Washington public pensions are at risk. There are several; a few appear to be safe, but others not at all. Washington is above average among the states, but that's like getting a D grade when half the class flunks. The Seattle Times dug in and did their own analysis. They found a shortfall of $31.1 billion, that's $31,100 million.
As public pension plans come under fire around the country for being overgenerous, underfunded, loosely managed budget-busters, Washington state’s massive system looks pretty good by comparison.
But that may not be good enough.
An analysis by The Seattle Times suggests that the system’s promised benefits are much bigger, and its real assets smaller, than official numbers indicate.
The analysis, using market-based data and methods, pegs the total gap between the present-day value of future benefits and assets on hand at more than $31 billion.
By that measure — one advocated by many outside experts and economists — the system’s nine major defined-benefit plans together have only about 64 cents in assets for every dollar of liabilities, rather than being 100 percent funded as the official figures indicate.
State officials defend the current way of valuing the pension system’s assets and obligations, saying it’s the industry standard.
But the pension industry, prodded by regulators and bond-rating agencies, is slowly moving toward a market-based approach — treating pension promises much like state debt, and recognizing changes in the market value of pension assets immediately rather than smoothing them out over several years.
Advocates of that approach say it paints a truer picture of the pension plans’ financial condition…
… The state actuary’s office, which does the heavy number-crunching for the pension system, projects that over the next century it will have to pay out some $440 billion across all its defined-benefit plans. (Those plans pay a set amount per month based on the worker’s salary and length of service, which makes it possible to project their future obligations fairly accurately.)
Matt Smith, the state actuary for the past decade, explains that this stream of future payments has to be converted, or “discounted,” back into present-day dollars before it can be sized up against the plan’s assets. The trick is picking the most appropriate discount rate; the bigger the rate, the smaller all those future obligations look in today’s dollars.
If the plan’s discounted liabilities are bigger than its assets, the plan is underfunded.
According to Smith’s current analysis, all but two of Washington’s nine major defined-benefit plans are fully funded, with combined liabilities worth $60.2 billion and assets worth $60.7 billion.The exceptions are two plans covering state workers and teachers that were closed 35 years ago.
Indeed, a recent report from the Pew Center on the States, using 2010 data, found Washington’s pension system was the fourth-healthiest in the nation.
But a growing number of economists, academics and outside pension experts say the standard approach is fundamentally flawed. Most plans, they say, use discount rates that are too high, making the present-day value of their pension promises look smaller than they really are.
“I’ve seen people get so red-faced about this issue,” said Alicia Munnell, director of the Center for Retirement Research at Boston College.
Public pensions such as Washington’s operate under special accounting rules, one of which allows them to assume a long-term rate of return on their investments. Most plans have picked a rate between 7 and 8 percent; all but one of Washington’s plans assume 7.9 percent.
That assumed return is significant, because another special rule lets public plans use it as their discount rate — something corporate pension plans were forced to abandon nearly two decades ago.
Critics such as Munnell and Biggs say this rule ignores the fact that pension benefits are effectively almost as guaranteed as state bonds. That, they say, means they should be valued similarly to bonds.
And that (market) picture is that interest rates are near zero. The investment portfolios include other things, of course. But the state assumes 7.9% gain per year, boldly decreasing to 7.7%. Where can I get that? On the other hand, some states and agencies are already facing reality:
• The California Public Employees’ Retirement System (CalPERS), the nation’s biggest public-pension fund, now uses the market values of its assets to determine its funded status, saying that market value “represents the true measure of the plan’s ability to pay benefits at a given point in time.”
• Last year Indiana’s public pension fund became the nation’s first to drop its assumed rate of return — and hence its discount rate — below 7 percent, citing low bond yields and volatile stock markets.
• Moody’s, one of the three big bond-rating agencies, is considering changing the way it analyzes state pension plans. Its proposed new method, which would use market values of assets and a discount rate based on an index of high-grade corporate bonds, would nearly triple the total unfunded liability of the nation’s state and local pensions, from $766 billion to $2.2 trillion.
• Even the Government Accounting Standards Board, which sets rules for public pension plans and has long defended the actuarial approach, is changing its tune. Under new rules the board issued last year, underfunded plans will have to start discounting their “excess” liabilities using municipal-bond rates.
$31.1 billion short. We are headed for, no, already in trouble. We have to put more into the current plans and consider options for the future.
Sea Times Editorial with graphic.