Director of Health Policy and Pension Reform
The following op-ed appeared at RebootIllinois.com
In the aftermath of this month’s scramble to pass something – anything – that politicians could call pension reform, here’s the most important reason why taxpayers should be grateful the Nekritz-Biss plan was shelved: the “funding guarantee.”
The Nekritz-Biss plan’s “guarantee” would legally make government employee pensions the state’s top spending priority – over education, health care, public safety and all other core services – regardless of the state’s fiscal condition.
State law currently says that if pension funds run dry, the game is up. General state revenues can’t be automatically siphoned off to make sure pension checks don’t bounce.
For years, this has been a source of frustration for government unions, and these groups have been consistent in their demand for a funding guarantee from the state. The Nekritz-Biss plan would give it to them. That’s disturbing, given the risk the state’s pension managers must take in order to meet their investment targets.
Case in point: A new report from the Illinois Auditor General revealed that the state’s pension systems have $1.6 billion of teacher, university and state worker retirement money in bonds that Moody’s Investors Service or Standard & Poor’s rate as below investment grade. That’s the rating given when the bond issuer no longer has an adequate capacity to meet its financial commitments. These types of investments are usually termed junk bonds. These bonds can earn big returns, but they’re riskier because the odds of the issuer defaulting are higher.
More than $1 billion of the money invested in junk bonds is from the Teachers’ Retirement System – the pension fund for suburban and downstate K-12 teachers. Altogether, junk bonds make up more than 12 percent of the state pension systems’ bond portfolios.
While some of the bond portfolio might be hedged, these investments illustrate the major problem with the state’s politician-controlled pension plans. The pension systems can make high-risk investment decisions, knowing that an automatically adjusting target for the annual state pension contribution will help bail out any resulting poor returns.
Right now, the General Assembly can change the actual pension payment based on competing fiscal pressures, but the Nekritz-Biss guarantee would take things to another level – giving pensions priority over virtually every other obligation the state may have.
Indeed, the plan calls for creating an enforcement mechanism that’s more powerful than even what the state’s bondholders receive. The Nekritz-Biss plan would create a constitutional right to this guaranteed funding as a trade for what the bill’s sponsors call pension reform.
But the changes the Nekritz-Biss plan puts on the table are not real reforms at all and do not get to the root cause of the problem. As long as Illinois clings to its outdated, politician-controlled pension system, the state will live in a perpetual pension crisis.
Retirement plans based on defined benefits are a thing of the past. These plans have simply proven too expensive and unpredictable for employers to maintain. Most private sector workers participate in defined contribution plans such as 401(k)s. Some states are following the lead of the private sector and have already transitioned to plans based primarily on 401(k)-style retirement plans.
The only way to truly reform the state’s retirement system is to expand a program that already exists for workers at Illinois’ community colleges and public universities. Today, more than 10,000 government workers participate in a 401(k)-style plan that puts them – not politicians – in charge of their retirement.
You have to wonder how today’s government workers and retirees feel about being forced to have their pension contributions invested in junk bonds in the current defined benefit system. It’s one thing for workers to invest their money according to their own tolerance for risk. It’s quite another to force them to invest in high-risk bonds whether they want to or not.
This is exactly why workers should be given the freedom to control their own retirement savings. We simply can’t trust the politicians to manage the crisis going forward. Workers deserve the opportunity to make investment choices that reflect their own needs, not be forced into the high-risk choices made in Springfield.
Unfortunately, the Nekritz-Biss proposal ultimately keeps politicians in control of the retirement systems, rather than liberating workers and taxpayers from the failed status quo.
While the Nekritz-Biss plan does make modest changes to slow the growth of future cost-of-living adjustments and to very slowly increase retirement age, the total effect of the plan reduces the state’s total pension liability by just $28 billion. This represents less than 18 percent of the $159 billion pension liability that the state officially reports.
In exchange for small changes that do not address the fundamental problem of the pension crisis, the Nekritz-Biss plan promises to make pensions the top priority forever. This would completely destroy the state’s ability to make meaningful changes in the future while placing all future risk on the backs of Illinois taxpayers.
And for what? A couple of marginal “reforms” that leave in place the failed politician-controlled defined benefit plans.
If anything needs junking, it’s the funding guarantee.
image credit: Jason E. Rist/Flickr