Note to Morningstar: Municipal and state pension hemorrhage accelerating
From Fiscal Years 2007 through 2011, politicians and government pension fund managers blew all the money taxpayers and government workers contributed. All of the $611 billion that was supposed to be invested is gone. So is the $609 billion earned on investments. According to the latest U.S. Census Bureau Annual Survey of Public Pensions: State-and-Locally-Administered Defined Benefit Data, more than $1.22 trillion came in to the pension plans and more than $1.29 trillion went out instead of growing to pay guaranteed future benefits. Those promised benefits grew by about $1 trillion over the same period.
Worst of all, since Census collected those data pension investments have dropped as the obligations continue to grow, according to quarterly data through June 30. That puts municipal and state governments on a collision course with hidden pension debt I calculate at more than $5 trillion over the next 30 years.
Taxpayers, government workers and bond investors should remember that when reading Morningstar's The State of State Pension Plans: A Deep Dive Into Shortfalls and Surpluses launched Monday. The "pension research for municipal credit" will be an annual report taking on the "difficult task" of "Identifying the critical truths and separating them from misinformation ...."
"Both governing entities and the taxpaying public are beginning to grasp and acknowledge the potential, chronic consequences of looming pension liabilities," report author Rachel Barkley writes. "During the past several years, ever-escalating pension costs and liabilities have induced new, sometimes unrelenting, pressure on the finances of state and local governments still hampered by the recession. Current data indicates these pressures are expected to persist, even intensify."
That impact is worse than Morningstar reveals. Although Barkley accepts a 70 percent funding ratio as "fiscally sound," the American Academy of Actuaries, specialized accountants who calculate pensions, this year released a statement that even 80 percent is inadequate. Even using official deceptive pension accounting "over 40 percent of all states fall below" the 70 percent threshold.
The Morningstar study cites new pension accounting guidelines set to go into effect over the next three years that are "expected to lower the overall funded levels, noting that "Retirement Research at Boston College indicated the aggregate funded level for 126 large pension plans it sampled would decline from 76 percent based on fiscal 2010 levels to a low 57 ...."
Even that is optimistic. A State Budget Solutions study this year by economist Andrew Biggs based on standard accounting showed the aggregate national funding ratio at 41 percent.
To get an idea how bad it really is take a look at Wisconsin, which Morningstar puts at 99.8 percent funded. According to Biggs, the funded ratio actually is about 60 percent. That is corroborated in a study by economists Robert Novy-Marx and Joshua Rauh showing Wisconsin taxpayers owe the equivalent of $1,500 per household in extraordinary taxes every year for 30 years just to pay pension debt. They will receive no government services or benefits of any kind for the additional $45,000 they must pay.
Morningstar calculates pension debt per capita and puts Wisconsin residents on the hook for only $23 each. At 2.43 people per household, the actual number is more than $18,500 per capita.
The difference is between real accounting and the intentionally deceptive accounting politicians use to loot pension funds. For decades they have used government workers' pensions as secret credit cards.
As a leading provider of investment research, Morningstar is taking an interest in government pensions because there is an intense legal debate about who gets paid first, pensioners or bondholders, when a municipality defaults or a state simply runs out of money even though it cannot declare bankruptcy.
Numerous recent studies by economists calculated that as presently operated, all defined benefit public pension funds will run out of money, some sooner, some later, but all eventually.
The Government Accountability Office warned in a1979 report, Funding of State and Local Government Pension Plans: A National Problem, "To protect the pension benefits earned by public employees and to avert fiscal disaster, State and local governments should fund on an annual basis the normal or current cost of their pension plans and amortize the plans' unfunded liabilities." State and local politicians did not, and they are proving now they never will. The defined benefit pension system is fundamentally, systemically flawed and prey to what actuaries call "moral hazard."
Politicians can make promises they know they won't have to keep and pile up debts they won't have to pay. There is nothing under the existing system to stop it.
The only solution is to freeze defined benefit plans now, amortize the existing debt and shift to defined contribution or hybrid cash balance plans.
As a leading provider of investment research, Morningstar's next pension report should state that clearly.
Links to the studies are at State Budget Solutions:
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