The California Public Employees’ Retirement System’s report released last week touts all of the pension fund’s good news, which it says “has built a solid path forward for the long-term future of the fund.” But as longtime pension reporter Ed Mendel pointed out in his recent blog, the pension fund’s future is still quite troubled. Apparently, myopia reigns at CalPERS.
Consider this fact, raised by Mendel: Despite earning more than double its predicted returns during a bull market last year, CalPERS’ funding levels only increased by a blip, from 67 percent to a meager 71 percent of the funds needed to pay its future costs. Pension experts say that 50 percent funding is the likely point of no return – if a pension fund’s assets fall below that level it will be nearly impossible to ever recover to a healthy funding level.
Meanwhile, California cities continue to struggle with service cutbacks as CalPERS wallops them with increasing fees. The term is “crowd out” as cities cut “core services, including higher education, social services, public assistance, welfare, recreation and libraries, health, public works, and in some cases, public safety” to pay their CalPERS bills, according to a Stanford Institute for Economic Policy Research report last October.
CalPERS isn’t facing the death spiral of, say, New Jersey’s pension funds, which are funded at a frightening 31 percent. But the problem should not be taken lightly. The stock market is at record heights. If there’s a downturn – and, as Gov. Jerry Brown likes to point out, there always are downturns – local budgets, the state budget and retiree earnings could all be at risk.
Enter state Sen. John Moorlach. The Costa Mesa Republican, best known for predicting the 1994 Orange County bankruptcy, has introduced four relatively modest pension reform bills that could help CalPERS get control of its liability problem. They are scheduled for an April 23 hearing in the Senate Public Employment and Retirement Committee. They have little realistic chance of passage in the Democratic-controlled, union-friendly Legislature – but it’s still worth proposing sensible, constructive measures to highlight the extent of the state’s pension problem. When the problems become too severe to ignore, at least CalPERS and legislators will know what approaches they have available to tackle the mess.
Senate Bill 1031 would “amend California Government Code to temporarily freeze cost of living adjustments (COLAs) when a public retirement system investment fund drops below an 80 percent funded status,” according to the senator’s office. That is a simple approach to ballooning pension costs. California public-employees already receive exceedingly generous pension benefits. It’s absurd to keep giving them raises given the fiscal situation.
Senate Bill 1032 is more complex but potentially more significant. It should be called the Terminator bill because it would, well, terminate something known as the Terminated Agency Pool, or TAP. Currently, CalPERS invests all its retirement contributions in a general pool that has a predicted rate of return of 7 percent annually (down from 7.5 percent). The higher the predicted return, the lower the predicted funding problem. Most experts believe that return rate has been set too high over the long term despite the great returns from last year.
However, when a government agency shuts down, as something called LA Works has done, or chooses to exit CalPERS because it can no longer afford to make CalPERS’ payments, the pension fund sticks them in a separate pool. That pool, the TAP, has a low-risk expected rate of return of 2 percent. In the general pool, taxpayers are on the hook for any shortfalls. When agencies unlock themselves from CalPERS’ golden handcuffs, only CalPERS is responsible for paying them off.
So the fund assumes a return that is basically a risk-free return – and is more reflective of the realistic rates that would exist sans all those taxpayer subsidies. Moorlach wants to put an end to that shell game. It would be a significant reform because, by eliminating TAP, more local governments would feel free to pursue options outside CalPERS. Currently, they can’t leave CalPERS because they’ll be hit with an enormous financial penalty for doing so. For instance, Calimesa was able to start its own fire department (with a 401/k retirement plan rather than a defined-benefit pension) because it was not burdened by all those penalties.
Senate Bill 1033 requires agencies that contract with CalPERS “to bear full financial responsibility for actions that would increase actuarial liability for a member’s pension contributions,” according to the senator’s statement. If they boost pension payments, they should bear the full costs of that decision. That’s a simple matter of fiscal responsibility.
Finally, Senate Bill 1433 restricts counties or districts from newly participating in a Defined Retirement Option Plan, or DROP. DROPs are such a taxpayer giveaway that they were targeted by the governor’s own pension-reform legislation in 2013. A DROP allows public employees to collect their full pension and receive their full salary, too, which they get in a lump sum upon their actual retirement. The existence of these programs is proof that the state’s retirement systems are much too generous.
Police and firefighters can retire at age 50 with 90 percent of the average of their final years’ pay. Many want to keep working and their agencies want them to keep working. But because the “3 percent at 50” retirement plan is so lush, they would be working for little or no pay if they stayed on the job past the young age of 50. Instead, they get paid almost double. These programs were supposed to be cost neutral, but have cost billions of dollars because they were underpriced.
Los Angeles’ DROP program is particularly controversial. The program “received a flood of new enrollees in February,” according to the Los Angeles Times. This “coincided with a Times investigation in February that found the program, which was created in 2002 to keep veteran officers and firefighters on the job, allows participants to file workers’ compensation claims and then take extended injury leaves at nearly twice their usual pay.” This has cost more than $1.6 billion, with the average participant walking away with an extra $434,000, per the Times.
Given the pension funds’ fiscal condition, it’s hard to understand any serious opposition to these modest measures. When the health of the system is on the line, why wouldn’t the state want to clamp down on costs? Stay tuned for the hearing, even though the Legislature has yet to show any interest in reining in pension costs.
Steven Greenhut is contributing editor for the California Policy Center. He is Western region director for the R Street Institute. Write to him at firstname.lastname@example.org.