In investing as in most of life, it is human nature to worry about the future. Public pensions have long been an antidote to worry, providing teachers, firefighters, police officers and other public servants with assurance that they will have a modest but secure stream of income during retirement. After all, they are called defined benefit plans precisely because the amount they pay future retirees is predictable.
Investment returns, of course, have ups and downs. But public pensions are the quintessential long-term investment. Quarterly, half-yearly, and even annual results fluctuate, but what matters is the long-term trend over 20, 25, or even 30 years. And that trend is positive for public pension funds, the vast majority of which have patiently weathered every conceivable economic event and continued to meet their obligations.
Indeed, there is ample data to demonstrate that public pension fund investment returns over longer periods meet or exceed the assumed rates used by most plans. For example, the 30-year rolling average return, adjusted by plan size, has been consistently about 9% for each year since 2000, a period that included the deep recession of 2007 to 2009.
It is therefore disconcerting when alarm bells are sounded about pension performance by organizations that have made a cottage industry of attacking public sector workers. Some of these critics have advanced unsubstantiated claims about the implications of a single year’s decline in 20-year returns, focusing on a time horizon that they have cherry-picked because it neatly fits their pre-determined narrative.
Their short-sighted perspective is based on a political agenda of eliminating public pensions, not on financial reality. It’s a given that the investment return in a single year will not precisely match the assumed long-term return, but over the long haul, the assumed long-term rates have proved reliable. The fact that long-term pension investment performance edged down during 2016 should surprise no one, because so did essentially every other category of investing and retirement savings.
The critics’ highly touted alternative to public pensions is to transition plans to 401(k)-like structures, shifting all the investment risk onto the shoulders of workers. The very nature of a defined-contribution plan is that the employee contribution is the one thing that’s locked down. It’s important to recall that 401(k) plans were an accidental creation of the tax code, a loophole that corporations began to exploit in the early 1980s to lower their costs, and only secondarily to help employees.
For all their popularity, making 401(k) plans the cornerstone of most Americans’ retirement savings is a social experiment that is still playing out. We are just beginning to see the shortcomings of this approach. Employees rarely save enough, or they raid what they do save by taking loans and early withdrawals. And 401(k)s can exert a drag on the economy when participants take only minimum distributions during low-return years and thus have to reduce their spending.
In contrast, public pension plans have put over $1.5 trillion in benefit payments into the wallets of retirees since 2009, and have played an important role in American life for over a century. The National Institute on Retirement Security recently found that in 2014, public pensions paid $253 billion in benefits to nearly 10 million retired employees of state and local governments. Retirees’ expenditures from those payments collectively supported 3.4 million American jobs that paid $173 billion in labor income; $560 billion in total economic output nationwide; $305 billion in value added to GDP; and $92 billion in federal, state, and local tax revenue.
There is no denying that some public pension funds face funding shortfalls — but poor investment performance is rarely the reason. The culprit is the chronic failure of some state and local governments to make their legally required contributions, sometimes for as long as 15 years. While employees consistently contribute their fair share, some governments have had no compunction about shortchanging their teachers and public safety workers by withholding pension contributions.
We can’t eliminate the vagaries of short-term market performance. We can, however, focus on remedying more pressing threats to American’s retirement security, which include a lack of savings in the private sector. Multiple states have initiatives under way to give private sector workers access to state-sponsored versions of public pension plans. These efforts are worthy of attention.
Source: Pensions & Investments