General Manager Comments, February 2005

> General Manager Comments, February 2005

> General Manager Comments, March 2005

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Comments from ACERA General Manager to Board of Retirement on February 17, 2005:

Last year Assembly Keith Richman, a Republican from Granada Hills, introduced Assembly Constitutional Amendment 5 (ACA 5). This measure would terminate all public sector defined benefit plans like ACERA and provide that any public employee hired after July 1, 2007 may only enroll in a defined contribution plan.

Any member of a DB plan on July 1, 2007 could choose to transfer a sum equal to the present value of that members interest in the DB plan to a DC plan. Employer contributions to the DC plan would be limited to a set percentage of payroll (not specified in ACA 5 as introduced thought to be 10 percent).

The measure will likely be defeated by labor groups, but Assemblyman Richman has stated that if he is unsuccessful with ACA 5 in the Legislature, he will head a drive to place the measure on the ballot by initiative. The Howard Jarvis Taxpayers Association has pledged its support for this effort.

Complaint: Costs are too High

The real basis for this crisis in public pensions is the budget problems faced by state and local governments. More taxpayer dollars are going to support employee benefits: health care, workers compensation and retirement. The result is fewer dollars for constituent needs.

Reasons

There are four issues being discussed:

Benefits are too rich.
There is abuse in the current program.
Future costs are both too high and to volatile.
Defined contribution plans can meet long-term retirement needs at lower cost.

Benefits are too High

Private sector employers have been discontinuing DB plans due to the long-term nature of the liabilities. Increasing federal regulation and required participation in the Pension Benefit Guarantee Corporation coupled with increased disclosure requirements mandated by the Financial Accounting Standards (FASB) have forced private employers to disclose their liabilities and funds for them.

As private employees lose DB coverage (as in the airline industry recently), it will become more difficult to defend better benefits for public sector employees.

There is already a national debate about Social Security being too rich. Yet, the blue ribbon Social Security Commission established by President Lyndon Johnson determined that an adequate retirement income would be equal to 75 percent of a persons pre-retirement earnings. Social Security currently provides only a 25 percent replacement for participants earning at the maximum taxable amount ($87,500 in 2004) for 43 years and retiring at age 65. An employee earning the projected average wage ($34,000) would earn a 42 percent replacement benefit.

Most public sector DB plan retirees earn service retirement benefits in the 60 70 percent range. However, the recent increases in benefits for some groups have resulted in some employees receiving 90 100 percent replacement ratios. The real cost of those benefit improvements, which are generally retroactive over an entire career, are just beginning to be felt in the actuarial valuations and employer contribution rates being established. The increases could not have come at a worse time for public employers.

Abuse is Widespread

This charge stems from the perception that some areas of employee benefits, such as workers compensation and disability retirement cost too much and provide benefits in excess of those available to the general public or necessary for recruitment and retention of public employees.

A number of legislators have indicated they intend to pursue structural reforms to the existing DB structure. CSAC has endorsed restricting Industrial Disability Retirement (IDR) to safety members only, redefining disability causation as clear and convincing evidence the disability is industrial, eliminating service retirement enhancement of an IDR, eliminating medical presumptions, etc. I have attached the draft CSAC reform proposal. Some of this structured reform is very likely to pass. The major union groups realize they cant maintain the status quo. They are afraid, however, that even if they agree to some reforms at the statutory level, the hardliners will still pursue a constitutional amendment to eliminate defined benefit (DB) plans. Assemblyman Richman calls these kinds of reform nibbling around the edges and says thats not anywhere near enough.

Defined Benefit Plans Restrict the Ability of Employers to Respond to Changing Fiscal Conditions

This charge is accurate. Once benefits are granted, they become constitutionally protected contract rights. They cant be reduced or eliminated for current employees unilaterally.

The real unspoken issues here for conservatives are: 1) Labor Unions will continue to improve benefits as long as they are able to do so through the Legislature; 2) Making benefits optional to local government doesnt help because unions will eventually use their political power to obtain or negotiate local approval. The only solution is to eliminate the DB option so that in bad times the employer can simply cut their contribution.

Defined Contributions can Provide Adequate Long-Term Retirement Security at Lower Employer (Taxpayer) Cost

This is a red herring. Every serious study of DB vs. DC plans has concluded that DB plans provide much greater long-term retirement security with lower administrative costs.

Nebraska converted to DC plans and within three years came back to a DB plan. Most states with DC plans make them optional. Only two states mandate DC plans Michigan and West Virginia. About 10 percent of public employees nationwide are covered by DC plans only. In the private sector, DC plans cover 31 percent as of 2002.

Internationally, the United Kingdom under Margaret Thatcher converted from a national single pool system like U.S. Social Security to individual privatized accounts. The result has been a disaster and the Parliament is now considering a return to a single system approach as the only feasible mechanism to avoid a large part of the elderly population becoming welfare recipients. Sweden and Chile have had similar experiences.

Current Status

Governor Arnold Schwarzenegger made overhauling public pension systems one of his four cornerstone initiatives to reduce the size and cost of government. He has indicated that he will support and campaign for a constitutional initiative if that is necessary. On February 3, 2005, ten members of the 12-member Board of Retirement of the State Teachers Retirement (STRS) voted to oppose the Governors pension reform agenda. The STRS Board characterized that the Governors plan would risk the financial stability of the current system and hurt the recruitment and retention of good teachers. On February 10, 2005, the Governor removed four of the members he appointed last March, but whose appointments were awaiting State Senate confirmation. The Governors spokesperson Ashley Snee said, the Governor concluded that these appointees are not best suited to implement his mission for reform.

On February 11, 2005, Governor Schwarzenegger used a pair of Brinks armored trucks, doors open with two bags of simulated cash in a San Diego airport car rental parking lot, to claim that current public pensions are like the armored cars right behind me the doors kicked wide open and the money flying out and bleeding our State dry.

According to an article by Assemblyman Richman in the Sacramento Bee (see link below), a recent PRIC survey indicated that 64 percent of California voters surveyed supported pension modernization.

Opposition groups have begun to formulate a response that goes like this:

1. This is a plot to reward Wall Street with a windfall in the form of DC management fees;

2. This is part of a right-wing national effort to muzzle critics of corporate misconduct. The last straw was PERS intervention in the Disney/Michael Eisner issue;

3. Converting from DBs to DCs will not generate any appreciable savings for years, but will penalize new public employees and make it hard to recruit and retain good workers; and

4. The unintended consequence will be to diminish the quality of public services.