Pension Debt A Ticking Time Bomb in California
California Governor Gavin Newsom’s new administration in Sacramento has negotiated pay raises with two-thirds of California state Workers. The administration says this is justified because of record budget surpluses and $20 billion in rainy day fund reserves. What isn’t being discussed so much is that the top one percent (1%) of taxpayers in this state control over 35% of the state general fund revenues which total $146 billion. That means that an extremely small sliver of people in this state, most of them in Santa Clara County (Silicon Valley) control over $51 billion of General Fund revenues. California as a state is incredibly dependent on these uber wealthy – high tech – taxpayers whose income drops like a rock in a recession and stock market retrenchment. When the next recession comes, look for double digit general fund operating deficits as quick as you can say “tighten your belt”. The rainy-day fund socked away in Sacramento will help but the non-partisan Legislative Analyst says it will likely be consumed in just one budget cycle meaning we will be back to cutting education, public safety and other health and welfare programs almost immediately.
While most of the pay increases the Governor negotiated were in the three to five percent range, some classifications got as much as 25% in pay increases. Most observers agree that the state needs to keep up with statewide compensation trends in order to attract and retain qualified workers. But continued failure to address unfunded actuarial liabilities (UAL) will cost taxpayers dearly in the end. As state worker salaries go up, so do future pension obligations.
California Pension Liability
California has $256 billion (according to the CA Department of Finance) in UAL and now is the time to address this ticking time bomb before taxpayers get wiped out from the growing weight of it (see chart). In his first year in office, Governor Newsom made little to no progress in addressing the CA public pension UAL and across the board pay increases make it worse.
Eight years ago, as California strained to emerge from the Great Recession, Gov. Jerry Brown attempted to address the UAL — a rebalancing of the massive state pension systems for public employees. Despite heavy push back from public employee labor unions and members of the CA Legislature beholden to the unions, Gov. Brown was able to scale back some of the rules and perks that have made public sector workers more secure, arguing that the pain would be worth it. Results were mixed: the largest benefit rollback in state history yielded some savings, but not nearly enough to entirely fix a pension commitment that taxpayers are increasingly finding hard to manage. Some local government jurisdictions are so desperate to pay pension obligations that they are resorting to “pension obligation bonds” which means they are borrowing money to pay future pension benefits. This is planting seeds of fiscal disaster and will make the day of reckoning far more painful for the taxpayers in the state.
Who Gets Impacted?
State employees face no risk that their pensions won't be paid because the state's promise to them not only is unconditional but also, is senior in priority and secured by CalPERS's assets. If CalPERS’s assets turn out to be insufficient – you guessed it, the CA taxpayer is on the hook. Furthermore, in the meantime, all of the consequences of rising pension costs fall on the budgets for programs such as higher education, health & human services, public safety, parks & recreation and environmental protection that are junior in funding priority and therefore have their public resources reduced whenever more money is needed to pay for pension costs. Thus those who should be most concerned about pension costs are families and businesses concerned about California's colleges and universities, recipients of the state's health and human services, users of state parks, citizens interested in environmental protection, and current and future state employees concerned about the potential for their own pay increases. So, while taxpayers suffer from reduced public services and amenities, they will also have to fork over much more of their hard-earned money in the future to keep the state solvent.
What Can Be Done?
California lawmakers and the Governor cannot do anything about promises already made and pensions already underfunded. This means the state will be funding enormous deficiencies for decades to come. Let’s hope that CalPERS long-term investment return projections are accurate, or it will be even worse. What we can do is not add to the growing debt, increase contributions, hold the line on salary increases, refuse to issue pension obligation bonds which offers hope but delivers fiscal malfeasance and change pension fund governance. We need to change pension fund governance in order to reflect the taxpayer’s interests and to prohibit conflicts-of-interest like trying to achieve social change through pension investment policies like eliminating investments in oil and gas industries, guns or whatever the issue du jour is. We need to change pension rules and reduce the size of pension promises being made to new employees as well as compel them to contribute more of their own money in payroll deductions for retiree healthcare. None of these are politically easy, in fact, they will be incredibly difficult. California needs strong leadership particularly NOW while the economy is in good shape and it is easier to make the necessary changes in policy. Time will tell whether California reforms its UAL or if it must soak taxpayers so hard that they flee the state in greater numbers.