Thursday, February 24, 2011

The Land of Pension Debt

All of the noise may be in Wisconsin but its neighbor to the South (the state that is hosting the Democratic legislators from up North) is quietly being sucked into a black hole of massive debt.  The same state that is the home of President Barack Obama...and Abraham Lincoln.  The Land of Lincoln could now be called The Land of Pension Debt.

Yesterday Illinois borrowed $3.7 billion to fund its state pension program.  Almost half of the state's $30 billion in debt outstanding has been borrowed to shore up the state's retirement fund.  However, it still is only 43% funded according to the bond-offering document.

According to a study by Josh Rauh of Northwestern University last year, the Illinois state pension plan is on a path to run out of money completely in 2018-just 7 years from now.  Illinois is currently paying benefits of about $15 billion per year out of its pension fund.  It expects $35 billion in revenues for FY2012 for the entire state budget after raising the state income tax rate late last year by 66% and corporate taxes by 48%.  If the pension assets run out as Professor Rauh projects, an additional $15 billion will be needed each year to cover the pension obligations (which are now covered by assets in the pension fund).  Where is that money going to come from?

Illinois did pass a pension reform bill last year that changes the rules for new hires beginning in 2011.  However, that will do nothing to solve the problem between now and when the money runs out unless the new hires are going to retire by 2018 ( I can only hope the Illinois service years requirements are not that short!).

The situation in my home state of Ohio is even more troubling according to Rauh's calculations.  Ohio will not run dry until 2023 but it is paying out $19 billion per year in pension benefits but it only has annual revenues of about $26 billion in its entire state budget.  Thus, the annual pension payments are almost 75% of what Ohio is bringing in each year. From this perspective, Ohio is in worse shape than Illinois if (when?) the pension assets run out.  This is the worst ratio of benefits to state revenues in the nation.

Illinois and many other states have created a state pension system that is simply unsustainable.  It is a house of cards and it is hard to see how it can be saved.  The only hope that they would seem to have to save these plans is to take immediate and drastic action on several fronts beginning with eliminating all cost of living increases (COLA) for current and future retirees (which is almost unheard of in any private sector plan), freezing all benefits at current levels for all state employees and converting to a defined contribution plan. 

These tough policy choices put you squarely up against the public employee unions.  That is why Governor Scott Walker wants the flexibility to carve benefit issues outside of the collective bargaining sphere in Wisconsin but is willing to bargain over wages.  Wages are certain.  Health care and pension costs are unpredictable.  You know what you have given in a wage increase. You have no idea what you have given in health care and pension benefits.  There are just too many variables and the employer bears all the risks on the downside.  The private sector has understood this for a long time. The public sector has not cared because they just relied on pushing the problem to current or future taxpayers.  It certainly has been a lot easier to push it on to future taxpayers in Illinois.  That is how you get a funded ratio of 43%.  Taxes are a dry hole right now and the can has been kicked as far as it can go.

There is no where to hide.  Certainly not in Illinois.  This is true whether you are a Democratic legislator from Wisconsin or Illinois!

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