Put California pensions on a ventilator
As California and America look forward to relaxing restrictions, it’s time to look ahead to meeting the onrushing financial crisis.
The coronavirus has created such a massive disruption to the world’s stock markets that almost all California public employee defined-benefit pension plans will never recover. At a minimum, they must be put on a fiscal ventilator.
The coronavirus has massively impacted the necessary revenues our cities are relying on to meet their already stretched budgets. Anaheim is losing some $500,000 per day as their hotels and Disneyland are closed. Costa Mesa is likely to be losing massive sums in sales tax revenues as South Coast Plaza sits empty and car sales have dissipated.
How can municipalities survive when revenues are dramatically reduced, even for a brief period, and annual required pension-plan contributions continue to increase? How many layoffs can they make? This vise grip will be painful.
Since their inception, traditional defined-benefit pension plans have been difficult to fund. They are delicate and expensive. Consequently, in the private sector they are now rare. And those that are still in existence in the private sector use reasonable assumptions.
While major economic downturns have effectively shaken most of the defined-benefit plans out of the private sector, such plans persist in the public sector. Why? They are financial scams by predatory public-employee union leaders. And, why not? If they are underfunded, beg elected officials to raise taxes.
As Orange County’s treasurer-tax collector for 12 years, I served on the board of the Orange County Employees Retirement System, one of the largest in the nation. I know that, when managed properly, defined benefit pensions can be a useful retirement tool. Managed improperly, they can be financial sink holes. Regretfully, that is what they have become.
The writing is on the proverbial wall. For the last two decades, post-SB 400, experts have been claiming that traditional public employee defined-benefit pension plans are no longer sustainable. They were right.
It is now time to think outside the box. Forget the gimmicky solutions, such as pension obligation bonds. They only validate a flawed system.
There are a few essential issues every pension board should consider when dealing with these plans. You don’t set a high annual investment return target as one of your assumptions. Assuming that the plan is going to earn 8% every year into perpetuity is insane. The current 7% assumption of the California Public Employees Retirement System (CalPERS) is still too high, making it reckless.
You don’t change the retirement formulas in the middle of the game. In 1999, Gov. Gray Davis signed Senate Bill 400, by then-state Sen. Deborah Ortiz. It increased benefits by 50 percent for certain state employees. Gov. Davis now regrets having signed this bill, as he should.
In 1999, most government pension plans were 100% funded. With a 50% increase in liabilities, they instantly became two-thirds funded. And, for the last 20 years they are still two-thirds funded!
You don’t grant formula increases and make them effective back to the date of hire. Granting retroactive increases is a disaster.
In 2012, Gov. Jerry Brown passed a reform called the Public Employee Pension Reform Act of (PEPRA). It prohibited these massive transfers of wealth from the private sector to the public sector.
You can’t allow public employee unions to fund the campaigns of candidates that vote on their bargaining unit agreements or sit on the judicial bench. These conflicts of interests have exacerbated California’s pension mess. Unfortunately, judicial opinions forbidding modifications to fix math equations imply that defined benefit plans have become scams.
It’s time for a reboot.
Surveying this nation’s 50 state pension plans, Wisconsin continues to stand out as being fully funded at 100%. They shed a traditional defined benefit pension plan years ago and have been using a “shared-risk” pension plan since 1982. This is a model other states, like California, should be reviewing.
A shared-risk pension plan means public employees will have to be more involved with higher plan contributions if market returns do not meet anticipated levels, as we’re experiencing now. Retirees will have to be realistic about their retirement ages and forgo cost-of-living adjustments. On the other side, they should also benefit from periods when the market delivers better than anticipated returns. And employers will have to use more realistic return assumptions, such 3% or 4%.
California and its counties, cities and school districts must face the realities of market fluctuations and replace their traditional plans with shared-risk plans.
This will not happen through the California Legislature. The majority Democratic Party is too beholden to the public-employee unions, which want to keep the status quo. But keeping the status quo will lead to massive debt obligations by taxpayers to whom? To their employees. How does that make sense?
A ballot measure may do the trick, but is unlikely to be successful. Skewed ballot titles are written by Attorney General Xavier Becerra – because he is also beholden to the public employee unions, making a travesty of the proposition process.
What to do? Many cities and counties can, and probably will, file for Chapter 9 bankruptcy protection to reorganize their debts in a federal courtroom. Federal judges can review and even ignore state and local bargaining unit contracts and reshape or replace them. So if a municipality files for Chapter 9, it should consider at least the following three components for the plan of adjustment:
- Terminate the traditional defined-benefit pension plan and initiate a shared-risk pension plan with the former plan’s investment assets going forward in the new plan.
- Eliminate or dramatically modify the retiree medical plans and other post-employment benefits (OPEBs), similar to the city of Stockton’s strategy in its 2012 bankruptcy.
- Make significant improvements to unused vacation and sick time accrued-leave plans that have not already been substantially modified.
I lived through the 1994 Orange County Chapter 9 bankruptcy and see shared risk pension plans as the only and best approach to get California’s counties and cities back to being financially sustainable.
The house of cards is falling. The system must change. But public employees should have a retirement plan that is there when they need it. A federal judge can provide a sustainable shared-risk pension plan in a controlled setting through a professional and expedient process. The sooner cities and counties start, the better.
Let’s get them off fiscal ventilators and have them moving forward with much healthier benefit plans that are not only fair and reasonable for their employees, but also for their employers, the taxpayers.
John M.W. Moorlach, R-Costa Mesa, represents the 37th District in the California Senate