MOORLACH UPDATE — Pension Crisis — December 20, 2009

The Orange County Register continues their series on the cost of public safety this Sunday.

If you need a primer on the history of the current pension crisis facing the state and Orange County, then this is the read for you. 

This past Tuesday we were presented with our Strategic Financial Plan.  Allow me to show you a couple of slides from that presentation.

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The first slide shows that next year the County’s employer contribution to our pension plan will be up to $346 million.  We’ve just been at the quarter-billion mark for a few years.  And by fiscal year 2014-15 it will be $546 million, up by $200 million per year from next year!  Where is the funding for this fixed expense going to come from?

The second slide shows the reason:  rising contribution rates.  I can remember from my practice days that if an employer was in a really good financial situation, they would contribute 15 percent of salaries into a defined contribution plan.  If they were in a super financial situation, they would add another defined contribution plan, a money purchase plan, and add another 10 percent contribution.  Very few clients could afford a 25 percent contribution.  For non-safety members, the current contribution rate is 18.42 percent of salary.  It will be 31.36 percent in fiscal year 2014-15.  Unheard of.  For our safety members, we’re at 52.74 percent right now!  It goes up to 83.96 percent in fiscal year 2014-15!

Historically, the County of Orange has been able to keep revenues and expenses in line.  Accordingly, this next slide will make the hair on your neck stand straight up.  Look at the deviation between what our departments want/need to spend to maintain current level of services and what our available resources are.  Consequently, we need to keep them at the “Baseline Uses” level.  And the pension costs will be pushing out critical services.

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As you can tell by my FIVE-YEAR LOOK BACKS, I have been telling you so.  In fact, the last LOOK BACK below should prove my point. 

After this week, you should be comforted that I have a long history of pointing out issues, events and trends that we as taxpayers must be diligent to act upon.

Have a great Sunday!

Bad data, unfounded fears fueled pension crisis

By TONY SAAVEDRA and BRIAN JOSEPH

The Orange County Register

It is widely considered one of the worst financial decisions in the state’s history – a toxin spreading through the budget books of cities and counties across California.

Like lemmings jumping off a cliff, local governments copied the Legislature’s 1999 decision to increase tax-guaranteed pensions for public safety workers and other public employees. And now those governments are straining under the weight of the liberal pensions, a problem made worse by the recessionary downturn in tax revenues.

Some other states are also wrestling with retirement costs. But California is the only one that allows nearly all public safety workers to retire at age 50 with 90 percent of their salaries.

The Register found that decisions to expand public safety pensions were backed by bad financial assumptions, pushed by self-serving administrators and buoyed by unproven arguments that the generous retirements were needed to keep police and firefighters on the payroll.

"The attitude was, ‘Hey, we have a ton of money, let’s give it away," said Marcia Fritz, president of the Foundation for Fiscal Responsibility, a pension reform group in Sacramento. "There weren’t a lot of deep thinkers there."

Public safety advocates insist that financial concerns are overblown and the money is well spent.

"What are you going to pay … so you can sleep safely at night?" asked Ron Cottingham, president of the Police Officers’ Research Association of California.

A lot, as it turns out.

In the ten years since the pension increase was adopted, payouts by the California Public Employees’ Retirement System have more than doubled, to $10.8 billion, while resources fell from an actuarial surplus of $32.8 billion to an actuarial unfunded liability of $35 billion in 2008.

CalPERS prefers a different number for its unfunded liability – $30.3 billion – a calculation that includes the market value of its assets. The state Legislative Analyst has criticized CalPers for using conflicting figures – obscuring the true cost of the pensions.

Former legislators say they were assured by CalPERS in 1999 that the state’s share of the liberalized pensions would reach $300 million at most. According to CalPERS most recent numbers, the pensions are now costing the state $3 billion a year.

Municipalities are not doing much better.

The Orange County Employees’ Retirement System paid out $410.4 million for pensions in 2008, compared to $139.6 million in 1999. Meanwhile, OCERS’ unfunded liability rose to $3.1 billion, from $85 million in 1999.

With so many police officers and other public employees cashing in on the new pensions, local governments have been forced to take out loans, raid reserves, cut budgets for other necessities – or worse.

•The city of Vallejo filed for Chapter 9 bankruptcy in May 2008, crushed by the weight of employee salaries, pensions and overtime. The city is working on a new spending plan they hope will guide it out of bankruptcy.

•Buena Park, facing pension costs of $6.7 million this year, borrowed $17 million to bring down its yearly payments to the state retirement system.

•The tiny city of La Palma, faced with pension costs of $1 million out of a $9 million general fund, dug deep into its reserves and pulled out $3.8 million to bring down its yearly payments.

•In the tourist town of Santa Cruz, pensions contributed to a $9 million budget gap this year. Officials said they would have to lay off city employees or cut pay 5 to 10 percent.

"The pensions are not sustainable long term," said Santa Cruz finance director Jack Dilles.

BAD FINANCIAL ASSUMPTIONS

How did California get into the pension mess? Experts say it was one part good intentions, one part bad luck, and one part public safety lobbying gone awry.

The good intentions: The pensions were "attaboys" intended to reward public employees with tough and dangerous jobs.

The lobbying: Public safety supporters argued the generous pensions were needed to keep good officers and firefighters from going elsewhere.

The bad luck: The recession dried up investments that were supposed to cover the cost of the new retirements.

In at least one case, in the city of Orange, council members were guided in their discussions by a city manager who had served earlier as the fire chief and stood to collect a pension of $162,312 a year under the new formula.

Former Councilman Mike Alvarez said the city manager, David Rudat, never disclosed during the discussions that he stood to benefit.

"He should have excused himself," Alvarez said. "I’m surprised the city attorney didn’t say there’s a potential conflict here."

Rudat, now retired, explained that although he "orchestrated" the information that reached the council, he made sure not to advise them on how to vote.

Now council members say Orange could become insolvent if something isn’t done. The city is expecting its pension costs to soar to $23 million in three years from $13 million. The city’s annual general fund budget is $87.5 million.

"If we don’t start addressing this, the music is going to stop," said Councilman Denis Bilodeau. "And it’s not just us. Everybody is in the same boat."

But PORAC spokesman Cottingham said public safety pensions have unfairly taken the brunt of the public’s frustration with the economy.

"What did the police and firefighters do to cause the slump in the housing market?" he said. "What did police and firefighters do to cause the recession? But how quickly do they get blamed for it because of the pensions they receive."

Added Wayne Quint, president of the Association of Orange County Sheriff’s Deputies, "The biggest myth about (the pensions) is that powerful police unions tied up public officials and their money."

STATE TROOPERS WERE FIRST

Former state Senator Deborah Ortiz makes no apologies for bringing SB 400 to the floor on the last day of the legislative session, Sept. 10, 1999. The bill was originally written to increase the cost–of-living benefits for survivors of teachers and other employees. It morphed into a law raising the pension formulas for all state employees and public safety workers.

Ortiz, D-Sacramento, said in an interview that the statute was considered just another employee contract negotiated between then-governor Gray Davis’ staff and labor unions. She said legislators typically ratified the agreements without discussion.

"Trust me, if there had been concerns, there would have been debate, and it wasn’t because they didn’t have time to debate," Ortiz said.

As usual, the bill was approved, allowing CHP troopers to collect nearly their entire salaries at age 50, with 30 years of service.

The League of California Cities, one of the most vocal groups in state politics, stood silent on the pensions.

"That is the worst mistake we have ever made," said Dwight Stenbakken, deputy executive director. "The effects of that (pension) bill have been so profound in terms of twisting our retirement system."

By August 24, 2000, a follow-up bill by then-Assemblyman Lou Correa, D-Santa Ana, gave municipal governments such as Orange County authority to boost their pensions.

In the fall of 2001 – just a few weeks after terrorists steered jet planes into skyscrapers — the Orange County sheriff’s union and then-Sheriff Mike Carona lobbied for the pension increase. Carona told supervisors it would be tough to attract good people and retain others without the "3 at 50" pension formula.

Former chief financial officer Gary Burton remembered the sheriff’s union going to each member of the board of supervisors, saying that the increased pensions would not cost the county because of large reserves in the fund.

Burton said he carried a different message to the board members: "Guys, there’s no such thing as a free lunch. This thing is going to cost you money."

The financial warnings, however, hit a wall of patriotism, said former supervisor Charles Smith.

"At the time, the first responders were the darlings of the American people, and they took advantage of that," Smith said.

Earlier this month, Orange County’s chief financial officer predicted that the county will end up spending 84 percent of its law enforcement payroll on pensions by 2014, up from 50 percent this year.

Local government officials interviewed by The Register said they were misled by public safety lobbying and representations by the $200-billion California Public Employees’ Retirement System that it would cover the costs of the pension increases with surplus funds and investments.

Former Buena Park Councilman Steve Berry, who spent 12 years on the panel, said he regrets voting for the pension increase, but he fell victim to the argument that all the good police officers would leave.

"There was no quantifying, no study, just hearsay that was being handed out," Berry said. "They threw out a lot of information that was unsubstantiated."

In the San Bernardino County city of Montclair, Mayor Paul Eaton said he was confused by the financial data.

"It was (a matter of) not understanding what the heck we were doing," said Eaton. "We did it and said, ‘Whoa, what just happened?"

Montclair, a city of 38,000, agreed in March 2005 to reduce the pensions for new police and fire employees.

In Vallejo, Mayor Osby Davis said the council got in over its head trying to satisfy the labor unions.

"We were robbing from Peter to pay Paul, and then Peter went broke and there was no one to rob," Davis said.

REJECTION AND REFORM

Not every California municipality agreed to the pension increase

In Los Angeles County, officials refused to liberalize the pensions with no real repercussions. There was no exodus to other departments that offered the benefit, no problems in recruiting.

"We don’t lose a lot of (people)," said Los Angeles County Sheriff’s Sgt. Tracy Palmer, with the department’s personnel administration bureau. "And I’ve never heard of (pensions) as a reason for leaving."

In fact, police recruiters in Orange County and elsewhere say that most of the new hires are so young, they are barely thinking about retirement, if at all.

"There’s always been a difficulty recruiting qualified police officers, but pensions have nothing to do with it," said George Wright, head of the criminal justice department at Santa Ana College, which is part of the district that runs the Orange County Sheriff’s Academy.

With municipalities waking up to the consequences of the pensions, many are trying to change the system.

Sixteen cities in San Diego County are looking at lowering pensions for new hires. New public safety workers would get 60 percent of their salaries at age 50 – versus 90 percent under current law. General workers would have to wait until age 60 for their 60 percent. The plan is being scrutinized throughout the state.

Meanwhile, the Foundation for Fiscal Responsibility is working on an initiative to reduce retirement plans for new workers.

And Orange County, which got hit with $1 billion in budget cuts this year, is attempting to take back the public safety pensions and promote new, less-expensive formulas.

In February 2008, the county sued the deputy sheriff’s union in a landmark effort to erase the expensive "3 at 50" formula for police. The county argued that the pension plan violated state law because retired public safety employees were paid extra compensation for work they had already done. The county also argued that the plan was illegal because it spent general fund money without voter approval.

A trial court judge has rejected the county’s arguments – which even pension reformers say are a long-shot. After spending $1.9 million in legal fees, the county is reaching deeper into its pocket and taking its fight to appellate court.

Meanwhile, Orange County created a two-tier pension formula for non-public safety employees. Under the plan, existing employees can keep their old benefits or choose a hybrid plan that mixes a reduced pension with a defined benefit component, similar to a 401 (k). New employees also will get to choose between the two options.

It is unclear just how much the plan will save and how many employees will sign up for it. Like the lawsuit, the new plan is being watched statewide.

According to Orange County Supervisor John Moorlach, there are few other options.

"There’s always the Vallejo strategy," he said.

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John Moorlach, Orange County Board of Supervisors, is an outspoken critic of oversize public pensions.

MINDY SCHAUER, THE ORANGE COUNTY REGISTER

Staff writer Jennifer Muir contributed to this report.

FIVE-YEAR LOOK BACKS

December 20

1994

On this day in history the Board of Supervisors authorized the retention of Salomon Brothers, Incorporated and Salomon Brothers Asset Management to assist in providing financial advisory and investment banking services and investment advisory and asset management services.  Translated:  Help us with a big commission check as we help you liquidate your portfolio.  Sorry, there goes my cynicism again.

The OC Register had a regular editorial column by Sir Eldon Griffiths called “Oranges & Lemons.”  His column for this week was “Making lemonade from investment lemons.”  Sir Eldon followed a style that Peter King of the Times used a few days earlier.  However, it was not Peter King that attended my press conference.  That distinction goes to Valerie Mitchell of Costa Mesa’s Channel 3.  Sir Eldon was so kind, I’m including his entire piece.

This column so far has avoided comment on Orange County’s big bust. Why add to the Niagara of recriminations? I changed my mind, however, after listening to the burst of applause from 650 prominent citizens that greeted a slim young man with a beard at last week’s meeting of the World Affairs Council. Since then, I’ve looked up the warnings that John Moorlach _ he’s the young guy with the beard _ offered to the Board of Supervisors during the recent election campaign.

It was last February when Moorlach first invited the media to the storefront office in Costa Mesa where he runs his small CPA practice. Only one reporter, Peter King of the Los Angeles Times , showed up, but Moorlach, undaunted, pressed on with the announcement that he would run for county treasurer against incumbent Robert L. Citron. Why? Because under Citron’s management, said Moorlach, Orange County’s finances were heading to Kingdom come. That was nine months ago.


Moorlach had passed copies of Citron’s portfolio to half a dozen independent advisers. They confirmed his worst fears, and he raised such questions as:

Should our reserve funds be in such high risk investments?

Who is keeping the incumbent (Citron) accountable?

What if he is running these investments beyond the red line month after month?

Excellent questions, recalls reporter King. Looking back, that is!

Yet neither Moorlach‘s concern nor his campaign to replace Citron cut any ice with the Times.  Dismissing Moorlach as an inexperienced young whippersnapper, it printed a good-looking picture of Citron and endorsed him for re-election.

Enter Tom Fuentes, chairman of the Orange County Republican Party. Blasting the Times endorsement, Fuentes charged that the treasurer "repeatedly has used his non-partisan office to trick voters into believing that what they are receiving is an official tax bill, only to find in it partisan Democratic campaign mail."

Citron, he continued, plays with the truth the same way he gambles with taxpayers’ money in his Las Vegas-like, high-risk investment strategy. "Safety and liquidity be damned is Citron’s attitude." Strong stuff, Fuentes. So was his recommendation: "John Moorlach is just the kind of anti-tax, pro-term limits leader we need in Orange County government." That was last June 5.

The rest you know. Moorlach kept bombarding County Hall and the media with statements and bundles of documents that showed its portfolio was heading for a cliff. Nobody wanted to know. The supervisors ignored his warnings. Citron cruised to re-election, strongly backed by the Times.

And now – with $2 billion of your money and mine down the tubes?

The chairman of the Securities & Exchange Commission last week said the entire Board of Supervisors should be thrown out of office. The Times had the effrontery to pontificate that the warnings its own editors had dismissed as a "bum rap," revealed that its nominee, Citron, had been running "a public gaming table" about which the supervisors (like the Times itself) failed to raise any questions. And Moorlach who had promised, if elected, to unwind the county’s portfolio on his first day in office? He got his ovation at the World Affairs Council, but no one in the treasurer’s department has called him from County Hall.

Hence my first suggestion. Forgive me if it stems from experience as under secretary for local government finance in a former British government. My job was to determine how much several hundred local municipals would take in from their local taxes and how much they needed from the national treasury to cover the cost of education and welfare – federal mandates, as we call them here. I therefore took a keen interest when two big English municipal authorities went bellyup.

Unlike Orange County, where the supervisors remain in charge, the "rescue squad" in Britain went in with full power and authority to make changes.

Isn’t that what Orange County needs? A temporary "financial supremo" with full powers to develop a workout that the supervisors either accept and implement or resign? How about asking John Moorlach to do this? If he’d beaten Citron he’d already be on the job!

Meanwhile, let’s try to look on Orange County’s crash as an opportunity, not just a disaster. The public is sufficiently angry, the business community sufficiently alerted, the supervisors sufficiently support a radical downsizing in the size, the scope, and the cost of the county’s bloated government.

Supervisor Roger Stanton has made some sensible suggestions along these lines. He wants a task force to work with private-sector managers on streamlining and reducing county bureaucracy. That’s a start. But let’s get on with privatization. Sell off county assets that private enterprise can operate more efficiently and profitably (thereby generating more revenue). One outstanding candidate: John Wayne Airport. Likewise, get the county out of all activities it does not need to be in, such as running buses or delivering water.

Marian Bergeson, who, to her credit, pushed for privatization in the State Senate, now has an opportunity to help make these things happen as a supervisor. But like her colleagues, she does not seem to me to have the Thatcher-like political will power that’s needed to push it through. Hence my second suggestion, a privatization strike force to include half a dozen, not more, of O.C.’s top business leaders. The Reason Foundation, which specializes in privatization, is ready and willing to provide the drive and cutting edge.

Sir Eldon is president of the Orange County World Affairs Council, a former member of the British House of Commons, and director of the Center for International Business at Chapman University.

In the Letters to the Editor section, Talk Show, Scott Peotter was back in Register showed a bias for Citron.”  Mr. Peotter gives a brief account of stories during the campaign that may be of interest to those new to receiving the MOORLACH UPDATES.

Everyone seems to be trying to point fingers regarding “Black Thursday” behind the Orange Curtain.  I thought I would take the time to point out the deficiencies of the “fourth branch of government,” particularly the Register and its lead reporter Chris Knap in the coverage of the treasurer’s race between John Moorlach and Robert Citron last spring.

Had the Register not had a bias for the county’s only Democrat, this travesty could have been avoided with only minimal losses as the truth would have come out in several months and interest-rate increases sooner.  There would have been only lost opportunity and reduced returns to investors instead of massive losses.

Examples of journalists’ biases start back in April, 1994.  First, after articles appeared in the Wall Street Journal and other national media carrying Moorlach’s analysis of Citron’s county portfolio (slow learners, these reporters), Knap wrote an article, “Earnings champ takes heat in treasurer’s race” [news, April 19], trumpeting Citron’s claim that the motives of Moorlach were political and not substantive.

Then there is the article by Ricky Young [“Tustin withdraws from O.C. investment pool,” news, April 15] describing how Jeff Thomas, a Tustin city councilman, had the city finance director withdraw Tustin’s money from the county fund because he thought it was too risky.  Then Young [“Foes make issue of money woes,” news, April19] proceeded to describe how Thomas had filed personal bankruptcy in 1986 and quoted Citron saying, “If he can’t handle his own personal finances, how can he advise the city on theirs?”

Then there is the “O.C.’s sky didn’t fall” article [news, Sept. 9] where Knap tweaked a line from Mark Twain:  “Reports of Bob Citron’s death spiral appear to have been greatly exaggerated.”  Knap further quoted Raabe saying, “It would appear that our investments were pretty well on target,”  John Moorlach was still “unrepentant, “saying that “ . . . I was too conservative in my remarks.”

The Register’s news reporter’s biases during the campaign for treasurer came through very clearly in these and other stories.  It is amazing how stubborn facts are.

Scott Peotter

Irvine

In the OC Register reporter Chris Knap followed up on the prior day’s Dow Jones article in “Peer Swan’s ironic voyage from booster to bailout.”  The article recounts Swan’s support of Citron, then his starting the run on the pool.  Since it’s a great read and great history, I’m providing almost all of the article.  It shows you that I even had opposition from within the Republican Party, including the Lincoln Club, at the time.  It was an amazing journey, to be sure.  This will also explain why Scott Peotter has been writing letters to the editor.  The tragedy for Chris Knap is that he believed Peer Swan.  This must have been a difficult article for him to write.

                “There’s a lot of people who have a problem with the way things went down,” said John Gullixson, Yorba Linda’s mayor pro tem and a director at the Sanitation Districts.

                “He had information he should have shared with us.  Instead he pulled out $100 million (for Irvine Ranch Water District) while he kept his mouth shut to everyone else.”

                “I don’t think I’ve done anything wrong and I don’t think I’ve misplaced any trust,” said Swan, 50.  “I worked in good faith and I go to sleep in the nighttime very well.  The only regret that I have is I wasn’t quicker on the draw.”

                Swan came back from serving in Vietnam in 1971 and sought a finance degree at California State University, Fullerton.  He was a few years behind Merrill Lynch salesman and Citron confidante Michael Stamenson, but the two soon met through another broker.

                In 1986, the water district directors sent him to the county Sanitation District, where he’s chairman of the agency’s Finance Committee.  He’s also a director of the county GOP’s Lincoln Club and a director at Southern California Bank.

Audits show that tiny Irvine Ranch Water District’s operating expenses were just $37 million last year, but Swan earned $86 million in interest.  He took $400 million in reserves and leveraged it to control $1.2 billion in investments.  Most of the borrowings went into Citron’s pool, where they earned 2 points more than Swan was paying to borrow.  That’s called arbitrage.

At the sewer agency, Swan encourage directors to borrow $100 million in 1993 and invest in a special arbitrage deal with Citron.  The deal earned profits the first year, but by March the arbitrage earnings were negative – the cost of borrowing was higher than the interest the loans earned.

Swan counseled the directors to stay in, figuring that rates would drop and the deal would become profitable again.

But that day never came.

Between Feb. 4 and April 18, the Federal Reserve Board boosted interest rates three times, and the bond market took heavy losses.

Costa Mesa accountant John Moorlach, campaigning against Citron, suggested that the treasurer was risking calamity.

“I don’t feel at risk, period, from (Citron’s) investment strategies,” Swan told The Orange County Register in April.  “To create doubt in the stability of the investment pool is irresponsible.”

But that same month, Swan was moving to unwind Irvine Ranch Water District’s own arbitrage deals, which had been earning the district 12 percent returns.

Swan said he made the move because Stamenson and other Merrill Lynch gurus had told him they expected rates to keep going up.  Swan left more than $400 million of the water district’s money and $450 million of the sewer agency’s cash in Citron’s pool.

In June, Irvine was debating whether to borrow $60 million and roll over an arbitrage deal it had with Citron.  Irvine City Councilman and Sanitation District Diretor Barry Hammond was taking Moorlach’s view, until he got a call from Swan.

“He called and lobbied the City Council to continue with (the county pool).  His reasoning was that it would be crazy for us not to take advantage of the good returns we had last year.  He said it was a very solid pool and the investment would be safe.  It’s the only vote I regret in four years on the council.”

In August, Swan went into Superior Court to knock out portions of Irvine Ranch Water District board candidate Scott Peotter’s ballot statement.

Peotter, a Moorlach campaign volunteer, had charged that Swan engaged in speculative investments with the water district’s treasury.

Swan denied that in a sworn affidavit, saying the money was in the county treasury.  “It has not been ‘sunk’ into ‘risky investments,’” Swan said.

Judge Leonard Goldstein knocked out everything from Peotter’s ballot statement that wasn’t autobiographical – and ordered Peotter to pay Swan’s lawyer bills.

On Oct. 13, Citron said in a Register story that he’d bet wrong on interest rates.  One week later, Swan was sitting in Citron’s office, asking him to set up an investor committee and restructure the portfolio.

Citron said he’d think about it; Swan said h

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