Public Pension Crisis: Remedies Part I

For many governments, both state and local, public pensions have become a millstone around the proverbial neck. It has become so bad that it constitutes a crisis. While there are and will continue to be debate as to its causes, the consequences are clear: the pension funds facing severe shortfalls will rely on local and state governments to make up the difference, thereby leading to less investment in infrastructure and services for the public for as long as the problem persists.

Some of the most orthodox steps to reduce the severity of the crisis fall short of addressing the long-term issues plaguing the pension system. These include universally reducing benefits, increasing the amount that future pensioners put into the system and raising taxes on the public in order to meet any obligations beyond what pension funds can provide without harming vital services. This post, however, will examine two unorthodox steps to ameliorate the crisis at both the state and local level by focusing on two factors that affect pension solvency: population and exorbitant pensions.

Population

In general, city pension funds are performing better than state pension funds. This is not to say that surpluses are common, but, rather, that many funds are assets that are equal to or greater than 80% of their obligations, which many economists believe to be a healthy level. This trend is particularly accurate with regards to cities that have experienced strong, sustainable population growth—not a housing bubble. There is no crisis in Austin, the city that, as Forbes reports, has experienced the largest population and economic growth in the nation for the past three consecutive years. The same can be said with regards to some public pensions in Houston, as well as numerous other cities that have seen an influx of new residents. Even with the effects of the recession still lingering throughout most of the nation, most cities experiencing strong population growth are not facing a public pension crisis.

Increasing a city’s population is not a panacea, but it does help. This is because pensions are optimistic by their very nature, especially when it comes to defined benefits plans, as the benefits that such plans pay out are not affected by market forces—the amount will remain the same regardless of how well the fund’s investments perform. The institution offering the pension is (or was) under the impression that there will be an increasing (or at least level) number of workers paying into the fund.

However, if the population of a city is cut in half, the number of police, firefighters, court workers and teachers will diminish because many of the positions will become superfluous. Furthermore, the number of individuals collecting a pension will remain constant, but the amount of people paying into it will decrease. Consequently, taxpayers will be called on to meet these shortfalls. In cases like Detroit, this can become particularly hazardous to the well being of the city, especially since the population decline has devastated the Motor City’s tax base. Though this is a severe case of depopulation, many cities throughout the Rust Belt are facing similar problems. Without a means to attract new residents, they will persist.

Numerous policies can be enacted by cities such as Detroit to attract new residents. Both conservatives and liberals will agree that there are two factors that attract new residents: jobs and quality of life. A conservative approach would offer lower taxes to residents, as well as tax breaks to new businesses and startups. The quality of life would then increase via market forces as a consequence of the new jobs, as well as the residents’ additional disposable income due to the lower taxes. A liberal approach—which was the course of action taken in Nantes, France, after the city’s shipbuilding industry withered away—would use public funds to improve the schools and public transportation of the city, as well as to augment the city’s artistic and cultural prowess. By increasing the quality of life, the city becomes attractive to college graduates and startups, consequently drawing in established businesses.

Without providing incentives to either new residents or new businesses, the populations in cities throughout the Rust Belt will continue to stagnate or decline, thereby perpetuating the pension crisis.

Capping Pensions

Pensions were created to reward hard work. They were designed to keep former employees comfortable after retirement. However, when a pension exceeds $200,000 a year, comfort becomes luxury. Such is the case with Bernadette Gray-Little, who served as UNC-Chapel Hill’s provost until 2009. She did not retire, however. Rather, she went on to become the chancellor at the University of Kansas. Her annual salary, as of 2010, was $425,000. Her pension from her time at UNC was $209,337.

While it may be difficult to decide upon an arbitrary number that distinguishes between generous and excessive, a cap must be instituted in order to curtail such lavish retirement packages. It must not be set in stone, but, rather, indexed to the cost of living in the locale in which the service took place. Manhattan, for example, has a cost of living that is more than double that of Detroit. To use a single equation for all cities to decide upon what a just pension package should be simply could not work, as making $50,000 in Detroit is comparable to making $116,755 in the Big Apple. Furthermore, if one were to set the number in stone, with regards to inflation, $40,000 in terms of 1990 dollars would now be worth $22,397.09.

While it is true that many pensions should be capped, universal caps clearly would not make sense.  Contact us to share ideas.

Sources: http://www.pewstates.org/research/reports/the-widening-gap-update-85899398241

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