In response to the overwhelming current and impending budget shortfalls stemming from Colorado’s economic shutdown from the coronavirus, the state legislature is considering reducing its contributions to the state’s already-underfunded public pensions.
In our view, that would be repeating prior years’ mistakes, and would increase the risk that even larger bailouts will be needed in the future. Addressing today’s crisis by underfunding the pensions could ultimately create another crisis of similar proportions down the road.
This past Monday, the legislature’s Joint Budget Committee (JBC) heard testimony from Ron Baker, executive director of the state’s Public Employees Retirement Association (PERA). At issue were the JBC’s staff recommendations affecting PERA.
Most of the recommendations consist of reducing the taxpayers’ contributions to PERA. One recommendation reduces the members’ contributions as well. All of these are designed to limit state layouts in the next few years, reducing the money available to PERA, but without any accompanying structural reform.
The JBC staff proposals include suspending the statutory $225 million payment for one year, delaying required 0.5% contribution rate increases for both the employer and the employee, delaying an additional required 0.75% contribution increase for employees, and reducing the Amortization Equalization Disbursement (AED) and Supplemental Amortization Equalization Disbursement (SAED) stabilization payments by 2.5% for one year. The AED and the SAED are adjustable additional payments made by the state to PERA’s trust funds, begun in 2004 and 2006 respectively. In addition, the statutory payment would be moved from the first day of the fiscal year to the last, essentially depriving PERA of those assets for two calendar years.
If the legislature enacts on all of the proposed cuts to PERA, they would total $117.5 million in foregone employee contributions in FY2020-21, and nearly $430 million in unpaid employer contributions. By comparison, in 2018, employers contributed $1.73 billion and employees contributed $738 million. While the 2020 contributions would have been higher still, it should be clear that these are substantial portions of planned and required payments that will not be made. Further, the proposal to reduce employee contributions is puzzling, as that would have no net impact on the state budget.
It is no secret that, thus far, 2020 has been a turbulent year for the markets. During her testimony, PERA’s Chief Investment Officer, Amy McGarrity, estimated that PERA’s investments were down roughly 8%. If the total return for 2020 were to be -10%, PERA projects that it would remain less than 60 percent funded for another 20 years. And that is assuming nothing but rosy returns every year after 2020. This would leave the fund vulnerable both to normal volatility from its aggressive investment mix, but also to additional market shocks.
In addition, while PERA is among the more generous benefit plans out there, its problems also stem, in part, from the state’s past failure to make adequate payments to the fund, whether it be from the employers or the employees. Cutting over half a billion dollars in contributions in what promises to be a weak year for returns repeats the mistakes of the past.
To be clear, both of us remain PERA skeptics. We consider it unlikely that PERA will reach its target of 100% funding by 2047 under the best of circumstances. We believe its current expected rate of return is unduly optimistic. We believe that current accounting loopholes make PERA appear to be better-funded than it actually is, and have enabled poor funding and benefit decisions. At a minimum, we believe that all future members should be given the opportunity, at any time, to opt into a defined contribution plan instead of being forced into a defined benefit plan that may not meet individual needs.
At the same time, current retirees and those near retirement have had promises made to them, and have made a lifetime of financial decisions based on those promises. They deserve to have those fulfilled. Shorting payments to PERA now puts those promises at real risk. Without making the structural changes necessary to put the program on a sound long-term footing, these proposed cuts are exacerbating a problem that will inevitably come back to haunt the state.
Amy Slothower is the project director for Secure Futures Colorado, and Joshua Sharf is a senior fellow in fiscal policy for the Independence Institute, a free market think tank in Denver.