California policymakers like to think of themselves as national leaders. But when it comes to public employee pensions, our state legislators would do well to consult two of their less flashy peers: Wisconsin and Oregon.
Wisconsin because it is the home of the most comprehensive survey of state retirement benefits, a document that shows that by almost any measure, California's program is among the richest in the country. Oregon because our neighbor to the north had a worse pension mess than ours and recently took steps to correct it.
With pension costs climbing for state and local governments here, Gov. Arnold Schwarzenegger is proposing a reform that would shift the risk in retirement benefits from the taxpayers to individual public employees. In that light (see April 8th development), it's worth looking at how California's current benefit structure stacks up to what public employees in the rest of the country receive.
The most recent Wisconsin survey - the Comparative Study of Major Public Employee Retirement Systems - was published in December 2003, with data through 2002. It looked at everything from the basic benefits themselves to employee and employer contributions, retirement age, how an employee's final salary is computed and cost-of-living adjustments.
The report doesn't examine special benefits for public safety employees, where California policy is indisputably at the extreme end of generosity, granting pensions that give Highway Patrol officers and most local police and firefighters 90 percent or more of their final salary for life and allow them to retire with full benefits as early as age 50.
But even the state's less generous benefits for the general work force are at the high end of the national spectrum. California's standard retirement formula is known as "2 percent at 55," which means that a retiree gets a pension equal to 2 percent for each year worked and can retire with that benefit as young as age 55. Employees who work 30 years for the state and quit at 55, then, get pensions of 60 percent of their final salary.
Workers who stay longer see their final pay multiplied by a progressively larger factor, up to 2.5 percent per year worked at age 63. So an employee who retires with 30 years service at age 63 would get a pension equal to 75 percent of his or her final salary.
And remember, this has nothing to do with California's famously expensive cost of living. That's already reflected in the salaries paid to public employees while they are on the active payroll. The most recent numbers from the U.S. Census bureau show that the average salary for full-time state government employees in California is $57,000 - more than anywhere in the nation and 30 percent higher than the national average of about $44,000. So even a modest retirement formula would crunch those salary figures into relatively generous pension benefits. But California's formulas are anything but modest.
For starters, consider that California, as of 2002, was the only state in the nation that figured retirement benefits based on the final year's salary alone. Almost every other state takes an average of the final three years' salary. California's unique policy gives every retiree at least a slight boost on the way out the door and is open to abuse by the few who find ways to dramatically increase their benefits for life by manipulating their final salary through a last-minute transfer or end-of-career promotion.
California's standard retirement age of 55 for general employees is on the young end of what other states offer. Only Massachusetts and Nebraska are as generous, and most states require employees to work until age 60 or 65 to receive the basic benefit.
California's employee contribution of 5 percent is about average. A few states have lower rates, and several require employees to contribute as much as 7 percent or 8 percent of their salary toward their retirement.
Finally, California's multiplier - the factor by which each year of service is multiplied to determine the employee's pension - is among the highest in the nation. Many states have multipliers that yield pensions 25 percent or 30 percent lower than California's, and almost all of the states where the formula is richer do not also offer their employees Social Security benefits, as California does for its general work force.
Combining the retirement age, the contribution rate, the multiplier and other benefits, California's plan is arguably the richest in the nation. And it is just these many factors that allow the benefits to steadily creep higher, because lawmakers, at the behest of the public employee unions, are constantly proposing narrow bills that tweak one element or another of the complicated retirement formulas. In isolation, each change seems modest, but taken together, they have created a Cadillac plan.
One of the virtues of a defined contribution plan of the kind Schwarzenegger is proposing for new employees is its simplicity. The worker puts in a certain amount, the taxpayers match it, the money is invested and the retiree owns his or her fund. No worries about formulas, retirement age and the like. What you see is what you get.
In response to the Governor Schwarzenegger's 2005 Reform Proposals related to public employees pensions, the Legislative Analyst Office prepared an
detailed analysis of public employees pensions.
Schwarzenegger backs down on pensions, clouding 'year of reform'
By Dan Walters -- Sacramento Bee Columnist, April 8, 2005
Arnold Schwarzenegger says he sees "everything in a positive way," and tried Thursday to put a positive spin on his abandonment of a ballot measure to overhaul public employee pensions, but there's no disguising the fact that it is a major setback for his much-ballyhooed "year of reform" campaign.
Schwarzenegger was being hammered by assertions that if voters did away with traditional defined-benefit pensions and substituted defined-contribution plans similar to the 401(k) systems used in private employment, they also would be eliminating benefits for police officers and firefighters who die or are injured in the line of duty and their survivors.
Although the ballot measure made no mention of such benefits, Attorney General Bill Lockyer, a Democrat who wants to run for governor in 2006, concluded in his official summary of the initiative that it "eliminates death, disability benefits for such employees," and that touched off a powerful series of media appearances by police and fire widows that could have doomed the pension reform drive.
The glitch - if there was one - could have been fixed by subsequent legislation, but that, too, proved troublesome, even if Democrats were willing to bail Schwarzenegger out, which is unlikely. Any restoration of the death and injury benefits enacted by the Legislature could have been interpreted as a mandate on local governments and forced the state to pay for them.
Finally, with the political and legal problems mounting - and after, he says, emotional, face-to-face meetings with widows, police officials and others involved - Schwarzenegger decided to cut his losses.
"I'm troubled by the misconceptions surrounding the pension reform initiative," he said at a news conference that was attended by many of those who had criticized the measure. He called upon the Legislature to write a glitch-free pension reform and vowed that if legislators balk, as they are likely to do, he would put another pension overhaul measure on the 2006 ballot.
"Let's pull it back and do it better," he said, while effusively declaring his support for public safety officers and their families. "That's what this is about."
Those positive words notwithstanding, Schwarzenegger's retreat is a huge setback for his multipronged drive aimed at changing the political culture of the Capitol in ways that reduce the influence of public employee unions. And he need look no farther than the closest mirror to assign blame.
Although the Republican governor and his advisers began thinking about an initiative drive, culminating in a special election next fall, at least five months ago, he really didn't have all his ducks in line when he declared, during his January State of the State address, that this would be the "year of reform," singling out pension reform as a major goal.
Not all of this measures had been drafted and even those that were, such as the pension scheme, had clearly not gone through intense analysis to reveal and fix any potentially fatal errors. Had the police and fire benefit glitch been noticed before being submitted to Lockyer's office, it could have been fixed with a half-dozen additional words and opponents would have been deprived of their powerful issue - one that has contributed to Schwarzenegger's recent slide in opinion polls of California voters.
That's especially ironic because the overall thrust of the pension overhaul resonates well with voters. State and local government pension costs have been soaring, taking money away from other spending categories, and The Sacramento Bee has published an extensive series of articles about abuses of the system.
Now Schwarzenegger is on the defensive, trying to keep the rest of his ballot measure package intact and staving off fears among would-be supporters that the drive is doomed as his personal popularity fades.
The governor's opponents are openly gleeful at Schwarzenegger's tactical retreat. "Arnold showed the first sign of waving his white handkerchief today," said consumer activist Jamie Court, a full-time Schwarzenegger critic, adding that "the house of cards that is Arnold's special election is about to fall down all around him (and) if legislative leaders play their cards right, it will be Arnold who looks like the joker."
CalPERS cuts state payment
Lower pension cost in next year's budget results from change meant to smooth out stock volatility
By Gilbert Chan, Sacramento Bee, May 19, 2005
For the first time in five years, the state's contribution to employee pensions will fall as the California Public Employees' Retirement System enacts a plan aimed at smoothing out the impact of stock market fluctuations.
On Wednesday, trustees unanimously approved trimming the state's pension contribution by 4.7 percent to $2.43 billion for the coming fiscal year.
CalPERS is hoping the plan will fend off calls from Gov. Arnold Schwarzenegger and other Republicans to replace traditional retirement plans that guarantee set benefits with 401(k)-style investment accounts.
"I'm hoping this gives the governor and the administration some relief where they can say we're trying to solve the problem and help the employers in the long run," said Rob Feckner, president of CalPERS, the nation's largest public pension plan with $182.9 billion in assets.
Over the years, the state's annual pension contribution has swung wildly - from $1.2 billion in 1998 to $156.7 million in 2000 to $2.55 billion this year.
No one shrieked over volatility as the roller coaster clacked upward during the 1990s stock market boom. But now that it's screaming downhill, government leaders from California to Florida are howling about the burden of skyrocketing pension contributions and widening shortfalls.
The Wall Street run-up generated investment gains that allowed state and local governments to skip pension plan payments for several years. While everyone knew it wouldn't last forever, no one expected the end would be the worst three-year stock market decline in decades.
"It was a much steeper decline than we would have anticipated," said Ed Derman, deputy chief executive officer of the $125 billion California State Teachers' Retirement System.
"There's nothing we can point to that is similar," said Ken Kent, vice president of pensions for the American Academy of Actuaries. "To have a market go down three years in a row, even the smoothing can't help mitigate the dramatic increase in costs."
Healthy pension fund surpluses disappeared even as governments saw revenue from sales and income taxes dwindle. Yet states, school districts and counties were forced to dramatically boost pension contributions to make up for stock market losses.
Nationwide, about three-quarters of the country's largest state and local public pension plans were underfunded by 2003, according to a survey released last September by the National Association of State Retirement Administrators and the National Council on Teacher Retirement.
The report also reveals how quickly the funding level for 117 plans eroded - from a 100.9 percent surplus in fiscal 2001 to 96.3 percent in 2002 and 91.1 percent the following year. That means retirement plans were then 8.9 percent short of the cash needed on hand to cover retirement benefits in 20 to 30 years.
It's unknown whether the situation has improved since more recent figures are not available.
This volatility cannot be completely avoided, pension experts say, because the performance of public pension funds is inextricably linked with business and economic cycles. That was not always so.
In the late 1980s, funds started pouring money into stocks to ensure there would be enough money to cover a massive surge in retirees - the product of a graying baby-boom generation and longer life expectancies.
The strategy paid off during the Wall Street boom. At CalPERS, for example, assets soared from $38.2 billion in 1987 to $172.5 billion in 2000 as the fund racked up 14 consecutive years of investment gains.
"Everybody was making money with equities. You could negotiate improvements to your benefits, and it didn't cost you anything," Kent said. "It's very hard to say, 'Let's get real conservative.' Those excess returns should have been banked."
Instead, employer contributions were lowered or postponed. But the bear market socked CalPERS with a combined $19.9 billion in losses in fiscal 2001 and 2002 and put most government pension plans in a financial hole.
Locally, the Citrus Heights Water District saw its CalPERS contribution rate grow over two years from zero to 10.66 percent of payroll for its 26 employees. That's $98,200 for a district with a $6.5 million annual operating budget.
"Any increase in costs has an effect on (water) rates," said David Kane, assistant general manager of the Citrus Heights Water District. "It caused our directors to try to keep our hiring in check."
In Riverside County, its pension plan went from a $530 million surplus to a $471 million unfunded liability after the bear market. In March, the county sold $400 million in pension obligation bonds to lower the cost of its CalPERS retirement program.
"Rates had gone up fairly dramatically," said Paul McDonnell, county treasurer-tax collector. In recent years, for example, Riverside's contribution rate for public safety employees swung wildly, going from a normal 14 percent to zero to 24.4 percent this fiscal year.
"If you look at these employer rates over the years, they're going to vary. It's cyclical," said Robert Bendorf, assistant executive officer for Placer County. In the past three years, the county's rate for rank-and-file employees has risen from zero to 3.2 percent in 2003-04 to 11.5 percent this fiscal year.
While the overall payments balance out in the long run, Bendorf and other public officials say the volatility wreaks havoc for budget planners. "We would certainly like to have some level of predictability."
New York pension consultant Ron Ryan and a few others say the move to stock market investments was the mistake.
"They needed to stay with bonds that matched liabilities," said Ryan, who advocates more of a pay-as-you-go system. Now, he said, it's almost impossible to go back.
To bridge the gap, pension officials must generate exceptionally high investment returns, boost contributions or reduce benefits. Experts aren't banking on most pension funds investing out of the financial hole.
"The hope that a market reversal will make the problem go away isn't going to materialize," Kent said. "The prospects of a booming market in the next couple of years isn't encouraging."
Consequently, states such as Florida and Oregon have adopted so-called hybrid pension plans offering a combination of guaranteed benefits and 401(k)-style investment programs.
Schwarzenegger went even further by proposing to replace traditional pension plans with individual accounts. Although he has retreated from the campaign this year, the governor continues to call for easing future pension burdens on taxpayers.
In radio ads last month, he said growing government pension contributions are putting a squeeze on already tight state and local budgets.
Proponents of 401(k)-style plans say these accounts would reduce the financial burden on state and local governments. Future pension benefits would be determined by the employee's investment decisions, and government agencies would no longer be on the hook for a guaranteed benefit when shortfalls occur.
Schwarzenegger's criticism inspired CalPERS trustees in April to enact new accounting methods to stabilize contributions rates for government employers.
The plan includes spreading the investment gains and losses over a 30-year period, calculating the value of local retirement plans over 15 years instead of three and requiring a minimum contribution even when there is a surplus. This is what allowed pension officials to lower the state's contribution this year.
Ryan, the pension fund consultant, doesn't expect this to work as a permanent solution: "They are buying time. It's just an actuarial game to reduce contributions. But it doesn't tell me the economic truth."
Probing CalPERS pensions
Lawmaker says total tab to hit state hard
By Troy Anderson, Los Angeles Daily News, November 15, 2005
As concern grows throughout California about the bills for public retirees' pensions and benefits, the state Legislative Analyst's Office is researching what the total tab will be, officials said Monday.
The Daily News recently reported that taxpayers statewide are on the hook for at least $110 billion in the years to come for public retiree pensions, health care and workers' compensation costs.
Assemblyman Keith Richman, R-Granada Hills, said it's very important that the nonpartisan LAO, one of the most respected agencies in Sacramento, turn its attention to these debts.
"These tens of billions or hundreds of billions of dollars in unfunded pension liabilities we are passing onto our children and grandchildren are going to severely impact California's future," Richman said in a phone interview.
"They are going to impact our ability to invest in education, higher education, infrastructure and affect our ability to compete in a global economy."
Marcia Fritz, a former CalPERS consultant who has worked on pension reform proposals with Richman, predicted the debts would ultimately hurt the state's bond ratings.
"One thing agencies didn't anticipate or put into their formulas when they reduced retirement ages in 1999 was that they were also going to be increasing post-retirement health benefit costs," Fritz said. "California will be hit hardest of any other state because of this."
Jason F. Dickerson, a senior fiscal and policy analyst, said the LAO is conducting its own survey of the liabilities.
New Governmental Accounting Standards Board guidelines that take effect next year require public agencies to list their unfunded liabilities in their annual financial statements.
"This is something that requires governments to start thinking about this topic in a way they haven't previously," Dickerson said. "Local governments are already engaged in understanding what this will mean and a number are already hiring actuaries to perform valuations of their liabilities."
Public employee pensions in California - the richest in the nation - have become so generous that some workers can retire at age 50 with more than 100 percent of their final year's salary; thousands of public employees statewide earn annual pensions exceeding $100,000.
Last month, Fritz, now a Citrus Heights certified public accountant, claimed that state pension officials gave misleading information to local governments statewide that led to huge increases in pensions for public employees.
She alleged that changes in GASB guidelines a decade ago set the stage for California's ballooning pension liabilities by allowing officials to obscure the long-term costs.
Although elected officials ultimately approve pension increases, Fritz maintained their decisions were influenced by projections prepared by CalPERS actuaries.
Those projections are not audited by independent third parties to ensure they are prepared in accordance with governmental accounting standards, that payroll data is accurate and that actuaries adopt rational funding policies that are free from political influence, Fritz said.
Richman is considering requesting a state audit of CalPERS to "bring to light some of the fundamental issues surrounding CalPERS operations and liabilities," said Daniel P. Ellissier, Richman's chief of staff.
"Like any public institution or any publicly traded company, an independent audit of the entity is very important in conveying financial transparency," Richman said. "I do think it's very important that an independent audit of CalPERS is done in order for the public to have a complete understanding."
Edward Fong, a CalPERS spokesman, said CalPERS' financial statements were independently audited every year and submitted to the Legislature.
"They are also available on our Web site for public review," Fong said.
Jon Coupal, president of the Howard Jarvis Taxpayers Association, said he supports an audit of CalPERS.
"If they are actively soliciting local governments or the state government to increase benefits then that is not a proper function of CalPERS," Coupal said.
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