DECEMBER 5, 2010, 7:57 P.M. ET
Pension Woes Prompt GOP Move
The new Republican House leadership, whose party benefited in November from public antipathy toward the bailout of banks, is moving to avoid a federal bailout of state and local pension funds.
Congress has little authority over, or responsibility for, state and local public-employee pensions. But with pension liabilities increasingly stressing state and municipal finances, the prospect that the problem will end up in Washington’s lap has some academics and politicians urging that the federal government move preemptively.
In New Jersey, concerns about cuts in public pensions have led to a rise in retirements this year.
The latest wrinkle: A bill introduced last week by three prominent House Republicans to deny states and localities the ability to sell tax-exempt bonds—the lifeblood for many governments—unless they report their pension-fund liabilities to the Treasury Department. The federal tax-free status of interest on municipal bonds helps generate demand for the bonds and lowers government borrowing costs.
The goal, the congressmen say, is to get a better handle on funding woes of public pensions, which they say are not always forthcoming about the true extent of their financial exposure.
For decades, the federal government has regulated corporate pension funds and a federal agency, the Pension Benefit Guaranty Corp., can bail them out.
But there is no such federal backstop for state and local employee pensions. Some argue that Washington would be hard pressed to ignore a pension plan if it threatened a major government insolvency.
“The point of this is to smoke the rats out of their holes,” said Rep. Devin Nunes of California, who introduced the bill. “What is the total amount of pension debt? No one really knows.”
The bill’s co-sponsors are Paul Ryan of Wisconsin, expected to chair the House Budget Committee, and Darrell Issa, likely chair of the Committee on Oversight and Government Reform.
Critics say such reporting strictures would trample states’ rights, which are often most fiercely guarded by Republicans. “Accounting is primarily the states’ responsibility, and states are sovereign,” said Kinney Poynter, executive director of the National Association of State Auditors, Comptrollers and Treasurers.
The actual amount of pension debt turns on a subject that for years has been a wonky sideshow: pension accounting.
Many economists believe that state and local pension-fund obligations are underestimated, but the degree of underfunding is a matter of debate. Joshua Rauh, a professor at Northwestern’s Kellogg School of Management, who was asked by Mr. Nunes’s office for help on the bill, has said the states have a combined $3 trillion in unfunded liabilities. Others have called his assumptions too conservative and his dire predictions about pension funding overblown.
Keith Brainard, research director of the National Association of State Retirement Administrators, estimates the unfunded liabilities of states to be more like $750 billion.
States themselves have been making a variety of moves to try to address the issue, including raising the retirement age for new workers and curtailing annual cost-of-living adjustments.
The bill proposes that pensions estimate the size of their liabilities based on an average of certain U.S. Treasury bond rates. That approach would create a much lower so-called “discount rate” than public pensions currently use. Many large pension plans use a discount rate near 8%, which is based on their expected rate of return on their assets. Many corporations use a discount rate of about 6%.
The lower the discount rate, the higher the liabilities—and the bigger the problems appear. Mr. Rauh, for example, has argued that pension funds are using what are in essence unrealistically high discount rates.
Mr. Brainard called it “nonsensical” to propose more conservative accounting for governments than corporations, which have a higher probability of going out of business and of not being able to pay their debts than governments that can levy taxes.
The bill attempts to sidestep questions of federal authority by setting up an incentive—or some might say punishment—mechanism for adherence. Mr. Nunes justifies the reporting requirement by saying taxpayers deserve to know the true picture regarding pension funding.
“This is a first step in trying to put some pressure on the states and limit the exposure to federal taxpayers before it comes to a bailout,” said Mr. Rauh of Northwestern.
Still, rather than using the federal tax code as a threat, Mr. Rauh suggests using it as a “carrot” to compel states to change their pension systems. In a recent paper, he proposed expanding tax subsides to states and local governments if they would agree to begin offering 401(k)-style pensions—a less costly option than the current defined-benefit plans.
If they make the change for new employees, Mr. Rauh proposes that they be allowed to issue tax-subsidized bonds to fund legacy pension liabilities.
Write to Michael Corkery at michael.corkery@wsj.com
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