Is there a public pension problem?
A general question I've come upon in my project on pensions: is there really a teacher pension problem? If so, what is it and what do we do about it?
So far I've written about two perspectives: a contribution-side perspective from Biggs and a cost-side perspective from Aldeman and Equable. This week I'll look at yet another cost-side article, more recent than Aldeman, to see if there's anything to take from it. Next week, I'll look at a leftwing debate on pensions between Doug Henwood, Liza Featherstone, and Max Sawicky on this question.
Triples
Robert M. Costrell's "The Three R's of Teacher Pension Funding: Redistribution, Return, and Risk" is interesting. It was published in the special issue of Educational Researcher alongside Biggs' piece and takes a cost-side perspective, but doesn't look affiliated with Aldeman and Equable.
Costrell's approach in the article is to use California's pension, CalSTRs, as a case study for specific cost imbalances in teacher pensions generally. (He admits that CA isn't representative, but uses his calculations to generate projections anyway.) His goal is to present the "gap between benefits and contributions in a simple integrated framework," considering how:
(i) employer contributions to pensions redistribute money intergenerationally because they're made on behalf of early career teachers and "help fund the benefits of those who stay longer";
(ii) "much of contributions for future teachers go towards unfunded benefits for today's teachers" because "overoptimistic assumptions of the expected return on investments";
(iii) risky investment decisions create "costs that are off-the-books."
Thus his catchy redistribution-returns-risk framing as the three R's of teacher pension funding. Using this framework is a good way to talk about cost problems, he says.
In CA, he finds that the "full cost of a career teacher's annual accumulation of benefits can be as high as 46.6% of earnings, nearly triple the corresponding contributions of 17.5%." That means the pension needs to pay out triple the amount of what comes in from contributions. Here we see another tripling number, sort of like Aldeman and Equable's 322%. Costrell even has his own calculation of this cost increase from a paper he published in 2015, that "employer contributions now account nationally for about $1600 per pupil, up from $500 (inflation adjusted) from 2001).
These cost side people seem to think in threes. 322% increase in growth cost! Triple per pupil cost! Triple the percent of earnings! The three R's! I'm seeing a pattern, lol.
Anyway, how'd Costrell get to 46.6%? And what's the ideology involved? We'll take each R in turn.
Premise 1: Redistribution
Costrell builds his case with three premises according to the Three-R framework. The first premise is that younger teachers' money is being redistributed to older teachers. He says
an individual who leaves at age 45, with benefits that cost only 8% of earnings, is effectively seeing almost 10 percentage points worth of contributions redistributed to fund the benefits of others. Conversely, the benefits for an individual existing at age 65, which cost 21.3% of earnings, are effectively being funded by contributions for others of almost 4% of earning, on top of the contributions made by or for herself.
A couple notes about this point. First, notice the word 'effectively'. I think Costrell has to qualify the relationship between contributions by younger teachers and annuity to older teachers like this because it's not causally or maybe even factually true in an obvious way. If you took out that qualifier 'effectively', you'd see that he couldn't argue that the benefits from younger teachers are actually going to older teachers. Of course, we can see this amount, the difference between contribution and benefit, that he's calculated as that intergenerational redistribution if we trust him. But why should we? It's a lot like Aldeman's saying that pension costs are 'attributable' to districts, without being able to actually so attribute them.
Second, even if we grant that this amount, this difference between contribution and benefit, is effectively redistributed, isn't that how we'd want a solidarity policy to work? Some people give up some of their stuff to others so the latter can live well. The givers understand that they'll be taken care of also, and understand that, okay, if they leave early they won't be able to take advantage of the program. Why can't we understand this redistribution as solidarity itself?
Premise 2: Return
The second premise in Costrell's argument is about how bad current assumptions about return are. Costrell says that the ways the CA pension thinks about how much it’ll make from its investments are too optimistic, which, if true, creates pension debt because it’ll end up needing more than it can provide.
Pensions typically assume 7%-8% returns on investment, but he says that CalSTRs only got 5.8% between 2001-2019. If we use a 6% return, he says, the numbers don’t look good. Costrell says: “the benefits of those retiring at age 65 would cost 27.5% of earnings over their careers, of which 17.5% is covered by current contributions.” Thus currently earned benefits are not being fully funded.
The point about return here is a touchpoint, maybe the point of tension, between the cost side and the contribution side. You can't talk about return assumptions without talking about the political-economic contexts in which these assumptions occur, which ultimately configure pension costs. Costrell is no exception. And the weakness of the cost-side perspective shows when he talks about that very context in the 2001-2019 period.
Long after the bull market of the 1990s had passed, most plans continued to assume their investments would earn 8% or more annually. Clearly, this became untenable following the crash of 2008.
Two things here. Costrell's adverbs are good signs of the ideology in his account. Notice how he says 'clearly', as a kind of throat clearing, or nervous grinning-shrug, to make way for a noticeably passive construction to talk about investment return assumptions. These assumptions, which were normal actuarial assumptions, 'became untenable' following the crash of 2008.
I had to laugh. It's as if the assumptions are things by themselves, existing in a void-like vacuum, and change magically, on their own, rather than existing as thoughts in people's heads in a society with a history. It's not like pension return assumptions just 'became untenable' suddenly, shockingly, without cause.
No, actually, capitalists and lawmakers were stupid and rapacious and tanked the economy.
So yeah, pension assumptions about the returns they could get on their assumptions had to change. And during the 'recovery' neoliberals kept up their bad economic policies rather than being even the slightest bit generous, particularly in the public sphere, and public pensions suffered. To blame a public pension for this situation is abhorrent. Calling these assumptions 'overly optimistic' is like saying that a murder victim was 'overly optimistic' in assuming their murderer wouldn't murder them.
We should blame capital! Public pensions are just trying to take care of old public servants when they become too old to work. They made certain assumptions that served them well before rabid capitalists ruined the economy, and kept up with those assumptions because they didn't really have any other option when those rabid capitalists' lawmakers decided to keep pushing their neoliberal austerity regimes despite the crisis. Claiming this returns issue as a cost problem is so gross.
Premise 3: Risk
Finally, Costrell talks about the way this return can vary by the riskiness of pension investments, not just assumptions about returns. When you don't invest in risky assets, you stand to lose money because you're not making as much as you might be able to. Because pensions don't do enough risky investing, they stand to lose money. They pay a risk premium. "Thus, the full cost of risk-free benefits is much higher than that calculated by public pension plans."
Private defined benefit pension plans have to report this risk premium in the form of a discount rate which is "equal to the low-risk return on high-grade corporate bonds, regardless of the plan's actual portfolio." But public pensions don't have to do this. So there are "hidden costs."
So Costrell assumes a 4% discount rate "which is about the return on high-grade corporate bonds used to evaluate the cost of private sector DB plans" and finds that "the full cost of CalSTRs is 38.8%", which, apparently, is what happens when you consider "the cost of over-estimating the long-run return on risky assets...and other tangible and intangible costs of risk."
This seems like a lot of leaps. First and foremost, that public pensions should be held to the same standards as private pensions isn't reasonable. Shouldn't public pensions be in a different category? Second, it's all speculative thinking here, speculations upon speculations, and Costrell cites the "principles" involved here, while kind of wildly abstracting to get these numbers. He doesn't know the actual composition of CalSTRs' portfolio. He doesn't know the actual risks involved. He just applies the numbers "in principle" and gets this massive conclusion which, conveniently, fits his argument.
Is there a problem?
Again, in general, Costrell's goal is to show that "newly earned benefits continue to cost more than the contributions designated to fund them." Basically, there's a gap between what's coming in and what's supposed to go out. Costs are higher than revenue. CalSTRs contribution rate is 17.6% of teachers' earnings (that's the pensions' revenue) but it turns out, he says, that it actually pays out 46.6% of earnings, leading to a big funding gap.
The way he gets to his magic 46.6% number is by adding up all the costs of redistribution, return, and risk:
The full cost for 65 year old retirees is 46.6% of their career earnings...17.5% is funded by uniform contributions, another 3.8% is redistributed from contributions for others, 6.2% is the deferred cost if the long-run returns come in at 1% below assumed, and the extra cost of the risk borne to guarantee their pension is 19.1% of their earnings.
It's all so bad! The pensions cost so much more than they take in from contributions! Panic! But wait, let's look at each number and the responses we gave to each premise above. Turns out we can be pretty suspicious here.
First, the contribution rate is already 17.5. So the problem isn't really 46.6 big, it's actually 29.1 big because Costrell is saying that he found 29.1 more costs.
Second, we said the 3.8 part of that 29.1--the intergenerational redistribution--is just a solidarity contribution.
Third, the 6.2 part of the 29.1--the problem of lower returns than pensions assumed--happened because Wall Street ruined the economy in 2008.
Fourth, the 19.1 part of the 29.1--the risk premium costs pensions incur when they don't invest in the most lucrative investments--is wild speculation (Costrell says nothing about the actual portoflio) and a category mistake (that public pensions should be treated the same as private ones).
That's my response here: every number comes from somewhere; every number is ideological; Costrell's argument is seriously flawed. So, we have to ask again, is there a pension problem? Biggs has already said, in the same special issue, that, yes, while costs have gone up, the pensions themselves aren't at risk of insolvency. So the pensions are fine. They can pay out their annuities. Biggs even includes CalSTRs in his dataset--and he looks at 31 pensions, not just one, like Costrell. So what's going on here?
True colors
Before he gets to the premises of his argument, Costrell shows his anti-solidarity colors. When it comes to defined contribution plans plans, he says, "there are no hidden costs to be paid later. There are no hidden subsidies from some employees to help cover the retirement costs of other employees." Then he really shows the anti-solidaristic ideology of this stance: "Each employee has his or her own retirement account [in a DC]. The ultimate retirement benefit is uncertain, depending on the choice of investments and the return, but the cost is not."
Here's the market ideology in plain sight. He's saying that our pension policy should follow this imperative: what old people who can't work might get from their pensions might be uncertain, depending on what they end up with--but hey, at least the cost is certain! The solidarity here is severely lacking. He gets it exactly backwards. We should want to be as certain as possible about what our old teachers who can't work will get as they age, not how much trying to take care of them will cost us. The pyrotechnics involved in Costrell's talking about this cost problem is staggering: the cost side people go to all kinds of great lengths to prove their point.
Is there a public pension problem? Like I said last week, you would only think there's a public pension problem if you have an ideological problem problem with public pensions.