Payoff from California pension reform will take awhile
Savings won't be immediate; other states more aggressive
By Randy Diamond | September 17, 2012
California Gov. Edmund G. Brown Jr.'s signing last week of a pension reform package not only won't bring significant savings for years, but also pales in comparison to efforts by other states to rein in public pension costs, policy experts say.
It took almost a year for Mr. Brown and the state Legislature to agree on the specifics for reform of the state's pension system for public workers, but that time period might seem short given the decade it will take for the bulk of the billions of dollars in estimated savings to be realized, state retirement system studies show.
The slow road to savings in budget-strapped California is because the Golden State's version of pension reform on Sept. 12 only reduces benefits for new public workers instead of targeting existing workers, as more aggressive states have done, said Alicia Munnell, director of the Center for Retirement Research at Boston College.
The estimated savings for the state projected by the $239.3 billion California Public Employees' Retirement System, Sacramento, over the next 30 years is $10.6 billion on the low side and $12.55 billion on the high side. At most it is 2% of the state's own estimate that it will pay $620 billion in pension contributions for workers over the same period. Most of the savings also won't start for at least a decade.
“I don't want to minimize what has been done, but it is certainly small compared to the problem,” Ms. Munnell said. “A lot of other states have taken more dramatic action.”
Not as aggressive
Ms. Munnell said the California plan isn't as aggressive as the plans of states such as New Jersey, Colorado and Rhode Island, which attacked spiraling pension costs by reducing or suspending cost-of-living increases for retirees or reducing benefits for existing employees.
“It's a missed opportunity,” she said.
A July report by the National Conference of State Legislatures showed lawmakers in seven states approved major changes to their pension systems in 2012. Among those, Alabama and South Carolina increased the retirement age for existing employees to get full benefits while Wyoming ended cost-of-living increases for retirees until the state retirement plan is fully funded. Kansas closed its defined benefit plan to new employees and instituted a cash-balance plan, while Virginia added a hybrid plan for new employees.
A hybrid plan for new employees had been the centerpiece of the California governor's pension reform plan when he unveiled it in October 2011, but Democratic legislators refused to go along with the Democratic governor. In its place, Mr. Brown and the Legislature agreed in August to a provision for new workers that caps the amount of annual salary that can be applied to their defined benefit plan at $110,000 if they are entitled to collect Social Security or $132,000 without Social Security.
The new plan also raises the retirement age for maximum benefits to 62, from 60, and has various measures designed to avoid pension spiking — the increasing of benefits in the last years of a worker's career.
There is one provision of the California plan that is actually more aggressive than other states, said Ms. Munnell. That provision ensures that all state employees' contributions cover half of their pension costs, excluding unfunded liabilities.
Ms. Munnell said her group's research shows the average contribution to a pension plan nationally amounts to 14%, eight points paid by the employer and six by the employee.
In California, most state employees already contribute an estimated 8% of their pay, higher than the national average, because of changes pushed by former Gov. Arnold Schwarzenegger in 2010.
But the California legislation extends the contribution-sharing provision to all state workers as well as to hundreds of thousands of municipal and school employees covered by CalPERS, the $152.2 billion California State Teachers' Retirement System and 20 other county pension systems. Some of those workers made no contributions before the law was passed.
The cost-sharing for non-state employees is subject to collective bargaining, but the law allows the normal cost to be imposed on workers if a labor agreement is not reached in the next five years.
Workers' contributions to the costs of their pensions are capped at 8% for most employees and 12% for police and fire personnel.
CalPERS estimates the total savings over the next 30 years — for the state as well as the several hundred county and local governments and school districts that contract with the retirement system for benefits — will amount to between $42 billion and $55 billion. Officials at the West Sacramento-based CalSTRS estimate that increasing the retirement age will result in total fund savings of $4.9 billion over 30 years.
Overall, the new law makes too little a dent, argued David Crane, who was Mr. Schwarzenegger's special adviser on jobs and growth and now is president of Govern For California, a group working to elect independent-minded lawmakers.
Mr. Crane said the state's $620 billion figure for its retirement costs over the next 30 years is conservative, because some economists argue the costs likely could top $1 trillion.
”Put another way, even after the legislation, the state will still incur more than $500 billion in retirement costs over the next 30 years, and more likely nearly $1 trillion in retirement costs over that period,“ said Mr. Crane. Mr. Crane said he is not against defined benefit plans, it just that more comprehensive, cost-cutting reform is needed in California.
He cited Rhode Island as an example, where state Treasurer Gina M. Raimondo worked with the Legislature in 2011 to approve a package raising the retirement age for most current employees, freezing cost-of-living adjustments for retirees and creating a hybrid pension plan consisting of a smaller defined benefit program benefit and a mandatory defined contribution plan. The changes resulted in the Rhode Island Employees' Retirement System unfunded liability being reduced to $4.3 billion from $7.3 billion.
The unfunded liabilities of CalPERS and the CalSTRS are far greater than Rhode Island's plans — a combined $140 billion, according to the pension systems' own estimates. But Mr. Crane and other critics argue the real figure is at least double that, disputing the way the systems calculate the numbers.
Won't reduce liability
California's reform legislation will do little to reduce the liability. Alan W. Milligan, CalPERS chief actuary, said at a special CalPERS meeting in late August called to discuss the pension reform bill, that the legislation would “have no material effect” on the system's unfunded liability.
Dan Dunmoyer, a CalPERS board member, said he is concerned because the pension reform law does not address reducing CalPERS huge unfunded liability.
“The legislation was a positive first step, but the expression I would like to use is it's one mile in a marathon,” he said.
CalSTRS officials aren't counting on the reform changes to make a significant impact on its estimated $64.5 billion unfunded liability, said spokeswoman Gretchen Zeagler.
Instead, she said the system will be developing a plan that it hopes the Legislature will consider in 2013-2014 with suggestions on how to increase contributions from its funding partners —school districts, teachers and the state. (Unlike CalPERS, CalSTRS can't change contribution rates of its partners without legislative approval.)
The Little Hoover Commission, a non-partisan independent California oversight agency, in February 2011 recommended sweeping pension changes including freezing benefits of current employees. “The only way to manage the growing size of California governments' growing liabilities is to address the cost of future, unearned benefits to current employees, which at current levels is unsustainable,” the report stated.
Stuart Drown, the commission's executive director, said in an interview he was disappointed the pension bill was not more far-reaching. But he said other developments, including voter approval of rollbacks for pension benefits of current workers in San Jose and San Diego could set the stage for future changes at the state level.
This article originally appeared in the September 17, 2012 print issue as, "California payoff will take awhile".