Continuing Public Pension Reforms Could Hurt the Economy

NCPERS contends that lawmakers do not understand how public pensions work.

In the wake of the financial crisis of 2008, public pension plans made several reforms, including benefit cuts, and increases in the age and tenure required to claim benefits. And, some state and local governments have contemplated moving to a defined contribution (DC) plan structure.

A report from the National Conference on Public Employee Retirement Systems (NCPERS) suggests that if these reforms continue, it will result in economic losses.

“Spending by retirees stimulates local economies, and pension assets are an important source of capital for businesses. America’s mortgage market, its private equity and high-tech industries, and many of its start-ups rely on pension funds as a source of capital, the report says. It cited a study by the National Institute on Retirement Security that found defined benefit (DB) pension plans stimulate $1.2 trillion in economic output

The NCPERS 2015 analysis of empirical data from the 1980s, the 1990s, and the first decade of this century shows that when pension funds are dismantled, income inequality rises. “Rising income inequality in turn drags the economy down,” the report says.

In addition, the NCPERS contends the damage to the economy due to pension cuts is usually greater than the pensions’ positive impact. “Whereas the full positive impact of pensions on the economy may not be realized because recipients may spend only a part of their checks in local economies, the negative impact of pension cuts is realized in the economy dollar for dollar—and then is multiplied several times over as it ripples throughout the entire economy,” according to the report.

NEXT: Lawmakers don’t understand how public pensions work.

The report notes that opponents of public pensions apply rules to public-sector pensions, such as rate-of-return assumptions, that are designed for private-sector pensions. It also makes the point that full-funding of public pensions is not as urgent as full-funding of private-sector pensions. “Whereas private companies could and do go out of business, state governments are here to stay. Does anyone really believe [any state] will go out of business and find its assets sold to a foreign nation?” the report says.

Media rarely reports the fact that an increasing proportion of pension fund money comes from investment earnings, NCPERS says. For example, in 1940, 43% of pension fund money came from employee contributions, 35% from employer contributions, and 22% from investment earnings. In 2014, the same figures were about 7%, 17%, and 76%, respectively.

In addition, it is not commonly reported that the funding status of public pensions is steadily improving. The 2015 Census data shows state pensions are funded at a level of 76.3%. Also, NCPERS annual survey of state and local pension plans shows that the average funding level has been steadily improving since 2014.

NCPERS also found that states are exploring new ways to ensure adequate funding for pensions. Oklahoma, for example, has set up a pension stabilization fund to be used when any state pension fund’s funded level falls below 90%. The City of Pittsburgh has dedicated a portion of revenues from parking assets to its pension fund. States like Wisconsin and Texas are recognizing the value of economies of scale by allowing small districts to join statewide pension plans. NCPERS’ study also shows that in 41 states, state and local governments share the responsibility of funding pensions.

NEXT: The cost of dismantling public pensions

Using models and parameters developed through its 2015 analysis of empirical data, NCPERS estimates that if dismantling of pensions continues, the economy will suffer $3.3 trillion in damage in 2025.

According to the report, “We measure economic growth in terms of median income rather than gross domestic product (GDP) because GDP hides improvements in the incomes of ordinary people. For example, the GDP may be growing, but all the income growth may be going only to the top 1% of the population. Similarly, we also measure the size of the economy by total personal income. Our analysis shows that in 2025 the economy is likely to grow at 4.00%, the same rate predicted by the Congressional Budget Office. This rate, we project, will be dragged down to 3.29% if the dismantling of public pensions continues. The total size of the nation’s economy, as measured by total personal income, is projected to be $19 trillion in 2025, and will be reduced by about $3.3 trillion if dismantling of public pensions continues.”

NCPERS says policymakers and governments must explore ways to address funding issues without dismantling public pensions. “While the best way to adequately fund public pensions is through progressive tax reforms, the approaches explored in this study are less harmful than dismantling pensions,” the report suggests.

Approaches discussed in the report include:

  • Asset monetization and dedicated revenue sources;
  • Well-designed pension obligation bonds;
  • Reform of revenue systems;
  • Closing of wasteful tax loopholes;
  • Management of risks in economic ups and downs; and
  • Other options, including stabilization funds and economies of scale.

The report, “Economic Loss: The Hidden Cost of Prevailing Pension Reforms,” is here.