 30%
- Small cuts in benefits for the next 30%
- Big cuts in benefits for the top 40%, on a sliding scale
Such a negotiated settlement would be the fairest thing for everyone, pensioners and taxpayers alike.
Two Choices to Deal With “Collective Theft”
In Two Choices to Deal With “Collective Theft” I outlined the choice unions have to make, whether they like it or not.
At this point, unions have two choices.
- Negotiation ahead of bankruptcy
- Negotiation in bankruptcy court
Blame the Unions
Unfortunately, it’s highly unlikely unions would ever do what I suggest. So, the most likely consequence is an across the board cut even if it means Sailes-Jackson collects $100 a month instead of $500, regardless of how long she worked.
When that happens, don’t blame me, and don’t blame Orr. Blame the unions (and the crooked politicians who went into bed with the unions).
About the Author: Mike Shedlock is the editor of the top-rated global economics blog Mish’s Global Economic Trend Analysis, offering insightful commentary every day of the week. He is also a contributing “professor” on Minyanville, a community site focused on economic and financial education.