‘Frankenpension’ Update
UPDATE: On Monday, the Independent Fiscal Office (IFO) released their analysis of the Conference Committee Amendment (A10803) to SB 1071. The IFO report confirms what we said last week (see below). According to the IFO, the Amendment would result in relatively little benefit to taxpayers. The headline number that Sen. Pat Browne, architect of this amendment, will trot out is a $2.6 billion savings over the next 30 years. And, that certainly sounds impressive until you consider that figure in terms of present day dollars. When looked at in terms of today’s dollars, the savings amounts to $209.3 million or 0.37 percent of the current unfunded liability.
When dealing with numbers of this magnitude, it is often helpful to scale them back to something more manageable. Let’s say you owe $56,300 on your mortgage, and you want to save some money to pay toward that amount. Would a one-time payment of $207 make any meaningful dent in what you owe the bank?
The answer is obviously "No." $207 would only pay a fraction of the interest. However, that is the savings that the Conference Committee is offering Pennsylvania taxpayers and Senate leadership wants a ticker tape parade to celebrate it. From what we’ve been told, Senator Browne plans on enlisting the Pew Charitable Trust to rerun the numbers. Pew would not be bound by actuarial rules, like the IFO, and we would expect their "savings" number to be remarkable higher. The difference would largely be due to moving the goal posts.
Given the absurd lengths the General Assembly is going to in order to move the legislation, it makes us wonder if it’s real purpose is not to set up a Republican Representative or Senator for a gubernatorial run in 2018. At the same time, it would give the Governor a bipartisan "success" to include in his reelection efforts.
The Amendment is political theater. Its passage would allow the General Assembly and the Governor to claim that they’ve done something about the pensions. In 15 years when the pension fund is insolvent, they would be long gone.
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Original Post
A House and Senate conference committee is taking another shot at pension reform. In keeping with the Halloween spirit, they have resurrected their hybrid pension proposal one more time in an attempt to achieve "pension reform" by decree.
Unfortunately, this over-engineered proposal with many exempted employee groups will likely offer insignificant savings when measured in today’s dollars and by itself will do nothing to address the ever-increasing unfunded liability. The "everything will be fine" 30-year scenario touted by some, should be tempered by others who reference the risk of plan insolvency occurring over the next 15 to 20 years.
In fact, CAP continues to seek a single example in the US private-sector where such a similar plan design arrangement exists.
As we’ve noted on multiple occasions, the hybrid plan does not offer any meaningful protection for taxpayers particularly since the defined-benefit plan can always be retroactively increased. The House has been trying to sell this bad plan design since 2014. Every iteration since that time has gotten progressively worse. The "new and improved" stacked hybrid plan is no exception.
In an attempt to placate conservatives, the conference committee proposal will likely include a defined contribution option for new employees. On the surface, the inclusion of a defined contribution plan would seem to be a positive development. However, it does create a problem. As Rep. John McGinnis noted to Capitolwire (paywall):
"With multiple plans, one will do better than the others and in the future the members in the plans that are not performing as well will pressure elected officials for redress and will likely get it."
As noted, this proposal does not address the $60+ billion in unfunded pension liabilities that currently saddle taxpayers. Furthermore, it is unlikely that the "reforms" in the pension proposal will include changes to how funds are managed and the annual expected rate of return assumption. Pennsylvania’s pension plans assume a 7.5 percent annual rate of return (PSERS adjusted their expectations to 7.25 percent starting in July). In an attempt to meet this optimistic goal, the pension plans use active fund managers instead of investing in index funds or other passive management strategies. Using active fund managers costs taxpayers $750 million per year. Last year that cost resulted in a 0.4 percent return for PSERS and a 1.29 percent return for SERS.
Underwhelming returns on investments and chronic underfunding of the pension plans and benefit improvements by politicians have created a mess for taxpayers in the form of massive unfunded liabilities. The pension reform proposals being bandied about do nothing to address those problems, nor do they adequately protect taxpayers. Instead, the conference committee’s Rube Goldberg reform proposal gives politicians the ability to tell voters that they "did something." Pennsylvania’s current and future taxpayers who will be tasked with bailing out the system deserve real reform; not smoke and mirrors.
For those policymakers seeking a straightfordward comprehensive solution to our ongoing pension woes, you should go no further than to read our recent blog post which highlights a recent op-ed authored by actuary Richard C. Dreyfuss.