Currently there is much hysteria regarding the unfunded liability amounts being reported as future costs that states, cities, counties, school districts and other public agencies face. Huge amounts are thrown out in various studies as proof that a crisis exists.
When considering this issue and the multitude of unfunded liability figures that are bandied about one should stop and think about the assumptions that have to be made in order to calculate future pension costs. Assumptions? You bet, like how long will a public employee live after he/she retires and how long that employee’s spouse might live. An assumption of a 10 year life after retirement would nearly double the estimated cost of that retiree’s pay in retirement as compared to an assumption of 5 years.
Other things that must be assumed in order to make such a future cost estimate include: what percentage of the work force will retire from a public agency contrasted with leaving the agency before retirement age; average age at which people retire; average wage that retirement pay will be based upon; what the retirement money that is set aside will earn over time; and several other factors.
In this estimating exercise these assumptions are made for the next 30 years! This leads to an estimate of the cost over 30 years. Then an interest rate, called a discount rate in finance jargon, must be applied to this figure to bring that future cost down to a current cost. For instance if someone owes you $100 in 30 years, it is worth much less today. How much would you pay right now for an IOU that will pay you $100 in 30 years? A lot less than $100, that is for sure. The discount rate chosen can drastically alter that estimated future cost to a retirement system. The difference between a 3% and a 6% discount rate can translate into estimates that vary by billions and billions of dollars with some of the larger retirement systems.
So, calculating the unfunded liability of any pension system is a fuzzy process based upon estimates and assumptions. Different people use different assumptions and come up with dramatically different answers. Why some might even deliberately use assumptions that will overstate or understate the situation.
The moral of this story? It is that if there is a consensus that a given pension system has an unfunded liability that is worthy of attention. How big that liability may be though is fuzzy.
The 30 percent loss on investments of the last couple years equals an increased unfunded liabilty in the future.
That is not fussy math.
The Orange County Employees Retirement System (OCERS) just reported a 18% investment gain for 2009. Presumably that makes up for some of the previous couple of years’ loss, but they sure have a way to go.
Due to the rapidly increasing incidence of obesity, pension liabilities will be reduced as employees die much younger, but the offset is the increased health-care costs of trying to keep them alive so we need to switch them over to a health care system not funded primarily by the county.
#2 OBNO:
You say OCERS just reported an 18% gain for 2009.
My Question:
1) Can you provide more details for OCERS for the last 3 years, to put this gain in perspective, especially important because of the recent financial meltdowns?
2) Can you also provide more details as to what is the EXPECTED RATE of RETURN vs ACTUAL RATE of Return that OCERS has been using in calculating return on investments?
#3 Larry M:
You say, “offset is the increased health-care costs of trying to keep them alive so we need to switch them over to a health care system not funded primarily by the county.”
My question:
Can you provide examples as to the alternatives you suggest for a health care system not funded primarily by the county? Is this just kicking “the can” / the issue down the street? Or are there realistic viable solutions?
thanks in advance for your answers!
Francisco Barragan
Francisco – I do not have that info. at my finger tips, but I have seen it in the past. From my memory only, and this may not be accurate: OCERS assumes a rate of return of something like 7.5% a year on average, and in the previous 10 years it beat that average by 1% or so (as I remember it). What the big losses of the last two year will do to a 10 year average rate of return I do not know. But I am told no one should panic or feel overconfident by swings in the rate of return over just a couple of years (Including the + 18% last year). On the issue of medical care for Orange County retirees – it is a myth that they receive free health insurance. A monthly stipend that maxes out around $450 a month is provided, and for many that does not come close to covering the retiree’s monthly health premiums for self and spouse. And, when a retiree turns 65 and should be Medicare elibible (but for Medicare Part A only if fortunate enough to have a non-county work history where they earned Social Security and Medicare quarters, as OC employees are not covered by Social Security) this monthly stipend is cut in half and the retiree is mandated to sign up for Medicare Part B (which has its own monthly premium that is means tested – it is tied to income) and if Social Security eligible for Medicare Part A as well(if eligible for this, there is presently no cost) Obamacare may change all this in the future – who knows. I think you could make an inquiry to OCERS and get the data you want: http://www.ocers.org to start.