By Pat Hughes
Burst, busted, collapsed, cracked, crippled, crumbled, crushed.
There are a lot of words that can be used to describe Illinois’ public employee pension system, and that list above only takes you through the C’s. For me, the best word to describe it: Broken.
In Illinois, we rely heavily on investment earnings from money already in the fund to increase its balance. Last week, the Illinois Policy Institute released its research on these investment earnings, and the results were startling.
Illinois’ five pension systems—Teachers Retirement System, State University Retirement System, State Employee Retirement System, Judicial Retirement System and General Assembly Retirement System—originally estimated that they would receive investment returns ranging from 8.5% to 7.00% in fiscal year 2012, generating a planned $5.1 billion in income.
Unfortunately, none of the funds received a higher rate of return than .61%. Two of the pension systems even lost money. Combined, their investment earnings totaled $238 million, a full $4.9 billion less than projected.
Why? Because defined-benefit retirement plans, like what we have for our public pension systems, depend on high, consistent investment returns. But investment returns are inherently unpredictable. A major shortfall on projections for a given year is almost certain to happen eventually, and that creates budgetary issues that are extraordinarily difficult to navigate. This is the very reason why defined benefit plans are now largely unseen in the private sector.
To their credit, many lawmakers finally acknowledge that something needs to be done about the state’s unfunded pension liabilities, which currently stand at approximately $200 billion. However, the solutions they have offered to date display their fundamental misunderstanding of level of the crisis. The marginal reforms they have proposed, like slow changes in cost-of-living adjustments, employee contributions, and retirement age are—putting it generously—insufficient. Even more drastic solutions, like Rep. Lang’s typical and misguided proposal to make the 2011 income tax hike permanent, suffer from the same inherent flaw—they leave the defined benefit structure in place.
The overwhelming majority of the private sector is participating in defined-contribution, 401(k)-style retirement plans. In those plans, workers make contributions into their own investment funds, then decide—based on the investment returns and the size of contributions—when they have enough saved up to comfortably retire. When investment returns are low, private sector employees work longer or invest more of their own money.
By contrast, when returns are low for the beneficiaries of Illinois’ five public pension systems, those beneficiaries are covered—at least for now. Lawmakers look to third parties and ask them to pick up the slack—the same private sector taxpayers working longer and investing more of their own money.
For example, it was announced this past December that the pension payment for fiscal year 2013 would be $6.8 billion dollars, a 15% percent increase over last year’s payment of $5.9 billion. If Illinois’ budget is to remain near what it was last year, over 20% of its budget is going to go to pensions. And that percentage is only going to get higher and higher, as pension payments are scheduled to ramp-up in the coming years.
The scope of the problem is too big to solve by cutting other areas of the budget. And it’s too big to solve by asking taxpayers to keep picking up a larger share of the burden that they have already been carrying for some time.
Lawmakers must enact pension reform that involves putting state employees into defined-contribution plans. That is the only way to keep Illinois’ budget from being held hostage by unrealistic expectations and poor investment returns. Until they do, Illinois’ pension system will remain broken, and all of us will continue to feel the pain.