The Observation Deck

The mainstream media is not reporting it yet, but public employee pensions are absolutely dead in the water. Every one of them, everywhere: state, local, teachers, etc. And they all have been for the last decade or so. With no hope (absent horrific inflation or massive bailouts) of ever being able to keep their promises, not even close.

Down below I will speculate on why the mainstream media won’t report on it. The amusing thing is, for now they instead report on the “challenges” faced by multi-employer plans, the much-smaller private plans typically run by trade group unions. The Central States (truck drivers) pension has been written about lately. Its members and retirees are resisting a 50% haircut. And even cleveland.com just wrote about the “pending insolvency” of the local iron worker’s pension.

And let me offer this. Often the media says that a given public employee pension plan “will become insolvent” in, say 2026. In fact, virtually all public employee pension plans are ALREADY INSOLVENT. Their liabilities today greatly exceed their assets. 2026 would actually be the year it RUNS COMPLETELY OUT OF MONEY and cannot even pay the light bill much less anything to its retirees. Is this misuse of financial terminology purposeful? Is it designed to help people think that the problem is not nearly as severe as it really is? You decide....

Well the mainstream media may not be accurately (if at all) reporting the public employee pension fiasco, but alternative media is, and has been, for years. See for example pensiontsunami.com. Now I read about the recent efforts of public employee pension backers (politicians and plan sponsors) to muzzle even the actuaries (click here). And BTW this particular author correctly describes public employee pension plans as a “slow-motion train wreck” that utilize “deeply dishonest accounting practices.”

How deeply dishonest, you ask? At the core of the public employee pension nightmare is, as is often the case, the assumptions. Most importantly, the “rate of return” assumption, how much a plan is projected to earn per year on its assets. Until very recently, most public employee pensions have long assumed that fund assets (stocks, bonds, real estate, etc.) would return 8% annually. Of course this has been lunacy for the better part of the last decade. There simply is no 8% to be had, anywhere. That’s a fantasy. Many assets haven't returned 8% for the entire decade!

So why do plans continue to use outrageous RoR presumptions? Because the rate of return assumption directly affects their solvency outlook. Let’s take the Ohio STRS (teachers) pension fund for example. For many years, it assumed an 8% rate of return. Up until around 10 years ago, that was not entirely unreasonable. Even “super-safe” short-term treasury notes were earning 5% or 6%. But around 2008 all that changed. Now, an 8% rate of return assumption is a non-starter. It’s absolutely impossible, especially for a fund with the “safe” risk profile befitting of a retirement plan.

But if a fund properly recognizes a much lower RoR, say 3%, it no longer can also presume the future growth it needs to (hypothetically) pay current and future retirees. It instead outwardly acknowledges that it will run completely out of money even sooner, and its CURRENT insolvency is indisputably laid bare for all to see. Even to the hacks from the mainstream media. So, for example, Ohio STRS did not take this step eagerly. Instead, they first waited several years. Then just a couple years ago, under political pressure, they finally “bit the bullet” and lowered their 8% RoR to (drum roll please….)

7.75%. Woo-hoo! We’re saved!

STRS did make a few other equally minor changes to their plan parameters. “Phased in” of course over several years, and not imposed on current or soon-to-be retirees. None of which, even taken together, is or will be nearly enough to render STRS solvent as judged even by their own actuaries. STRS is STILL insolvent. Even with the changes to things like retirement ages and COLAs it is presumed to have only 66% of the money it needs to keep the (modified) promises it has made to its current and future retirees. And that’s only IF it earns 7.75% a year each and every year from now on. Which it won’t because it can’t. Wow…. Just wow….

If STRS was a bank or another government-regulated private institution, it would be quickly shut down. And the thing is, STRS is in no way an outlier. As public employee pension plans go, STRS’s terrible financial condition is about average. Some plans are a little better, some are a LOT worse. Many have funded ratios of 50% or less and will run completely out of money in just a few years. Think Chicago (school district and city)....

Public employee pension plans aren’t just the elephant in the room. They’re the dirty bomb in mid-Manhattan. Estimates of the dollar under-fundedness of public employee pension plans range from as low as $1 trillion (using their own absurd rate of return assumptions, e.g. 7.75%) to as high as $3+ trillion (using reasonable rate of return assumptions, say 3%). That’s getting close to what the engineers say it will take to bring our nationwide crumbling infrastructure up-to-date, which of course we cannot afford either. Yet the mainstream media still singles out little private plans like Central States to “highlight the pension problem.” SEE? LOOK OVER THERE!

It seems to me that the extraordinary efforts by plan sponsors and politicians to stifle any broad recognition of the severity of the public employee pension plan debacle, abetted by a complicit mainstream media, is intended to replicate what the banks did a decade ago. They’re trying to postpone and perhaps even exacerbate the obvious extent of the problem until such time as they can assert with a straight face that the failure to bail out public employee pension plans will have a “catastrophic” negative impact on the economy. Just like the banks did. Then, just like the banks, they will demand (extort) taxpayers by way of our elected politicians for a nationwide bailout. Shut up and print more money! And the politicians will cave, just like they did back then. All that even though the economy would be completely unaffected by a taxpayer bailout of public pensions. It just changes who gets to spend the money. I hope it doesn’t come to that, but I’m fearful that such an outcome is getting baked in even as I write these words, also aided and abetted by the financial ignorance of our populace.

Anybody who follows the public employee pension fiasco knows what’s going on in Dallas. The recent DPFP plan fiasco has been well publicized. I won’t go into it, if you’re interested just google “dallas police fire pension plan problems” or click here.

Well the witch hunt has begun. Criminal investigations of the DPFP fund managers will soon be initiated. Click here for that news.

Quoting: “the reason (for the collapse of the DPFP fund) stems from abuses under the former administrator Richard Tettamant, who was ousted in 2014. The fund's former managers bet heavily on risky investments such as luxury homes in Hawaii, a resort and vineyard in California and Dallas' Museum Tower itself, and promised its hardworking police and fire employees unrealistic returns while enjoying lavish perks.”

Well of course neither of those two supposed “causes” should be blamed on DPFP fund managers. As for the benefits “promised,” fund managers don’t make them. Union leaders and city elected officials “negotiate” plan benefits. From the same side of the table I might add, without the participation of the real counterparty, the taxpayers. And as for the “risky investments,” the fund managers were forced into those by way of Federal Reserve induced ZIRP (zero interest rate policy). These days, the “promised” 8% rate of return cannot possibly be attained by way of “safe” (if there is such a thing) investments. So the fund managers took some extraordinary risks, presumably in plain sight.

The people doing the accusing (the mayor and other city officials) are MUCH more to blame than the people they are accusing. The fund managers are convenient whipping boys. Though I will add that "placement agents" and other such middlepersons sometimes co-manage funds in part for the benefit of themselves and connect friends....

The public employee pension plan fiasco is ubiquitous. It is just as bad, or almost as bad, in every state, city, county, school district and other such jurisdiction. The problem is approaching $10 trillion (that’s $10,000,000,000,000.00), an amount equal to half our current national debt. It is not resolvable in any way, shape or form. It is catastrophic. It will be interesting to see this play out over the next few years. Though I think we'll see the SHTF sooner rather than later. Dallas’ plan was supposed to be good for at least another decade. As Hemingway once said, collapse starts slowly, then happens all at once. Look to Venezuela....

Well the slow phase is just about over. Now it’s popcorn time….

Detroit sends its regards….

Well. We blew a few trillion dollars invading Iraq, Libya, and going through the motions with Syria. What is a trillion more, spent domestically?

Even the most willfully ignorant have been unable to avoid the recent spate of national news about public employee pension plans. And here in Ohio, in a classic “nobody’s looking” press release last Friday afternoon, Ohio’s STRS announced (click here) that it will reduce its rate of return assumption from 7.75% to, umm, well read the item and you tell me. I’m not sure. But I am sure it will add tens of billions to the tab. It will still be unachievable. And STRS will still be insolvent….

Then on Monday cincinnati.com weighed in (click here) with “Ohio Workers’ Retirement Money is at Risk”….

“Ohio’s five plans may be underfunded by as much as $289 billion. Even if they were “fully funded,” there would still be less than a 50/50 chance their investments would perform well enough to make every payment promised to retirees….”

(Note: $289,000,000,000.00 is a lot of money. Enough to run Ohio for about five years. But apparently not enough to make Ohio’s plans whole….)

Interestingly, this article goes where most don't, by acknowledging that Ohio is one of a number of states where public employee pensions are NOT constitutionally guaranteed, meaning taxpayers are NOT legally obligated to backstop promises made to public employees by their cronies in government (with taxpayers absent from any discussion). If you don’t believe that click here and scroll down.

As is the case nationally, the causes here in Ohio are many. “Promises” were far too generous for the funding. Life expectancies are increasing. Plans got raided a couple decades ago when they were reasonably well-funded (e.g. “13th monthly checks”). Then when problems first emerged, the can got kicked.

But perhaps the biggest problem, as this article in yesterday’s News-Messenger points out (click here), is that the Ohio funds have been poorly (and probably criminally) managed. Like so many other pension plans, some years ago the Ohio plans began purchasing exotic “investments.” You know, the stuff the sellers knew better than to own themselves. It just amazes me that there are buyers for “investments” that others are so eager to sell.

As a result, last year, a year when the stock market (and my young daughter’s 401k) earned over 10%, Ohio STRS and OPERS both earned less than 1%, thus falling even farther behind. Yet Wall Street firms took in almost $1 billion in fees from Ohio’s public employee pension plans for the “services rendered” by selling that horse-squeeze. It would be like if I charged YOU to park my beater in YOUR driveway. And now they’re stuck with that trash and its illiquidity for year to come, probably until it finally goes worthless and is written off. (I read recently where some pension plans have investments in the DAPL….)

The above-mentioned article ends by saying ”It’s as if Ohio pensioners, media and voters no longer expect basic competence and candor from state government. If that doesn’t change, this is just the start of our problems in Ohio.”

Sound familiar?

STRS and the other plans here in Ohio and elsewhere are classic Ponzi schemes. Money paid to current plan retirees comes not from earnings, but is instead stolen from younger members. If STRS and the other Ohio plans were run privately they would be shut down and liquidated, and the responsible parties would be investigated for criminal activity. But like the author says, basic competence, and apparently perhaps even lawfulness, is no longer even a basic expectation anymore.

I'm not sure what should be done. Public employees deserve retirement benefits commensurate at least with their funding. But these days the issues are so apparent that the plan beneficiaries who still ignore them are clearly culpable. At this point, certainly, ignoring the elephant in the room does not absolve you of it. It would be my hope that all parties can work toward a solution that makes these plans solvent again.

Tim, this is an interesting piece. The state may need to consider reintroducing new hire teachers & public employees into the social security system, and freeze the current plan. They may also opt to offer buyouts to certain retirees. It's quite the conundrum. I wonder exactly what that would cost the state, municipalities, and school boards. Ohio has traditionally had one of the better funded state pension systems. The lowering in assumptions on returns could also be related to lower interest rates, and assumed lower stock market returns after the rally. I agree, though, that illiquid investments need to be extremely limited (i.e. real estate, and even then vetted to an extreme). They should also be looking at costs, though, at .12% ($1 billion on $785 billion), it is a reasonable cost of business. Fees become an issue in the absence of value, which is obviously the case here. They should look at a more traditional allocation and maybe consolidate some of the holdings, as I'm sure they have major overlap.

The Board of Trustees of Ohio’s STRS (the government school teachers’ pension) has just voted (10-1) to completely suspend for at least five years the 2% COLA for currently-retired teachers “to preserve the fiscal integrity of the system.” The vote was, of course, announced on a Friday, so as to ensure little press attention. Click here for the STRS announcement of the change..

The elimination of the 2% COLA doesn’t sound like a big change, but it is. It means that current retiree benefits are finally being reduced, which is pretty much unheard of. They stiffed the younger, still-active teachers the last time around, the teachers who certainly are less responsible for the plan’s current shortfall. And in five years the change results in a permanent 10% reduction in future benefits. Yikes! I’m wondering if we’ll soon see legal action to delay enactment….

But changes like this are just the beginning if these plans are to avoid collapse. Even with this significant change, and other more modest changes made previously, Ohio STRS has only 70% of the money it needs to pay out the benefits it has already (over)promised. And that presumes a (revised) 7.45% future annual return on plan assets. Unlikely....

Changes like the COLA elimination are beginning to happen all over the country. Let’s hope we can find a way out of this mess. I’ve seen estimates of total nationwide underfundedness ranging as high as $8 trillion. That’s much bigger than all other potential student, auto, mortgage and credit card bad debt COMBINED! And most beneficiaries have no other source of retirement income.

But if taxpayers are to help manage this situation, the plans are first going to have to require their beneficiaries to make real sacrifices, as Ohio STRS appears to be doing. Residents are leaving states like Illinois, California and New Jersey that have the greatest public employee pension funding problems, though such issues are just a part of similar, even larger financial issues these states find themselves in. Let’s not join them….