| March 1, 2010
Oklahoma's Other Budget Problem
You know all that bad revenue news you've been reading emanating from the state capitol in Oklahoma City? Well, it's only half the story.
Not much attention is being paid to the worst story of all about state governments: the gap between promised retirement-related benefits and resources available to cover the costs of promised outlays.
The title of a recent national report from the Pew Center on the States was certainly catchy: "The Trillion Dollar Gap." As a sometime critic of Pew studies, I confess this was a solid 61-page overview of underfunded pension funds in the 50 states. Economist Arnold Kling, commenting on the Pew study, summed up the states' pension decisions with the phrase "fifty Bernie Madoffs."
Oklahoma's situation is so grim that we made Pew's press release about the study. That's never good news, as press releases always capture only the most telling (read: dramatic) examples of the issue at hand.
To get to the red meat, here's what the Pew analysts had to say about the Sooner State: "The seven state-administered pension systems had a combined funding level of 60.7 percent in fiscal year 2008, a total liability of $33.5 billion and an unfunded liability that was 219 percent of total payroll. During the 1980s and 1990s Oklahoma increased benefits, but did not boost contributions enough to offset those increased liabilities. By pushing the costs into the future, the state's actuarially required contribution has risen to almost 21 percent of payroll, annually. In addition, the state has lagged in making the required contributions, so funding levels would likely have continued on a downward path even without investment losses."
But wait, that's not all: "[W]hen Oklahoma increased benefits in the 1980s and 1990s, leaders simply did not focus on the size of the unfunded liability that was building up, according to Tom Spencer, executive director of the Oklahoma Public Employees Retirement System. ‘Frankly, I don't think our legislature was paying attention to the actuarial statistics when passing legislation. It is obvious that in some local plans and some state plans, the benefits have just gone way too high,' Spencer said. ‘[E]very government needs to be able to afford the pensions they've promised. In Oklahoma, there's been a gigantic disconnect between what's been promised and what they're willing to pay.'"
I've written before that underlying issues in public (government) finance might best be looked at the way we look at matters of mental health and personal responsibility. That is: Admit there's a problem, then consider how to address the issues. The Pew study is a good place to begin Oklahoma's deliberation. As the Pew authors wrote:
"To a significant degree, the $1 trillion gap reflects states' own policy choices and lack of discipline: failing to make annual payments for pension systems at the levels recommended by their own actuaries; expanding benefits and offering cost-of-living increases without fully considering their long-term price tag or determining how to pay for them; and providing retiree health care without adequately funding it."
The authors continued, "States know how much money they should be putting away each year to cover pension obligations for current and future public sector retirees. The ‘actuarially required contribution' is the amount of money that the state needs to pay to the plan during the current year for benefits to be fully funded in the long run, typically 30 years."
What does this mean? "Unfunded liabilities develop when governments fail to provide funding as benefits are earned and also when inaccurate assumptions are used to calculate payment amounts."
What's Oklahoma's situation, bottom line? Breaking down the needed $33.5 billion mentioned above, and separating out the 40 percent that is unfunded, the state's shortfall, as of 2008 data, is a bit under $13.2 billion. The required annual contribution is $1.245 billion, but the most recent actual contribution was only $986 million.
Take a deep breath, and keep reading. I've come to respect deeply the work done at the Institute for Truth in Accounting, a Northbrook, Illinois-based group headed by accountant Sheila A. Weinberg. Weinberg's parsing of the recent Pew study was a helpful to me in starting an examination of the potential nightmares in Oklahoma's government retirement systems.
Weinberg points toward solutions, or at least a start at solutions. She advocates something called the Truth in Accounting Act (TAA). As she describes it, "The Truth in Accounting Act would require states to disclose the true costs of pensions and health care systems. During their budget processes, states would be required to prepare a simple to read balance sheet, which would include the unfunded retirement plans' liabilities. Then they would be required to illustrate what would happen to the state's financial condition, if the proposed budget was enacted. The legislation would also require states to work with actuaries to calculate the costs of pension benefit enhancements before the legislators voted on these changes."
She also says, "Unfortunately, state and local government officials determined long ago that if they paid their employees more salaries there would be an impact on their current budgets and financial statements. The cash basis method used to calculate state budgets allows governmental officials to use deferred compensation gimmicks to avoid such negative impacts and keep their workforces happy. So, during labor negotiations, governmental officials just keep promising employees more pension and retiree health care benefits. None of these deferred costs appeared on the budget so politicians do not have to cut other programs to provide for these benefits, nor do they have to raise taxes to fund these future promises."
While poring over the Pew data and Weinberg's analysis, I contacted a retired legislator with considerable knowledge on pension and retirement system problems. After going through the latest depressing data, I asked my friend to comment. While asking to remain unnamed, this person's reply was informative: "The trouble is there are no adults worrying every day about the unfunded benefits in the pension programs and the overall retirement structure. There are some who raise the alarm bell every year or two, but their concerns don't get seriously addressed. In fact, in past economic downturns, when state revenues got tight and the Legislature couldn't find a way to increase salaries or raise agency appropriations, the typical response was actually to sweeten retirement benefits a little. And, of course, that just made the problem of unfunded benefits worse and worse."
To sum up, the problem merely outlined here has several parts, but two seem to me fundamental.
First, there's the gap between promises (however unwise those promises might be) made to government employees over many decades and the actual ability to pay for those benefits. Second, there is the reality that unless the issue is addressed, a bill will eventually come due that is beyond the ability of any government-however wise or good-intentioned-to address.
The future is rushing in upon us. It's at least possible that the Great Recession was merely a hint of what lies ahead for the American economy and for our government system. Even if, somehow, the nascent recovery is particularly robust, unfunded pension and retirement problems will remain.
We might as well get started addressing the issues now, rather than later.
Patrick McGuigan is editor of CapitolBeatOK. He works under a contract with OCPA to provide incisive, accurate, and timely news coverage of Oklahoma state government. Visit www.capitolbeatok.com for in-depth reporting on the latest developments in state government.