What Happened?
New York’s five pension funds earned only 1.7 percent in fiscal 2012, and California’s public retirement fund—the largest pension fund in the country—earned even less: 1 percent.
So What?
Though the funds still increased in value—New York’s grew to $122 billion—the returns dramatically missed their budgeted targets. New York had an 8 percent growth target, and the California Public Employees’ Retirement System—known as CalPERS—had a projected return of 7.5 percent. According to reports, the shortfall could bring pressure on state and local governments to contribute more money, as taxpayers are on the hook for the difference.
The Details
For those interested in the financial details, here are the basics:
- CalPERS: The 1 percent annual return fell far short of the projected 7.5 percent return. According to Chief Investment Officer John Dear, the European debt crisis and slow economic growth were partly to blame for lower returns—the fund saw a 7 percent drop in returns on global equities. The fund, which manages $234 billion for 1.6 million government and school employees, has earned just 0.1 percent for the last five years. California taxpayers are on the hook for money promised to public workers when they retire; the current unfunded liability for CalPERS is around $85 billion.
- New York: The city’s five pension funds earned more than CalPERS at 1.7 percent, but their targets were higher: 8 percent. New York Comptroller John Liu claimed that the average returns have been 6.7 percent over the last decade. According to reports, Chief Investment Officer Larry Schoss blamed the same dynamics that John Dear did in California: the global banking crises, tepid U.S. economic growth, high unemployment, and a slowing global economy.
- Salt Lake City: Though the returns aren’t in, media reports this week noted a similar situation in Salt Lake City, where the city’s pension fund will only cover 70 percent of future liabilities. According to the reports, the city may need to increase taxes or cut expenses to cover an $83.6 million gap.
What Now?
The shortfall has several potential results, each of which are relevant to other states:
- Altered Risk Profile: To ensure that the funds generate necessary returns, fund managers may need to change the mix of investments and even the risk profile of their investments. John Dear of CalPERS told the press that, “It does imply that we’re going to have to employ new strategies in terms of where we invest and how we manage risk if we were to retain that 7.5 return target.” Dear is already restructuring his investments.
- Altered Assumptions: It is entirely possible that the funds finally heed New York Mayor Michael Bloomberg’s warning; as Gov1 reported last month, Bloomberg has called for “sanity” in pension numbers, arguing that an 8 percent forecast is indefensible. In fact, after the pension numbers were made public, Bloomberg spokesman Marc LaVorgna said this was “further proof of what the Mayor has said over and over again—it’s impossible to hit a guaranteed 8 percent rate of return every year.” According to reports, New York’s state legislature is expected to cut the target rate of return to 7 percent, although even that could be grossly overstated.
- Increased Contributions: More importantly, the poor returns may result in increased contributions from the states, municipalities, and/or school districts. Or, as Bloomberg spokesman LaVorgna put it, “It’s the taxpayers who get stuck paying the difference and see a greater percentage of their dollars spent on former employees and a smaller percentage going to schools, public safety and the services they expect.” This scenario is extremely challenging, as most municipalities are already stretched to the limit.
- Pension Reform: That threat of increased contributions from municipalities may increase the pressure for pension reform. According to media reports, local government officials in California have already expressed their disappointment over the returns, underscoring the need for reform.
More Reading
The New York and California results were released on the same day that a report was published by the State Budget Crisis Task Force, led by former Fed chairman Paul Volcker. The 122-page report stated that “underfunded retirement promises” are among the key problems resulting in “persistent and growing structural deficits in many states which threaten fiscal sustainability.”
Gov1 will continue to track pension reform issues for readers. You can select Pensions under “Hot Topics” in the left-hand column of our Web site, or refer to recent articles on the topic, including our overage of the pension reform measures passed in San Jose and San Diego.