Pennsylvania's Senate expects to start debate this week on a bill that backers say will begin to tackle the unfunded pension liability problem that has hurt the commonwealth's bond ratings.
According to Sen. Jake Corman, R-Bellefonte, the bill would assign future state employees into a defined contribution, 401(k)-style plan. It would keep current state employees in a traditional defined-benefit plan while seeking voluntary concessions.
"Our pension funds are at great risk," said Corman.
Pennsylvania has the third-worst bond ratings of the 50 states. Its $50 billion unfunded pension liability and budget imbalance triggered downgrades last year from all three major bond rating agencies.
Moody's Investors Service rates the general obligation bonds Aa3, while Fitch Ratings and Standard & Poor's rate them AA-minus.
Gov. Tom Wolf proposed $3 billion in pension obligation bonds in his budget proposal, with the proceeds to be directed to the Public School Employees' Retirement System.
Wolf is a Democrat. Republicans control the Senate 30-20 and the House of Republicans 119-84.
"It's another risk, it's another bet on Wall Street," Corman said of Wolf's proposal. "What if it doesn't turn out?"
Richard Dreyfuss, a Hummelstown, Pa., actuary and an adjunct fellow at the Manhattan Institute for Policy Research, said the Senate bill is cosmetic and doesn't take enough steps to tackle funding problems.
"From a macro perspective, the absence of funding reform is significant, and there should be concern by the credit rating agencies that it appears to do little to address the ever-growing unfunded liabilities," said Dreyfuss, a former Hershey Co. executive who oversaw that company's employee benefit packages.
"I'm not suggesting the rating agencies what to do, but I think their eyes will glaze over the plan-design side and they'll draw the conclusion that they're disappointed to see the lack of funding reform," said Dreyfuss. "I see little resemblance to the best-demonstrated practices in the private sector. We'll still have things like collared rates and 30-year amortization periods."
State Rep. John McGinnis, R-Logan Township, is expected to file legislation soon calling for 20-year amortization plans for the public schools' plan and the State Employees' Retirement System.
The sheer size of the Senate bill, roughly 400 pages, will make it harder to sell, according to Dreyfuss. "They've made it so complex," he said. "Simply, just put everyone into a defined contribution plan."
Pension obligation bonds have become controversial in public finance. They are up for discussion in Kentucky, Kansas and Colorado, among other states. Janney Capital Markets, in a report earlier this month, said it usually considers these bonds a "noteworthy credit negative" when assessing the overall credit profile of a state or local government.
"The concept of pension obligation bonds is one of the more ambiguous and misunderstood in a nuanced sector that is often very misunderstood," Janney managing director Tom Kozlik wrote.
Of significant concern, said Kozlik, is the "pension holiday," when an issuer takes a break from making its annual required pension contribution. "Such holidays defeat the purpose of the POB strategy and ultimately creates a larger fiscal hole in the state or local government profile," he said.
Standard & Poor's says pension bonds do not lower liability, but simply replace a pension liability with a bond debt liability.
"From a credit standpoint, our focus remains on the state's ability to achieve structural balance and rebuild reserves while managing its long-term liabilities," S&P said in a recent commentary.
David Fiorenza, a Villanova School of Business professor and former chief financial officer of Radnor Township, Pa., said pension bonds are gaining momentum in the public sector as an alternative.
"I was a consultant for a triple-A rated borough in southeast Pennsylvania last summer and fall and we did lay out a proposal, as one option of many, to issue pension obligation bonds," he said. "The borough backed off the pension obligation bonds until there is more long term evidence in Pennsylvania of a positive effect on a municipality's pension plans."
Wolf, separately, has also proposed shifting more assets of the state's two large pension funds into low-cost index funds.
According to Fiorenza, the bond rating agencies will respond favorably to the Senate bill if financial statements can show positive progress in the state's pension obligations. While hoping for a 50-50 compromise between Wolf and the legislature, Fiorenza envisions more possible gridlock in Harrisburg.
"The Republicans in Harrisburg will resist even if the plan was one page," he said. "Although I do not agree with the plan, Gov. Wolf is putting forth what he considers to be new and an alternative to the traditional method of administering public sector pension plans."
