Playing with the PERS
Lawmakers should not seek to influence investment decisions
- Thursday, July 2, 2009
Constitutional provisions prohibit the Nevada Legislature from dictating how money in the Public Employees' Retirement System is invested. However, in the final days of the recent legislative session, state lawmakers passed a law attempting to do exactly that.
Assembly Bill 493 would require NV PERS to delineate the portion of its investments maintained in companies that do business in Iran. While this requirement does not allow legislators to direct precisely how PERS assets are invested, the intent is clear. As Senate Majority Leader Steven Horsford said, "transparency changes behavior."
The Nevada Policy Research Institute has long advocated greater transparency in government and in no way opposes sunlight on the investment decisions of NV PERS. However, legislative leaders have indicated an intention behind Assembly Bill 493 that goes beyond simple transparency. Clearly the intent is to isolate for inspection only some particular investments — those that individual lawmakers either view with personal disdain or see laden with opportunities for political grandstanding.
Are lawmakers angling for a popular mandate that would eventually allow them to manipulate NV PERS investment decisions based on their own subjective value judgments, rather than the possible return on those investments?
Down that road could be a catastrophic burden for state taxpayers. As NV PERS is currently structured, Nevada taxpayers are obligated to pay defined monthly benefits to retired state and local government workers. Ideally, those benefits are paid using the return on NV PERS' portfolio of investments. However, if the return on those investments were to become insufficient to pay retirement benefits — the cost for which is now more than $1 billion annually and is growing at an annual rate of 10.9 percent — state taxpayers would still be contractually obligated to make the payments. This would inevitably occur through higher tax rates.
In neighboring California, policymakers regularly manipulate investment decisions of the CalPERS system in attempts to achieve political goals. CalPERS funds are channeled toward investments in firms that provide products or services the politicians anoint as "socially desirable," regardless of the firms' profitability. Firms that have been preferred targets of this investment approach, known as "socially responsible investment (SRI)," have principally included renewable-energy manufacturers and financial institutions — particularly those that offered large volumes of subprime mortgages as a form of "community reinvestment."
As a result of these investment practices, the value of CalPERS' assets has consistently failed to grow at the same pace of pension funds that have emphasized the rate of return. In FY 2008, for example, while the position of pension funds around the country deteriorated due to economic recession, the position of CalPERS deteriorated at a pace far more dramatic. While NV PERS was investing on the basis of market fundamentals and lost only 2.2 percent in valuation of its net assets, or $503 million, CalPERS' emphasis on SRI saw the valuation of its net assets fall by 4.9 percent, or $12.5 billion.
On a macroeconomic scale, it is significant that many of CalPERS' largest holdings were in the very industries that have since been recognized as the "bubble markets," whose bursting triggered the current recession. In fact, the SRI approach used by CalPERS and similar pension funds appears to have contributed to the creation of those bubbles by channeling capital toward industries that did not merit such investments based on market fundamentals. This overinvestment in undeserving industries by large pension funds such as CalPERS contributed to a classic instance of malinvestment, in which productive resources became misallocated across the economy. As Austrian Business Cycle theory states, such bubble-breeding government investment led inevitably to economic bust and recession. Hence, the end result of the SRI approach is to contribute directly to economic carnage. How "socially responsible" is that?
As a result of the losses endured by CalPERS due to California's political thumb-on-the-scale investment approach, Golden State taxpayers now face a real threat of yet higher, even more extortionary tax rates. This kind of possibility is a key reason why Nevada lawmakers are constitutionally prohibited from toying with the investment decisions of NV PERS.
Right now, state lawmakers consciously walk a fine line with regard to governance of NV PERS.
They need to remember that attempts to step across that fine line and undermine Nevada's constitutional prohibition will brand them indelibly as enemies both of constitutional government and of the public they claim to represent.
Geoffrey Lawrence is a fiscal policy analyst at the Nevada Policy Research Institute. This article originally appeared in the July 2009 edition of the Nevada Business Journal.