By: Ted Dabrowski and John Klingner
The nation’s weakest public pension funds may soon be among the casualties of COVID-19. Many were facing insolvency even before the virus hit and the stock market meltdown will only accelerate their decline.
Expect politicians in fiscally irresponsible states to ask for pension support as a part of any assistance they receive from the federal government. The country’s pension funds already faced a collective shortfall of more than $5 trillion in 2018, according to Stanford’s Pension Tracker. How the federal government doles out state aid, and what strings it attaches, will have long-term implications.
To see which funds were at greatest risk, Wirepoints analyzed the asset-to-payout ratios of 148 state and local pension funds across the nation with $2 billion or more in assets, using data collected by the Center for Retirement Research (CRR) at Boston College. The asset-to-payout ratio – one of the statistics Moody’s Investors Service uses to measure pension health – compares a fund’s total assets to how much it pays out in benefits each year. In other words, it measures how many years a pension plan can make benefit payouts before it runs out of money, assuming no new contributions or investment income.*
Worst-off are funds in the states most well known for their pension crises: Kentucky, Illinois, New Jersey and Connecticut. In 2018, the most recent year with comparable nationwide data, some of those funds had assets equal to just a few years’ worth of benefit payouts.
Kentucky’s Employee Retirement System had the worst asset-to-payout ratio in the CRR database. The fund had just 2.5 years’ worth of assets to make future payouts with.
For the full list of 148 pension funds, see Appendix 1.
Aaron Ammerman, Board Chairman of the Bluegrass Institute for Public Policy Solutions in Kentucky, says that the employees’ fund is at a level no public pension fund has ever recovered from and that the state’s other funds aren’t far behind.
Both Kentucky’s county-level and teacher funds also have less than ten years of payouts left. Unfortunately, even that fact isn’t enough to create change in the state. “Politically, it’s been really hard to get anything done in Kentucky when it comes to substantial reforms,” Ammerman says.
The New Jersey Teachers’ Fund had $26 billion in assets in 2018 – enough to cover only six years of payouts. The state’s public employee plan can cover just eight years of payouts.
John Bury, a New Jersey actuary who writes on pension issues at Burypensions, warns that funds in his state could start bouncing checks to retirees. Plans like the teachers’ fund are stuck with alternative investments, private equity and other complex products and very little cash. He says that if the state stops making its full contribution and “this downturn lasts through this year, then New Jersey’s funds won’t have enough liquidity to issue checks.”
Collectively, Illinois is the worst state in the CRR database when looking at funds with $2 billion or more in assets. Of the 15 worst-off funds, six of them are in Illinois – three at the state level and three in Chicago. All of them have assets worth eight years or less in payouts.
It’s unclear just how long and how deep the current market decline will be. And it’s not known yet just how exposed these funds were to the market correction – pension funds only disclose their financials months after the fact. But all funds will undoubtedly take some sort of hit to their already depleted assets.
If those plans run dry, they’ll end up as pay-as-you-go systems, where pensioners are forced to rely directly on the operating budgets of their employers, and not pension fund assets, to get their retirement checks.
Some funds, like some in New Jersey, are already in deep trouble. Bury says that if New Jersey’s funds were using honest accounting, “the plans would likely be pay-go already.”
Collapsing to pay-go status is risky given that sponsoring governments would have to make even bigger contributions directly from their operating budgets. With no pension assets left, they’d be responsible for paying the full amount of pension benefits each year.
Some governments can’t afford that considering they’re at risk of going broke themselves. That’s the case for the city of Chicago, which was already junk-rated and struggling with severe budget deficits even before the COVID-19 crisis began. (See case study below.)
In contrast to those funds running out of cash, the nation’s healthiest pension funds are well positioned to weather the current crisis intact.
The best funds had assets equal to 20 years or more of benefit payments before COVID-19 came along. While their assets may take a hit from the downturn, none of them are in any danger of depleting their available funds.
Tennessee’s Political Subdivision fund for local governments, for example, was 98 percent funded in 2018 with an asset-to-payout ratio of nearly 24. Missouri’s local fund also had 24 years of payouts. And South Dakota’s state fund was 100 percent funded with a ratio of 22.6 years.**
Illinois Case Study
Illinois pension funds are some of the most at-risk in the nation for going pay-go. Wirepoints calculated the asset-to-payout ratios of the pension funds in Illinois and found several had just two to five years’ worth of payouts left in 2018.
Take Chicago’s fire pension fund. In 2018, its total assets were $1.1 billion and its pension payout for that year was $330 million. That means it had about 3 years’ worth of payouts on hand – an asset-to-payout ratio of 3.4. There are just a handful of funds in the nation with lower ratios than that. By comparison, the plan had a ratio of 9.3 at the turn of the century.
The market sell-off and lower interest rates as a result of COVID-19 means the asset-to-payout ratio, barring any bailout, will continue its path toward zero.
It’s a similar story for Illinois’ other funds. Chicago’s police, municipal and park funds had ratios of less than five. The state’s employees, universities and teachers’ funds had assets worth just seven to eight years’ worth of payouts. All those funds are in the bottom 10 percent nationally.
Illinois’ dire asset situation is compounded by the fact that both Gov. J.B. Pritzker and Chicago Mayor Lori Lightfoot continue to categorically reject calls for a constitutional amendment that would allow pensions to be reformed.
Illinois’ pension crisis stems from a long history of overpromised pension benefits. But both the governor and mayor are unwilling to cross the public sector unions, even as the city and the state continue their downward spiral.
The coming bailout push
With so many cities and states suffering significant budgetary shortfalls due to COVID-19, it was inevitable that some of the nation’s worst-off governments would push for a bailout of their pension funds.
Illinois was the first state to ask. The state’s Senate Democratic caucus is seeking $20 billion in direct assistance for pensions as part of a $42 billion bailout request.
John Bury thinks that bailouts are likely given that so many funds are running out of assets. There will be a lot of financially responsible states that reject the idea of a pension bailout, he says. But if the federal government does get involved, it “should have some pension-reform strings attached.”
Most states with failed pension plans will complain about having to reform. But they are running out of options. New Jersey and others “still have enough money to keep going for two to three years,” Bury says. “But after that, who knows?”
The unwillingness of such states to make hard choices on their own is precisely why the federal government shouldn’t step in. But if it does dole out funds, any help must come with preconditions.
Defined contribution plans, cost of living reforms and increased retirement ages are all part of the reform suite the federal government should require. And for states that have constitutional protections, state lawmakers must commit to removing them or lose out on the aid.
Whether the federal government eventually provides direct aid to state and local governments remains to be seen. However, it’s imperative that any such support not be used to bail out pensions or enable irresponsible states to further ignore their retirement crises.
*A fund’s asset-to-payout ratio serves as a snapshot of a fund’s health. A shrinking ratio over time indicates a falling level of assets relative to a fund’s payment obligations. The ratio, however, does not predict when a fund will run out of money. The fund’s decline can be expected to take longer than the ratio indicates given it will still receive contributions from its sponsor and employees, as well as generate investment income.
**The state of Washington has a sprawling, complex set of segmented pension plans based on different tiers, which create outliers in the database. As such, Wirepoints does not highlight them in the text.