States Struggle with a $3 Trillion Pension Fund Shortfall

February 16, 2011; Source: Institutional Investor | This stunning article from John Keefe of Institutional Investor deserves to be read along with yesterday's Newswire on the impact of underfunded state pension plans on state budgets.

Keefe examines the various analyses and estimates the depth of the pension fund crisis. He contrasts low estimates of $500 billion to $1 trillion from the Pew Center on the States with a $3 trillion estimate from Joshua Rauh of Northwestern University and Robert Novy-Marx of the University of Rochester (for the underfinancing as of June 2009, when the markets were still falling in the first full year of the recession).

The aggregate funding of all state pension plans, according to Rauh and Novy-Marx, is 41 percent to 56 percent, in contrast to Pew's estimate, favored by the National Association of State Retirement Administrators, that the aggregate funding level was 84 percent. Wilshire Associates puts the June 2009 funding level at 59 percent. According to one state pension administrator, "If you drop below 40 percent funding, No. 1, you have no ability to survive another market event like 2008 . . . Second, liquidity becomes a major concern . . . Your asset allocation has to become more conservative, and earning less on the portfolio just speeds up the process of hitting bottom."

States are scrambling for fixes such as reducing benefits (like scheduled cost of living adjustments), raising retirement ages, or increasing employee contributions, but most have encountered significant, vocal, and intractable opposition from retirees and those close to retiring. Although Rauh and Novy-Marx suggest that reducing COLAs is the best immediate possible fix on the horizon, it generates tons of opposition from both employees and retirees – and the public employee unions such as AFSCME, who believe that the pension crisis is being exaggerated. AFSCME wants the state sponsors to put in more state revenues, that is, more from the state budgets' General Funds, which are already plunging through negative numbers.

Because he fears that the pension deficits will stimulate governors to ask Congress for yet more federal bailouts, Newt Gingrich is promoting legislation that would "allow states to petition for bankruptcy and force a renegotiation of pension benefits in the federal courts. Whichever way it turns out, either higher state contributions to the pension funds or state bankruptcy filings, the losers will be the citizens, communities, and nonprofits that look to state government spending as a critical safety net for people in need.—Rick Cohen