CalPERS starts over.
The leaders of the country’s largest pension scheme, overflowing with glee over recent investment gains, are choosing riskier bets on future returns rather than consolidating the underfunded system with more contributions from employers and employees in the country. government.
It is not the first time. The pension plan’s risk-taking propensity left it very exposed during the Great Recession. Assets in California’s public employee pension system have plummeted in two years, from 101% of what was needed to pay public service pension benefits to 61%.
Indeed, more than a decade after the Great Recession, and despite an unusually strong market last year, CalPERS only returned halfway to the full capitalization target, and much of that gain took place during the past year. The pension system still has only 80% of the funds it should have on hand. About $ 120 billion is still missing.
Californians are the losers when the bets of the retirement system fail. As part of CalPERS ‘complex accounting, government agencies, not employees, must fill the shortfall by raising taxes or cutting services.
The solution is simple but politically difficult. To strengthen funding, the pension system should require employers and employees to pay more money. But unions and many local government managers are resisting, preferring instead to throw the proverbial can on the road.
And CalPERS ‘board of directors, dominated by union representatives and elected officials accountable to workers, continues to allow this risky behavior. They did it again earlier this month when the board set its ROI target.
It is a highly technical process that the board undertakes every four years. But the consequences are profound for public employees, state and local government agencies, and taxpayers. In the Bay Area, CalPERS provides pensions to employees in Santa Clara County and most cities except San Jose and San Francisco.
The less money the pension system expects to receive from returns on investment, the more it has to ask employers and sometimes workers to ensure that the system is financially sound. But the more the system puts pressure on public agencies, the less money is available for employee increases and other government operations.
Thus, there is enormous political pressure to keep employer and employee contribution rates low by keeping investment return projections artificially high. But when those investments don’t materialize, the shortfall essentially turns into long-term debt that current and future generations of taxpayers must cover.
Employees do not carry this burden. Instead, our children and grandchildren must pay a portion of the labor costs for the utilities we enjoy today.
This time, as the board began to set its ROI target, CalPERS policies tied to last year’s strong market performance automatically lowered the previous 7% target set four years ago. years at 6.8%.
But board members learned that according to current projections by experts, their current portfolio could only achieve a 6.2% annual return on investment over the next 20 years. If they wanted to reach the 6.8% target, they would have to reorient their investments and take more risks. This is because higher returns usually come with more risk of larger losses.
Or, board members were told they could lower the target to 6.5%, keep the risk lower, and ask employers and public sector employees to pay more money. . The board rejected this, opting instead for the riskier option.
How risky? To put it in perspective, consider the possibility that investment losses could plunge system assets below 50% of what they should have on hand to cover the cost of pension benefits that had already been vested.
Fifty percent is considered a key benchmark, but somewhat arbitrary. As the old saying goes, it takes money to make money. Or, in other words, a system that depends on returns on investment to survive needs money to invest.
Without sufficient funds, the system risks a financial death spiral. Actuarial experts say that if a pension system slips below the 50% threshold, it’s very difficult to get back up.
In the case of CalPERS, the board learned that if they chose the 6.8% investment target, there was a 20% chance that most local government pension funds would fall into disrepair. below the 50% threshold over the next 30 years. But if he chose the 6.5% target, the risk of hitting this potential death spiral was reduced to 15%, but local government contribution rates would be higher.
CalPERS board members chose the most financially risky option rather than asking workers and employers to pay a more appropriate share of the cost. They have chosen to gamble with your money.