5 takeaways:
➀ State and local pensions face massive shortfalls in becoming fully funded. Collectively, pension plans for state and local government workers have nearly $5 trillion in assets but would need $4 trillion more to meet all their obligations to current and future retirees. The payments are vital to the 11 million public-sector retirees, as well as to the U.S. economy in general: The annual benefit payments from the plans are equal to 1.5% percent of GDP.
➁ The funding shortfall is typically portrayed as a crisis for state and local governments. Academics, credit rating agencies, policymakers and journalists have repeatedly sounded the alarm that pension plans have insufficient assets to cover all expected liabilities. “Policymakers are always talking about the crisis in pension plans,” said Louise Sheiner, policy director of the Hutchins Center on Fiscal and Monetary Policy at the Brookings Institution.” She found that stories in the media about state and local pensions being in crisis peaked in the years after the 2008 financial crisis but has since fallen.
➂ A “public finance approach” to state and local pension funding shows they don’t have to be fully funded. In a 2021 paper from the Brookings Institution, Sheiner and co-authors from Brookings, the Federal Reserve Board of Governors and the Bank of England take a different view, saying that state and local pensions don’t need to aim to be fully funded. She compared it to the Social Security system. “They have some assets, but they’re very small and it’s a pay-as-you-go program – the money coming in is used to pay the money going out,” Sheiner said. “So as long as the taxes are at least as large as the benefits, you’re fine. … Nobody’s talking about making the kind of adjustments that would be necessary in order for the Social Security to be fully funded. Those would be massive.”
➃ Demands on state and local pensions and now hitting their peak. The Brookings authors analyzed 40 public pension plans, finding that 17 have lowered their cost-of-living adjustments since 2007, while others made plans less generous for new hires. The result is that pressure on these plans will ease in the next 20 years. If pension plans earn a reasonable rate of return, the Brookings analysis found that they will not exhaust their resources.
➄ Public officials face a trade-off of current needs versus future worries. For lawmakers – and the reporters covering them – the debate about fully funding public pensions revolves around whether current taxes should be spent to help eliminate pension shortfalls or to pay for current needs. The Brookings authors argue that the money would be better spent on current needs, as this might also help improve financial conditions in the long run. “Governments have a choice,” Sheiner said. They can use taxpayer dollars to boost pension assets – or on education, health, climate resilience and other current needs. The question, she said, should be, “How am I going to improve the economic well-being of the next generation?”
This program was funded by Arnold Ventures. NPF is solely responsible for the content.
