Pension Boosts are a Bad Bargain

There was a pattern to the OC Register’s Sunday Reader Rebuttals on the rationalization of granting pension plan enhancements.  They were granted in order to solve another problem.  It was a conversion of a soft cost into a long-term, irrevocable hard cost.  This is not a good bargain for the taxpayer.

No one knows the future.  But, banking on an indefinite, perhaps never-ending 8 percent average annual return on investments is not a prediction we would want to rely on.  Not with head winds like we’ve seen the past few years.  If I had more space I would have commented on numerous economic trends that make achieving such a high return a difficult proposition.

The awkward part is that our public employee pension plans are virtually stuck.  They cannot reduce their interest rate assumptions from 8 percent to a lower projection, like 6 percent.  If they do, it will dramatically increase their unfunded actuarially accrued liabilities and, therefore, their employer contributions and, in the case of employees who contribute, their contributions.  And the employers are tapped out—and employees may be as well.

With the Metropolitan Water District agenda indicating a vote for today, Cathy Taylor, the Register’s Editorial Page editor, gave me the green light to submit a column on the topic yesterday morning, before my OCTA Board meeting, with an early afternoon deadline.  I did it during my lunch break, with editing assistance from my staff.

After I submitted this piece (which is my version—as their website has not posted it as of this moment in time), we found out that the Metropolitan Water District Board had continued this item.  Good.  Now, they need to sharpen their pencils and do some taxpayer-friendly negotiating.

Short-term gain, long-term pain

Trading budget concessions for pension boosts is a bad bargain

I want to commend the Register for publishing the Reader Rebuttals defending recent public employee pension plan enhancements (“Firefighter pensions,” August 23, and “Water district pensions,” September 13).

The theme in both rebuttals is “we’re fixing another problem by improving our pension benefits.”  The ploy is to have better retirement benefit formulas either for “temporarily reducing daily staffing by four firefighters, thus eliminating 12 employees” or for “placing future employees under a more restrictive set of rules to qualify for retirement medical benefits.”

There are two major flaws in this tradeoff. 

The first is that there should not be a tradeoff at all!  These entities should reduce staffing and retirement benefit formulas.  They should address unfunded actuarially accrued liabilities with their retiree medical and pension plans.  They should never give an irrevocable pension enhancement to address a short-term concern.

They’re trading one problem for another and that’s where the second flaw enters.

There is the flaw of presumption in the public sector.  Public employee unions have no risk in how their pension plans perform.  The employee feels the burden if the market has a downturn with an employer-provided defined contribution plan.  Public employees with a defined benefit pension plan do not.  In fact, it’s the taxpayers who feel it by increased pension contributions to fund already generous retirement formulas.

What are our elected leaders who approve these negotiations presuming?  They are presuming a rosy long-term investment horizon.  Public employee defined benefit pension plans assume an annual average rate of return of 8 percent.  Although this may have occurred over the past 15 to 20 years, it certainly has not occurred in the past 5 to 10 years.  If the pension investment income is lower than 8 percent, it increases the annual contribution amount to the retirement plan through decreased municipal services or increased taxes (usually couched as a “pothole tax”).

We are just now commemorating the one-year anniversary of the downfall of Lehman Brothers and the liquidity crisis that dramatically reverberated Wall Street and the rest of the world.  Odd, unexpected and unplanned events can negatively impact a portfolio in the blink of an eye.  Even in the commercial paper world, one that last saw a first-tier credit default more than 30 years ago.

We’re watching very unsettling trends in this capitalistic country.  We’re vociferously debating the socialization of the health care industry.  We’re talking 15 percent of the annual gross domestic product of the United States being nationalized.

We’ve seen the government takeover of General Motors.  We may have had the recent “heroin fix” with the “cash for clunkers” program.  But, what will you do to resolve the need for your next fix?

Why would employees lock in a higher retirement plan benefit when there is no guarantee of an annual 8 percent return on your money?  Because they are presuming that it will happen.  And, by the time the impacts come home to roost, the problem resides with someone else.  The elected officials who voted for the benefits will be long gone.  And the employees who encouraged the upgrades are now retirees.  Why should they worry?  The taxpayers will be guaranteeing their retirement benefits.

Now is not the time to fix one long-term problem with the creation of another.  The Municipal Water District must fix their retiree medical and pension programs.

Fixing legacy costs may be difficult to negotiate, but the County of Orange has done it.  The county negotiated a new retiree medical plan that reduced the unfunded actuarially accrued liability from $1.4 billion to $400 million.  This action reduced the annual required contribution from $131 million to $26 million.

We have also required that new employees take a “1.62% at 65” tier formula, instead of the current “2.7% at 55” formula.  We’re even encouraging current employees to drop down to the lower formula, which will become a reality when the Governor signs SB 752.

And, if that isn’t enough, the county negotiated no pay raises for the next couple of years.  If an employee wants to obtain a net pay increase, they can do so by dropping down to the lower pension formula.

If a public employer like the County of Orange, with approximately 18,000 employees, can successfully negotiate these necessary solutions, without flawed tradeoffs, then why can’t a small city or a regional water district?

We’re in a recession of the likes none of us has seen before.  Taxpayers are paying higher taxes and energy costs and finding their personal net worth declining.  To saddle them with a poorly negotiated contract and higher water rates is unconscionable. 

Today the Metropolitan Water District votes on their contract.  Their Board should conclude that its negotiators can do better and send them back to the drawing board, because presumption is a lousy management policy.

FIVE-YEAR LOOK BACKS

2004

September 12

In this Sunday’s Commentary section, editorial writer Steven Greenhut’s weekly column was titled “Welcome to Hazzard, … er, Orange County.”  It mentioned the 3-2 vote for the pension increase, ignoring “the warnings of Treasurer John Moorlach and others.”

September 14

The Foothills Sentry had me on the front page and on their editorial page.  “Moorlach to run for Supervisor” was the front page headline.  The column by Editorial Writer Bob Fauteux read “Patriotic duty vs. Orange County service,” contrasting military pensions to local government civil servant retirements.  Here is one selected paragraph.

County Treasurer John Moorlach likened the latest county employee contract, with its many risky terms and assumptions, as entering a lobster trap with no easy escape.  How about a train, loaded with highly dangerous financial risks, coming down a dark tunnel headed at the citizens of the county?  The cost of county government will go up and the level of service will go down.  Local taxpayers will bear the brunt of the financial damage to their pocketbooks.

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