This bomb just stopped ticking
By E.J. MCMAHON & JOSH BARRO
Last Updated: 12:10 AM, December 8, 2010
Posted: 10:42 PM, December 7, 2010
In November 2003, the Manhattan Insti tute for Policy Research issued a report describing New York state's public-pension system as "a ticking fiscal time bomb." Seven years later, the bomb is exploding -- squeezing funding for all other public services, on top of the pressures from the slowed economy.
New Yorkers will be coping with the fallout for years to come.
In a new report released yesterday by the institute's Empire Center, we find that pension contributions will skyrocket over the next several years, because the state's pension funds made risky bets in the stock market and lost -- leaving taxpayers, not public employees, to pay the bill.
For example, school districts will pay $900 million into the New York State Teachers' Retirement System (NYSTRS) in the current fiscal year, but will be expected to come up with about $4.5 billion in fiscal year 2015-16. And that assumes that the fund manages to achieve its target of 8 percent return on assets for each of the next several years. If it falls short, the bill will be even larger.
Paying for that $3.6 billion increase will require an average rise of 3.5 percent a year in school property-tax levies for all districts outside New York City -- before covering any cost increases in areas beyond pensions. (By itself, this would bust the 2 percent property-tax cap that Gov.-elect Andrew Cuomo proposes.)
Meanwhile, contributions to the New York State and Local Retirement System (NYSLRS), which covers non-teachers outside New York City, will more than double, boosting taxpayer costs by $5 billion in the next five years.
The city itself, having experienced a tenfold increase in pension costs in the last 10 years, will see its pension contributions rise by at least 20 percent more in the next three years -- and probably much more thereafter.
It's not hard to understand why the bill is so large. From 2007 to 2009, the eight pension plans that cover most public employees in the state lost a collective $109 billion, or 29 percent of the assets they held. But because pension benefits aren't linked to asset performance, taxpayers must make extra payments to cover those investment losses.
NYSLRS and NYSTRS are "fully funded" by permissive government standards -- but not when evaluated using private-sector guidelines. We estimate that they're actually a whopping $120 billion short of what they'll need to make good on their promises. And the city fund is, if anything, deeper in the hole by real-world standards.
How did this happen? The problem with New York's pension systems goes far beyond the headline-grabbing abuses -- the pension-padding and overtime-spiking, not to mention the marathon-running firefighter on a sweet "disability" pension.
What's really driving up pension bills is the structure of the system itself -- which allows legislators to make generous promises to public employees today, with all the cost and risk borne by taxpayers years and decades in the future.
And that's why the necessary next step in pension reform for New York is not to mend the existing system, but to end it. Other benefit models can provide public employees with retirement security without threatening to crowd out vital services in a future fiscal crisis.
From the standpoint of employers and taxpayers, the best way to accomplish this would be to shift new employees to defined-contribution (DC) plans modeled on the 401(k) accounts now prevalent in the private sector, or the 403(b) plan available to SUNY and CUNY employees.
While a growing number of states are changing their pension systems (11 this year alone), only Michigan and Alaska have so far mandated pure DC plans. A recent Michigan State University report on that state's 1997 reform found that it "resulted in a plan with lower, more stable annual costs that does not expose the state to any long-term liabilities."
Earlier this year, Utah enacted a hybrid reform that offers each employee either a DC plan or a modified pension plan that caps the taxpayer contribution at 10 percent of salaries -- shifting most investment risk back to employees.
There need not be a single statewide model of reform. The next governor and Legislature could create a set of new retirement-plan options for local governments, school districts and public authorities to choose from. Some might opt for a pure DC plan and some for hybrids, while others might decide to allow their employees to choose between the two.
But state officials should not settle for creating a "Tier 6" that adjusts a few pension parameters while preserving a fatally flawed system that exposes taxpayers to potentially open-ended liabilities. This has failed time after time, because public-employee unions always ensure that any positive reforms are retroactively undone in the next bull market.
The main priority is to stop adding to the problem. As things now stand, rising pension costs threaten to starve public services at every level.
There is no better way for Andrew Cuomo to show his seriousness about fixing New York's dire finances than by championing the sort of fundamental pension reform that has eluded New York for the last four decades.
E.J. McMahon is a senior fellow of the Manhattan Institute, where Josh Barro is the Walter B. Wriston Fellow.