Debunking the PERS rhetoric
Administrators pretend liabilities are not a problem
- Monday, November 8, 2010
Participants in the Nevada Public Employees' Retirement System (PERS) received a newsletter this year assuring them that they need not worry about concerns over the system's solvency highlighted by the Nevada Policy Research Institute.
NPRI has repeatedly pointed out that PERS' unfunded liabilities are a ticking time-bomb that threaten taxpayers in the Silver State. In the event that PERS' assets become insufficient to make the promised benefits payments to retirees, the shortfall would almost certainly be filled using tax dollars. Nationwide, state and local governments have routinely treated pension liabilities as senior debt in practice — meaning that pensions for public retirees have been funded to the exclusion of schools, police and fire protection, etc.
Nevada PERS has a large and growing unfunded liability — a result of the Nevada Legislature's increased promises to government workers over the years. Between fiscal year 2000 and fiscal year 2009, PERS' unfunded liability nearly quadrupled — growing from $2.3 billion to $9.1 billion. Moreover, as NPRI has noted, even this amount is dramatically understated because PERS accounting methods fail to consider the price of risk or instability in the marketplace.
PERS administrators assume that, like clockwork, they will be able to realize an 8 percent annual return with zero risk in the portfolio. That's right — ZERO!
Obviously, this assumption has proven untenable in the real world. PERS lost $3.5 billion in valuation in fiscal year 2009 alone. If PERS administrators want to project a fixed rate of return for actuarial purposes, then they need to account for the risk in the system's portfolio.
The reason PERS has not done this is obvious. If the system's financial statements began accounting for risk — by moving to a market-based accounting system — then its unfunded liability would instantly balloon to about $33.5 billion.
In spite of this glaring hole, PERS' recent newsletter disingenuously assures beneficiaries that "the system is sustainable in the short-term and in the long-term" and explains that "the System's finances are measured, reviewed and audited on an annual basis and comply with all applicable accounting requirements and disclosures."
The newsletter does not mention that the accounting method itself is problematic and its insufficiencies have sparked worldwide debate among pension fund administrators. This debate led to proposed rule changes earlier this year by the International Accounting Standards Board that would require a market-based accounting method. (The dramatic pension underfunding that would immediately become evident as a result of this change has prompted vigorous union opposition.)
Also at issue is the way PERS benefits are structured. The very existence of the unfunded liability is a result of the system's defined-benefit plan. A defined-benefit plan legally obligates PERS — and, by extension, taxpayers — to pay retirees a set amount each month even if PERS runs out of money, because lawmakers have promised higher benefits than can be delivered. This liability would be eliminated with a move to a 401(k)-style, defined-contribution plan.
PERS' newsletter attempts to mobilize beneficiaries against any such reform by telling beneficiaries that, under a defined-benefit plan, "your benefit is guaranteed for your lifetime" and that "PERS absorbs the investment risk." By contrast, says the newsletter, under a defined-contribution plan, "your benefit stops when the funds are gone" (like most private retirement accounts) and "you absorb the investment risk."
To be fair, the newsletter should say that, under the current system, taxpayers absorb the investment risk.
PERS' newsletter also misleads beneficiaries about the nature of the system's intergenerational wealth transfer. It says, "The most significant portion of PERS' unfunded liability is being retired over the course of the next 26 years in a prudent and methodical manner that ensures intergenerational equity among current and future employees." Yet, it also says that "each employee ... prefunds his retirement benefit throughout his entire career." If all retirement benefits were prefunded, there would be no unfunded liability.
In truth, if the system is to remain solvent, future employees will inevitably be forced to pay higher contribution rates into the system in order to fund the benefits of current employees. Similar to the Social Security system, PERS implicitly plans to transfer wealth from future generations to the present generation.
Both taxpayers and retired public employees in the Silver State deserve more honesty and less propaganda concerning PERS' finances.
Geoffrey Lawrence is a fiscal policy analyst with the Nevada Policy Research Institute. For more information visit http://npri.org/.