Month: November 2019

Originally published at Forbes.com on November 20, 2019.

 

Or does he just want to do whatever minimum is necessary to keep the bond rating agencies off his back?

Here’s the story: yesterday, Illinois Governor JB Prizker spoke to the Economic Club of Chicago about, among other topics, pensions. (There’s YouTube video available to view, and I’ve transcribed his full comments at the bottom of the article, to )

His introductory comments were a story that he appears to tell repeatedly: Illinois is “a state on the rise,” and a “leading force for talent,” with a growing economy and fiscal problems which are unpleasant but solvable, especially once Illinois has more tax revenue in its so-called “fair tax,” that is, the graduated income tax that he hopes to pass after a constitutional amendment change which he likewise hopes voters will approve in 2020.

When the moderator raised the question, “Why wouldn’t we ask for shared sacrifice across the board by also asking for a pension constitutional amendment?” Pritzker’s reply was defeatist: people wouldn’t vote for it, so it’s not worth trying. The possibility that Pritzker could advocate for it, change minds, explain the importance of it – all of which he intends to do with respect to his “fair tax” – he doesn’t even take into consideration.

Then he launched into a series of dubious claims about the state pensions and reform possibilities.

On the COLA: “First, what we’re talking about, what everybody is really talking about, is there’s a 3 percent COLA cost of living adjustments on pension in the state of Illinois, 3%, and everybody knows that our inflation rate is lower than 3 percent. So what would this pension amendment do? It would essentially take it from 3 percent to whatever the inflation rate is for that year. [With an amendment, if actual inflation were CPI] you would save essentially 1.3% in the cost of living.”

To begin with, Pritzker knows full well that the COLA adjustment is not merely a matter of saving 1.3% due to differences in COLA in any one year. That adjustment compounds from year to year, and this has a far greater effect, because the actuarial liability is not merely what the state pays for pensions in any given year, but what it will pay in the future, as a debt owed to retirees.

What’s more, a constitutional amendment is not merely about that 3% annual adjustment, though that is the most obvious source of savings. Generous early-retirement provisions are another huge contributor of costs: Tier 1 teachers are able to retire without any benefit reduction at age 60 (with 10 years of service) or age 62 (upon vesting at 5 years of service). Teachers with 35 years of service can retire as early as age 55 without reduction. For state employees, benefits are unreduced at the earlier of age 60 with 8 years or upon attaining 85 age + service points (e.g., age 55 and 30 years of service or a similar combination). For university employees, provisions are even more generous: age 55 with 8 years of service or any age with 30 years.

What’s more, Pritzker launched into a long history lesson in which he said that the COLA began in “1968 or 9” at 1% or 1.5%, then increased in increments as inflation increased. What he doesn’t mention is that compounded COLA, in its current form, dates to 1989, and prior to then, COLA adjustments had only been simple and noncompounded.

On the Contracts Clause: Pritzker then defends his unwillingness to support an amendment because any changes would be found unconstitutional due to the “contracts clause” of the U.S. Constitution. An analysis by Mark Glennon at Wirepoints explains that “contracts may be impaired if there is a significant and legitimate public purpose behind the contract adjustment” – a test that surely Illinois pension reform would meet, in its current circumstances when pension contributions, even merely to meet a 90% funding target in 2045, is absorbing such a large portion of state spending.

On the buyouts: Pritzker then touts the two buyout programs currently running in the state (TRS describes these on its website; the other systems offer the same provisions). These two programs allow, in the first place, Tier 1 members to trade their guaranteed 3% adjustments for the non-compounded, half-CPI adjustments offered to Tier 2 members, for a lump sum at a 30% discount; and offere inactive (terminated vested) members to collect a lump sum equal to 60% of the value of their future pension (that is, not actuarially-fair but at a 40% reduction). The TRS website reports paying out $6.1 million to 222 inactive retirees (out of 14,598 in total), to which my reaction is “good! No one has any business forgoing retirement benefits under such terms,” and $72.4 million to 592 new retirees in 2019 (which, quite honestly, makes a little more sense to take, if you suspect your benefit has a chance of having its COLA reduced without any such compensation in the future).

But what does Pritzker claim? He mixes up the two buyouts and says that the offer is a 60% buyout of total pension liability for new retirees, where this is actually only the case for inactives. He claims 20% of new retirees are choosing the buyout (this might be true – TRS on its website says 16% of new retirees are, the others don’t make any claim), but, again, this is only for the buyout of the guaranteed 3%. And he claims that this will produce “potentially $25 billion of savings.” The reality is that the initial implementation is producing liability reductions much, much smaller than this figure – just $13 million in the first year, according to a July 2019 analysis.

Oh, and Prizker says, this “is good for the taxpayers and good for those who are choosing it who get the money up front and get to do whatever they want with that without having to wait.” Yet I suspect that if any private sector offered buyouts on such unfavorable terms, he wouldn’t hesitate to call for the government to step in and shut it down. If the program really were as he describes it – a full buyout of retirees’ pensions, at retirement age, at a 40% reduction, it would be insanity, except for the small number of retirees with terminal illnesses.

On the police and fire consolidation: Pritzker reasonably observes that politicians have observed for 72 years that 650 state and local pension systems make no sense. Why was Prizker able to get this passed? Because he promised free money, that is, increases in investment returns at no cost, without touching the local administration, and because the “pension intercept” law, passed in 2011, which gave the state the authority to finally force municipalities to fund their pensions, created enough pain to generate the political will to solve the problem.

But, not surprisingly, he neglects to inform his audience that this consolidation bill also boosted the pensions of the Tier 2 workers among police and fire employees, without any actuarial analysis of the cost. What’s more, local plans which already were large enough so that they will not see substantial increases in asset returns due to future economies of scale, will nonetheless bear the same burden of the (unknown) future cost increases as the small plans. And, finally, the state and local plans are not even a part of the $134 billion in unfunding on the state’s balance sheet.

Prtizker’s bottom line:

Here’s how Pritzker wraps up his comments on pensions before moving on to other topics:

“I’m focused on it, we’re doing a lot, there are a lot of things that we can do but anybody that thinks there’s a silver bullet in one constitutional amendment, that is not something that you should focus on, you should focus on the entire group of things that we need to do to reduce our pension liability, which I’m doing.”

Readers, after listening to him speaking at length, here’s my conclusion: in his heart, he believes that Illinois systems are rightly pay-as-you-go, with enough of a cushion to placate those who say otherwise. (Yes, I had observed this before.) After all, he was willing to add in another ramp for pension contributions until he got an earful from those ratings agencies and others, and backed off.

Recall that Illinois will sooner or later need to revise its pension legislation due to the too-deep Tier 2 pension cuts, benefits that are so low that Tier 2 teachers are, according to the actuarial valuation itself, not even getting out what they pay in themselves through their employee contributions. But the Tier 2 benefits and the long-term reduction in liabilities as more Tier 2 teachers enter and Tier 1 teachers die, mean that the future funding schedule is dependent as much on the slowing of PBO as is it the boosting of contributions. Assuming all projected assumptions pan out, according to the most recent report (p. 111), it will take until 2030 to bring the plan up from 40% even to the still woeful level of 50%, and until 2036 to restore the plan to the 60% funding level that the plans had as recently as 2007.

Against these numbers, Pritzker cannot reasonably pat himself on the back for a buyout and a consolidation of unrelated pensions, while simultaneously shrugging off true pension reform as too hard. Not, that is, unless he just doesn’t care.

 

December 2024 Author’s note: the terms of my affiliation with Forbes enable me to republish materials on other sites, so I am updating my personal website by duplicating a selected portion of my Forbes writing here.

Originally published at Forbes.com on November 17, 2019.

 

On Saturday, I recounted the ways in which the Chicago Teachers’ Pension Fund was set up for failure, with most teachers never seeing any of the money they paid in but the lucky few hitting the jackpot with comfortable benefit payouts at young ages, and, for those in the early years of the plan, without paying much of anything into the plan at all.

Not surprisingly, the plan was troubled from the start. Again perusing Chicago Daily Tribune articles from a database search, here’s the early history of that plan after its initial implementation in 1895 told through excerpts from those articles:

July 27, 1896, “Defects in Pension Law”

Secretary Graham of the Board of Education . . . pointed out the defects of the law . .. as follows:

“This law is unjust and oppressive to the Superintendents, principals, and other employees of the Board of Education who receive over $1,200 salary. All of the teachers and employees are taxed 1 per cent, but only those who receive $1,200 or less receive an annuity which is one-half of their salaries [because of the $600 maximum]. . . .

“Again, there are teachers and other employees who either cannot or do not wish to teach or work in schools for twenty-five years, and these persons have to stand a tax for years without any possibility of reaping any benefit. . . .

“On the other hand, . . . There are a score or more of teachers who were retired on pensions before the law had been in operation six months, and who therefore have never paid the 1 per cent tax for a single year.”

February 9, 1900, “State of Pension Fund – School Officials Fear Imminent Wiping Out of Surplus”

A further examination of the school teachers’ pension fund made yesterday showed that the statements concerning its condition made at the meeting of the Board of Education on Wednesday evening, and which prompted the board to name a committee to revise the pension law, were, if anything, under the mark. The fund’s liabilities are greater than its income, and it is felt to be a question of only a short time when the surplus will be wiped out and no more money remain with which to pay pensions. . . .

“The whole theory of the pension law is wrong,” said Trustee Christopher. “It provides that every teacher who serves twenty years can retire on half salary, providing the amount is not more than $600 a year. In return the teachers pay 1 per cent of their salaries into the fund. Take the case of a teacher who pays for the full twenty years. If her salary has been $1,000 a year, she pays $200 for the full term. The first year’s pension amounts to $500, or $300 more than she has paid in, and each succeeding year’s pension is just so much more. That sort of an arrangement is bound to fail.”

The plan proposed by the committee is to consult some good insurance actuary, and see if the law cannot be changed so as to provide for a permanent fund.

May 13, 1900, “Blow to Pension Hopes – Actuary Vail Says Teachers’ Fund is Insolvent”

The schoolteachers and employees’ pension fund was declared hopelessly insolvent yesterday. The statement was made by H.S. Vail, formerly official actuary for Illinois, Indiana, Iowa, and Wisconsin, to the George Howland Club of Men Principals, which had requested the investigation. The advice which accompanied the report was that legal steps should be taken at once to close up the fund, recognizing the various equities involved.

The article further reports that Vail calculated a deficit of $618,484, based on an approximate present-value calculation of liabilities only for existing retirees; with assets of $92,177 and liabilities of $716,661, that’s a funded status of 13%.

May 30, 1900, “Teachers’ Fund at Crisis – Deficit of $1,393 in Pension Board for Single Month”

The insolvent condition of the school teachers and employees’ pension fund, reported in The Tribune earlier in the present month, was verified last evening when the Pension Fund commission, consisting of the members of the Board of Education. . . voted to sell two $1,000 water certificates to meet a deficit of $1,393 accruing for the month of April alone.

September 20, 1900, “Cut in School Pensions”

A reduction of 25 per cent in the annuities paid to teachers out of the pension fund was voted last night by the Pension board. . . . it must be followed soon by another reduction, since the fund is not on a sound basis.

After a pension reform bill was introduced, which would have paid $400 after 25 years of service . . .

March 10, 1901, “Figures Expose Pension Dream”

The proposed pension bill framed by a committee of teachers and school employees, which was said a week ago to be nearly ready to go to Springfield, was shelved practically at a meeting yesterday afternoon. J.H. Nitchie, an actuary, was called in, and he told the committee some facts about life insurance. He discouraged the dreams of those who have expected to create a pension fund that would pay a much higher rate than for regular associations. . . .

Mr. Nitchie is supposed to have shown the committee that they still hope to get something for nothing and that the contribution of 1 per cent of the salaries will earn less than $100 a year for the contributors who retire after twenty-five years of service.

A new pension law was indeed passed in April 1901, but without much change: in addition to the 1% contributions, new money flowed in in the form of half the value of license fees from “street railroads or elevated railroads,” and teachers were offered the option to opt out of the system. In addition, the prior 25% reduction was maintained.

On November 14, 1901, the Tribune reported that pensions were reduced again, from $450 to $240.

On May 13, 1907, new legislation was passed which raised the potential maximum back to $400 (though the school board had discretion in terms of payments) and increased the annual employee contributions, as flat dollar amounts, from $5 per year for those with less than 5 years of service to $80 for those with over 15 years, along with providing that interest from “school funds” would be directed into the fund. Teachers were also again required to participate.

On May 21, 1911, the school board was authorized to contribute directly to the funds, up to a match of the teachers’ contributions, when combined with interest on school funds.

On June 11, 1913, this prior authorization of board of education contributions was made mandatory, and the board was authorized to voluntarily contribute double the prior amount.

But despite these increases in contributions:

October 2, 1915, “Teacher Pension Almost Broke, Asserts League”

The Chicago Teachers’ league declares that the teachers’ pension fund is in danger of bankruptcy. The warning is given in a circular sent to all teachers yesterday. The teachers’ league is a rival organization to the Chicago Teachers’ federation, which has control of the pension fund.

The teachers’ league asks for an actuarial report in connection with the fund.

Dec 22, 1916, “Actuaries Find Public Pension Plans Unsound”

Every pension fund upon which Chicago’s public servants are dependent in old age, sickness, disability, or death from injury, is financially unsound and practically bankrupt, according to the report sent Gov. Dunne last night by the Illinois pension laws commission. From the recommendations for a revised pension system a bill will be drafted and offered to the next legislature. . . .

These are findings of widely known actuaries. Their report recommends a drastic change in the pension system and outlines an ambitious plan to bring the numerous and chaotic public service pension funds under one expert supervision, while preserving them as separate foundations. . .

The report finds that the police and firemen’s pensions were virtually unfunded; in comparison, the teachers’ funded status of 17% was positively sunny.

March 23, 1919, “Public Employee Pension Funds in a Bad Way”

Most of the public employees’ pension funds are insolvent, or are at the jumping off place, and radical methods must be adopted by the present session of the legislature, unless a grave crisis and a possible scandal are to be averted. . . .

The Illinois pension laws commission proposed consolidation of all Chicago pension funds into one, and all non-Chicago funds into another large consolidated fund, citing deficits for the city pensions.

[The commission said,]

“The statewide public school teachers’ fund similarly is headed in the direction of a large deficit. The police and fire funds of the cities outside of Chicago are too small to be sound financially. . . .

“The standard plan proposed by the commission is what the actuaries and other insurance men call a reserve plan. It calls for the accumulation of annuities and toward life insurance for widows’ annuities, from year to year, while service is being rendered, and while these liabilities which will mature in the future are being incurred.”

Did it work? An April 3, 1921 report announces that the Police plan has been reformed and will henceforth be on “sound actuarial footing.” But as for the teachers, the litany of pension unfunding never ended, including this final (for the moment) article with more laments from an actuary-Cassandra on December 21, 1933:

“Favors Revision of the Teachers’ Pension System – D.F. Campbell Urges New Annuity Plan”

Placing of the Chicago school teachers’ pension system on the allocation-reserve basis to supplant the present stipulated annuity plan was urged yesterday by Donald F. Campbell, authority on pension law and actuary of a number of large pension systems of public employees.

All the other pension bases in the city, including those of city and county employees, are on the allocation-reserve basis. Under this plan the pension money reserves are allocated and built up for each employee from year to year while he is in service. These funds, which are invested in 4 per cent municipal bonds, are accumulated from pension taxes and from systematic deductions of the salaries of the participating employees.

This latter system is considered more actuarially sound in that it more precisely safeguards the payment of annuities in future years. The amount of annuity paid to retired employees is computed on the basis of the salary last earned, the length of service, and age.

So there you have it. Of course, the follow-up question of “were the police and fire pensions truly put on a sound footing as proclaimed, and why are they so underfunded now, if so?” will have to wait for another day.

 

December 2024 Author’s note: the terms of my affiliation with Forbes enable me to republish materials on other sites, so I am updating my personal website by duplicating a selected portion of my Forbes writing here.