Transcript Dean Baker

The Origins and Severity of
the Public Pension Crisis
Presentation to EARN
Dean Baker
Co-Director
Center for Economic and Policy Research
September 13, 2011
Key Points on Public Pensions
1) The main cause of the shortfall was the
economic collapse.
2) The shortfalls are manageable (use percents,
not dollars).
3) The return assumptions are reasonable .
The Crisis Caused the Shortfall
Change in Public Pension Assets Since the Recession
3800
3600
3400
$ billions
3200
3000
2800
2600
2400
2200
2000
2007
2008
Actual
2009
'2010:3
With Risk-Free Rate of Return (4.5 percent)
The Crisis Caused the Shortfall
1) The plunge in the stock market cost pension funds almost
$860 billion, compared with a situation where they earned
the risk free rate of return.
2) If state and local governments had continued to contribute
to funds at the 2004-2007 rate in 2008-2010, they would
have gotten another $77 billion contributions.
3) The total impact of the downturn was more than $930
billion, more than many estimates of the pension shortfall.
Putting the Shortfall in Context
1) Trillions of dollars are not informative, but they
are scary.
2) Pension shortfall is equal to about 0.2% of GDP
over the next 30 years (differences by state).
3) The shortfall is equal to about 1.5% of state
budgets and a bit more than 2% of tax revenue.
Payment Needed to Reach Adequate Funding in 10 Years
(percent of GDP)
0.40%
0.35%
0.30%
0.25%
0.20%
0.15%
0.10%
0.05%
0.00%
AL
AK
AZ
AR
CA
CO
CT
DE
FL
GA
HI
ID
IL
IN
IO
KA
KY
LA
ME MD MA
MI MN MS MO
Payment Needed to Reach Adequate Funding in 10 Years
(percent of GDP)
0.40%
0.35%
0.30%
0.25%
0.20%
0.15%
0.10%
0.05%
0.00%
MT
NE
NV
NH
NJ
NM NY
NC
ND OH
OK
OR
PA
RI
SC
SD
TN
TX
UT
VT
VA WA WV WI WY
Payment Needed to Reach Adequate Funding in 10 Years
(percent of revenue)
20%
18%
16%
14%
12%
10%
8%
6%
4%
2%
0%
AL
AK
AZ
AR
CA
CO
CT
DE
FL
GA
HI
ID
IL
IN
IO
KA
KY
LA
ME
MD
MA
MI
MN
MS
MO
Payment Needed to Reach Adequate Funding in 10 Years
(percent of revenue)
20%
18%
16%
14%
12%
10%
8%
6%
4%
2%
0%
MT
NE
NV
NH
NJ
NM
NY
NC
ND
OH
OK
OR
PA
RI
SC
SD
TN
TX
UT
VT
VA
WA WV
WI
WY
The return assumptions are
reasonable
1) Should pensions assume risk-free rates of
return (4.5%) or expected rates of return on
assets (8%)?
2) Return assumption is reasonable – it depends
on current price to earnings ratios and
projected growth.
Economy-Wide Price to Earnings Ratios
35
30
25
20
15
10
5
0
Source: BEA, Federal Reserve Board, and author’s calculations.
Price to Earnings Ratios
(Risk Free Rate of Return)
15
10
5
0
-5
Source: CBO, Federal Reserve Board, and author’s calculations.
Implications of assuming risk free rates
1) Investing in equities would give volatility – but not gains –
in projected returns.
2) Increased near-term funding = less funding in the future.
(This is like pre-funding schools or fire departments.)
3) Managers would have to make up shortfalls in periods of
down markets just as they do now.
4) There will be pressure to not invest in equities:
a) Would raise the cost of pensions to taxpayers,
b) An incentive to drop DB pensions,
c) Then workers would have to invest individually in stock market.
Longer-term picture
1) Private sector workers have lost DB pensions.
2) Private sector workers need pensions.
CEPR plan:
A Voluntary Default Savings Plan: An Effective
Supplement to Social Security
(www.cepr.net/index.php/publications/reports/a-voluntary-defaultsavings-plan)
Conclusion
• Public sector pension plans are an important
part of employee compensation.
• They are affordable.
• The problem is that the private sector workers
don’t have pensions, not that the public sector
workers do.
www.cepr.net/index.php/component/option,com_issues/Itemid,22/issue,50/lang,en/task,view_issue/