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Telling the Truth about Public Pension Systems

by Clyde Weiss  |  June 30, 2011

Public pension “horror stories” that argue for greater employee contributions are based on myths and exaggerations, argue two pension experts.

Steve Kreisberg, AFSCME’s director of collective bargaining, and Dean Baker, co-director of the Center for Economic and Policy Research, disputed the accuracy of a report produced by Joshua Rauh of the Kellogg School of Management at Northwestern University and the Simon School of Business and Robert Novy-Marx of the University of Rochester.

Their study suggests that in order to meet the obligations of public pension funds, revenue generated by state and local governments would need to increase – by an amount representing a tax increase of $1,398 per U.S. household per year – beyond revenue generated by expected economic growth.

But Kreisberg and Baker contend the study is misleading because it relies on unrealistic, low-ball assumptions about state pension plan investment returns, and makes other exaggerated and unjustified claims.

“There are clearly funding challenges,” said Kreisberg, “and a lot is because of a loss of value in pension plans that was unprecedented because of the Great Recession.” But he explained that some states ran into trouble because they failed – for years – to make adequate contributions to their pension plans.

“You can’t fund these plans sporadically and achieve the kinds of returns we want,” he said.

“We have a horror story that doesn’t exist,” said Baker, referring to critics such as Rauh and Novy-Marx who suggest that workers need to contribute more toward their pensions to keep the systems sound.

Kreisberg and Baker contend that state pension systems are on a sustainable course to recover from losses caused by the real estate and stock market crash of 2008 and 2009. Moreover, they argue, the average real rate of return on investments, about 8 percent, mirrors historical rates of approximately 8.8 percent over 30 years.

In addition, approximately 17 states have already increased employee contribution rates, which the study by Raugh and Novy-Marx fails to take into account, said Baker.

Baker said the researchers also low-balled future pension rate-of-return expectations in order to create a “seeming crisis in funding.”

The bottom line, insist Kreisberg and Baker, is that public pension plans are sustainable – they make a historically average rate of return and are likely to continue to do so in the years ahead.

Also, public pension benefits are reasonable, they maintain. Kreisberg noted that an average AFSCME member gets a pension of approximately $19,000 a year, while contributing about 5 to 6 percent of the cost of their pensions through payroll deductions. “For every dollar of pension benefit received, the taxpayer contribution is 25 cents,” he said. The rest comes from the employer and pension investment earnings.

Read more about the myths of public employee pensions here

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