Pensions & Investments
September 2, 2013

The Obama administration is using the federal government’s financial clout to attempt to weaken public employee pension reforms passed last year by the state of California. In particular, it is holding up transit project funding for California to try to force state officials to dilute those reforms.

This is unacceptable. States must to be able to decide their own terms and scope of their collective bargaining agreements, just as they determine the terms and funding for their pension programs.

They are on the hook for funding their public employee pension obligations, for drawing on taxpayers and retirement plan participants to contribute to the pension plans. The federal government is not on the hook, and should never be on the hook.

States are supposed to be sovereign entities, not administrative units of the federal government. Last year, California sought to control its pension costs by enacting the Public Employees’ Pension Reform Act. It raised contributions and the retirement age of public employees. [EXPAND Read more]

Gov. Edmund G. Brown Jr. was correct to stand his ground against the attempt to use the Federal Transit Act to undo the pension reform for state, local and transit district employees.

The leaders of the unions representing the employees protested the reforms under a provision in the act that allows the Department of Labor to hold up transit funding if it finds collective bargaining rights are impeded, according to an Aug. 19 Pensions & Investments story.

Labor Secretary Thomas Perez expressed concern that the California reform statute weakens collective bargaining over pensions. Both the DOL and state officials were negotiating over the dispute, according to the story.

But Mr. Brown shouldn’t support a state legislative compromise to exempt public transit employees from the pension reform law in an attempt to satisfy concerns of the Department of Labor. A successful appeal by public transit employees in the state could lead other public employees to seek similar accommodations, and wind up unraveling the financial reforms.

Mr. Perez endorses a level of collective bargaining that federal employees generally don’t enjoy. At the federal level, employees are generally prohibited from negotiating on pay and pensions, said Chelsea Bland, communications specialist, American Federation of Government Employees, an AFL-CIO affiliate.

Pension reform is spreading across the states. Wisconsin and Florida, among others, have passed pension reforms in the last two years in an effort to shore up the defined benefit plans for public employees. However, President Barack Obama, having sought unsuccessfully to derail Wisconsin’s reform by endorsing union member protests of changes in collective bargaining proposed by Gov. Scott Walker, and now pressuring California over its reforms, seems to oppose these efforts.

Many public employee retirement plans are unsustainable, often because politicians have over promised on benefits and failed to make the actuarially required contributions. Because the bulk of their obligations aren’t due for many years, plan sponsors were able to defer proper funding, relying on the growth of current assets to push back the reckoning. But now the day of reckoning is near.

The funded status of 134 state defined benefit plans fell to 73% in fiscal year 2012, from 77% the previous year, according to a study by Wilshire Associates Inc. earlier this year. The rise in interest rates this year should improve funding levels but won’t put to rest concerns about sustainability.

California took a major step to protect future pension benefits by seeking to reduce costs and better secure their long-term financing, and it should be supported for that step.

Instead of trying to challenge reform, Mr. Perez ought to encourage steps designed to keep defined benefit plans affordable and promote their viability. He should know what a challenge it has been to maintain those plans for public employees. But Mr. Perez appears to lack a grasp of the costly consequences of the fragility of pension reform.

Many private-sector pension sponsors have given up, deciding they don’t want to continue to pay the bills, while other corporations have declined to start such plans.

Mr. Perez should appreciate the challenges of defined benefit systems because he oversees the private-sector pension system as well as being one of the three members of the board of directors of the Pension Benefit Guaranty Corp. The private sector is abandoning defined benefit plans because of costs and regulation. Mr. Perez should appreciate how reforms would contribute to shoring up the system.

As Warren Buffett noted in a 1975 memo about pension financing, virtually all elected officials — and he might well have included appointed administrators — “simply never fully grasp the magnitude of liabilities they are incurring by relatively painless current promises. In many cases in the public area the bill in large part will be handed to the next generation, to be paid by increased taxes or by accelerated use of the printing press.”

California can’t print money and the governor, in embracing reform, recognizes that taxpayers have reached their limit. Joshua Rauh, professor of finance, Stanford Graduate School of Business, has shown in his research the desperate funding condition of some public plans.

If benefits are kept reasonable and contributions affordable, defined benefit plans can serve as efficient vehicles for meeting retirement income needs.

But federal government efforts to weaken reform risks pushing costs higher and compelling sponsors, even public ones, to move to defined contribution plans, exposing participants to financial market volatility, leaving them without the protection of defined benefit plans. [/EXPAND]