Another Time Bomb-Pension Shortfalls

The stock market's steep decline is a ticking time bomb for state and local governments and universities that have their employees enrolled in defined benefit plans. Think the Federal Government is the only entity with bailout problems? Think Again.

The National Bureau of Economics Research published an article in September 2008 by University of Chicago professors Robert Novy-Marx and Joshua Rauch entitled “The Intergenerational Transfer of Public Pension Promises”. In the article, the authors pointed out that the value of Public Promises is $7.9 Trillion in the next 15 years. Their belief is that there is a 50% chance of underfunding these pensions by $750 Billion and a 25% chance of underfunding these pensions by $1.75 Trillion during this time period. One writer recently commented that this underfunding has grown to over $2.5 Trillion. Where is this money supposed to come from to pay these obligations?

So, let’s look at the State of California as one example of the looming problems. The State Legislature just came through a bruising battle to solve a $40 billion hole in the State budget. Taxes were raised on sales taxes (up 1%), car license fees (100% increases) and gasoline ($.12 per gallon). The cost to taxpayers is estimated to be over $1,200 per family per year. What we didn’t see in this debate was any discussion of projected shortfalls in pension obligations. The State of California has some of the most powerful employee unions in the United States and pension shortfalls will be huge given the recent drop in the market. How many billions will be required to “top off” these pension funds?? It remains a mystery but bears watching to see how it will impact the State’s deficit.

Now there is a second potential impact to each state. Taking a quick look at public universities and potential pension shortfalls in this sector, we expect to see pension shortfalls of several billion dollars for some of the largest university systems which, in turn, are creating funding stresses for Regents and State Legislators. For instance, the University of California system saw its investments drop by about $6 billion as of June 30, 2008. Facing a funding problem, the California Regents agreed to fund an additional $877 million against an estimated $2 Billion short fall. Since the stock market has only gotten worse since June 2008, we can only expect that the University of California pension shortfall will grow larger and will contribute to California’s budget deficit problems. It is safe to say that most other states have the same growing pension funding problem for public employee retirement systems and universities.

Are there any reasonable solutions for this ticking time bombs? It seems as if public pensions will have to be restructured and quickly or face looming bankruptcies in the near future. There are only so many tax dollars that can keep being transferred to unions at the expense of taxpayers that are struggling in a bad economy. Will any of the politicians recognize the problem and begin to make the hard choices needed? I doubt it but we must face it before the citizenry comes unglued.