The leaders of Colorado’s Public Employee Retirement Association (PERA) assure us that if we have patience, long-term investment returns of 7.5% will fully fund the program’s promises to retirees over the next forty years or so.
But what if those returns fail to materialize?
Moving PERA from the current defined benefit plan to a defined contribution or cash balance style plan would remove much of the burden of returns falling short from taxpayers, while helping along the long-term financial health of PERA.
Coloradans got a taste of that this past year, when PERA achieved a paltry 1.5% return on its assets. PERA’s Executive Director, Greg Smith, has dismissed concerns over the low returns, saying that PERA’s investment managers outperformed both their counterparts at other public pensions across the country and PERA’s own benchmarks.
But the consequences are real, and not so easily dismissed.
The market value of PERA’s assets fell roughly $1.6 billion to $42.5 billion, and the unfunded liability – promises which there is not enough money in the bank to cover – ballooned nearly $4 billion to $28.4 billion. PERA now has the money to pay for only 3/5 of its promises, back to 2011 levels.
Far from exonerating PERA, these returns prove the need for systemic change.
Nobody blames PERA’s investment managers for 2015’s difficult environment. They’re not the problem.
It’s that the current system places all of the the risk that sufficient returns may just not be possible on all Colorado taxpayers and citizens.
In 2014, the Legislature authorized a sensitivity analysis of a number of factors affecting PERA’s future. Most prominent was the return on investments.
Holding everything else constant, that analysis gave PERA’s State Fund – which provide benefits for state workers – a one-in-four chance of ending up 20% funded in 30 years, and of the School fund ending up 30% funded. That’s the same chance as flipping a coin twice and getting two heads. That same analysis found a better than one-in-ten chance of each becoming insolvent in that same time period.
I repeat – the investment risk is borne not by the employees, but by the taxpayers of the state. Unlike PERA members, most of us don’t have pensions, but rather 401(k)s. We and our fellow citizens pay for these retirement promises before we can begin funding our own retirements, children’s college, or even mortgages.
We also bear the investment risk of our own retirement funds.
When the crunch comes, as it has in so many other places, we will find ourselves with two unpalatable options: either increase taxes, which means less money for those not in PERA to invest in their own retirements, or cut services, such as reducing spending on education or investment in public infrastructure. Either of these will have the unintended effect of lowering growth – and returns – even more.
We will need to contribute more to our own retirements at the same time that PERA will demand more to cover its promises that were made on our behalf by politicians generations before. If the money simply isn’t there, what then will those promises actually be worth?
There is a better, fairer, more reliable way to help our teachers and civil servants plan for retirement.
Starting now, we can begin to move the investment risk back where it lies for the rest of us: to the employee.
Benefits that are already vested should not be touched. These represent benefits that have been earned, and promises that must be kept. But all future, unvested benefits, should be converted to a defined contribution or a cash balance plan.
A defined contribution plan, like a 401(k), puts the investment risk on the employee. A cash balance plan promises a retiree a certain cash amount upon retirement, based on salary and years of service. The taxpayers bear the pre-retirement investment risk. After retirement, it’s the members’ job to manager their own finances.
Doing this will move us closer to the ideal of measurable and predictable “total compensation” for teachers and other government employees.
PERA’s investment managers can keep their jobs. The PERA Fund could be one of the investment options offered for members, and given its performance over time, it might well be the preferred one.
More stability, more reliability, and more flexibility, mean more fairness. And who could be opposed to that?
Joshua Sharf manages the PERA Project at the Independence Institute, a free market think tank in Denver.