Allen Alley: PERS (Part III) - the Solutions
How do we protect the pensions while not bankrupting the state?
Technology entrepreneur and investor working to create opportunities for the next generation. Former Oregon GOP Chairman and candidate for Governor and Treasurer. Aspire to be a voice for those not heard. @allen_alley
**Note from the author**
This is the second in a three-part series of articles that examines the Oregon Public Employee Retirement System (PERS), the System’s liabilities (Part I), the assets (Part II) and potential actions we can take to protect PERS and the retirees who count on it remaining solvent (Part III).
The PERS issue has three fundamental factors: the liability (how much money we owe), the assets (how much money we have), and the potential solutions (how we return to financial stability). One of the biggest issues we have when discussing PERS is that people comingle these factors. They interchangeably discuss the liability and the assets. The result is a huge amount of confusion. I am discussing the factors in separate articles to avoid that confusion.
The PERS liability review
PERS is largely a defined benefit plan. That means government employers make promises to employees that in the future, after they retire, they will be paid a percentage of their salaries for the rest of their lives and, in many cases, the lives of their spouses as well. The “benefit”— how much will be paid—is defined, but the “contribution” to fund that benefit isn’t quite as rigorously delineated.
With respect to those contributions, the government employers don't always have to put aside enough money to meet the obligations of their promise. The bottom line is the State of Oregon has an obligation to pay current employees and existing retirees $238 billion over the next 30 years.
The questions now are:
How much money do we have saved to cover those liabilities; and
How much more do we need?
The PERS asset review
We have saved about $60 billion in assets to pay off the $238 billion in cash payments we need to make over the next 30 years. The money is invested in various short- and long-term investments in everything from publicly traded stocks and bonds to real estate and venture capital. We need to pay out billions of dollars each year to retirees and need to put billions more aside to meet the pension promises we make each year to new employees. Simply put, the liabilities we currently have are growing faster than the assets we have to meet them.
Is there a solution?
There are many potential solutions. None of them are perfect. None of them make the problem go away. But any of them are better than what we are doing now which is basically sticking our heads in the sand.
What are we doing today?
The current approach to funding the pension liability can be boiled down to to raising taxes, fees, and fines, while sacrificing services and hoping nobody notices. The issue is so big and complex, I really don’t know if any elected official really understands it. I actually don’t believe elected officials are individually malicious. I think it has just reached the point that the bureaucracy has overwhelmed the people in charge of oversight. It is like when the omnipotent, out-of-control computer HAL, from the movie “2001: A Space Odyssey,” said to his human operator, “I know that you and Frank were planning to disconnect me, and I'm afraid that's something I cannot allow to happen.”
The signs of an inadequate approach to managing the PERS liability are all around us. During the last several years there have been numerous high profile taxes passed. To name a few: a sales tax on businesses, a sales tax on cars, a health insurance premium tax, “sin” taxes on smoking and alcohol, a hold back on the “kicker” income tax rebate, a gas tax hike, and increased auto fees. With taxes surging and a robust economy, tax receipts have spiked. The State budget grew by 45% in the six years between 2013 and 2019; in the same period, state GDP growth went up by “just” 28%. The upshot: government grew almost twice as fast as our economy. This does not include the growth in city, county, Metro and TriMet.
One would rationally think that if the budget bounced by 45%, then surely there would be a commensurate 45% surge in services. Again, just by looking around, you can see that revenue is being siphoned for something (PERS) other than services. I ask you, is anything 45% better than it was in 2013? Do we have 45% smaller class sizes? Are there 45% fewer people without shelter? Do we have 45% more parks or are the slides 45% faster or taller? Are roads 45% smoother or do we have more roads?
Can you think of anything that is 45% better? Why does the budget go up by 45% and there seems to be few tangible benefits? I don’t know all the reasons, but one is we are paying for pension liabilities that have been promised but not funded. And, even with all of this, we continue to fall behind as the liability grows and grows.
What should we be doing?
The first step is to honor the commitments made to existing employees and retirees. They planned their careers and retirement around having these benefits. We, the voters and taxpayers of Oregon, “hired” the government officials who granted these benefits and then chronically underfunded them. I believe we need to live up to the agreements made by our elected officials. The Oregon Supreme Court agrees with me; they have made it clear that we cannot go back and unilaterally change contracts.
But, we can, and I believe must, make changes going forward. We simply cannot support continuously growing the number of government employees with these benefits. It is exactly as if we paid for the benefits with a credit card and have blown through the credit limit and don’t have the income to make the payments. In that case, the first step is to cut up the credit card or, in our scenario, stop increasing the liability and not fully funding it.
Second, we need to have a new retirement plan that requires full funding each and every year. If we had the discipline to do it with a defined benefit program, like the existing PERS approach, that would be OK. But we now have more than 50 years of history that says our elected officials simply cannot put money aside today for a liability 30 years in the future. That is why I believe we need to move to a 100% defined contribution plan—a 401k-like plan.
The private sector moved to this type of plan years ago; the Federal Government did as well in the 1980s. Under this sort of plan money is set aside into a retirement account and that money is invested, accruing market returns. By definition, those plans are fully funded every year. The government employers are required to fund the retirement plans today. There is no getting around it – the can cannot be kicked. It is cemented to the ground. These sorts of plans can be designed to yield great benefits that will allow us to recruit and retain top quality government workers. In fact, we already have the plan in place for government workers; it is called the Individual Account Program (IAP). Every government worker already has one, all we need to do is to expand it.
Paying off the debt
Finally, we need mechanisms to pay down the liability that we have already accrued. Moving to a 401k-like plan for new employees doesn't wipe out the $238 billion we need to pay out to people on the existing plans. I’ve listed a few ideas, but hope this article can stimulate additional discussion about these and others.
PERS for all!
PERS needs cash. Oregonians don’t begrudge government employees for having PERS—they want their own version of PERS. At first, I dismissed this idea as craziness, but as I thought about it, something like this could work.
OPERF (the group that manages the funds to cover the PERS liability) has access to investments that “normal” people don’t have. OPERF can access private equity, real estate, and venture capital funds that would never accept investments from individual investors. On top of that, OPERF doesn't pay taxes. So, the idea would be to allow Oregonians to invest in OPERF.
The concept is like a “War Bond.” We have a crisis, so individuals could and should invest in “PERS Bonds.” Ideally, the bonds would pay a guaranteed rate of return, say 5%. OPERF would take the money and invest it. If they generated their targeted rate of return of 7.2%, then they would make 2.2% per year and give many Oregonians a 5% return backed by the State. This idea isn’t new. It is very similar to the “side funds” that government entities are already using. But it would bring the people of the state together because more people would be invested and have a vested interest in the success of OPERF. It has regulatory and financing hurdles, but, as we discussed, this issue cannot be resolved by trimming around the edges—it is going to take bold, out-of-the-box ideas.
Tax the Government
The all funds budget proposed by Governor Brown for 2021-23 is $99 billion. That is up from $59 billion in 2013-15, an increase of 68%. What if we put a PERS fund surcharge on every state agency of about 3%? If that was applied across the entire government, that would raise $3 billion in a biennium. It wouldn't completely solve the problem, but it would, taking a term from COVID-19 management, “flatten the curve.”
Before you scoff and dismiss this idea, it is actually exactly how the Department of Administrative Services (DAS) is funded in the government today. DAS charges agencies “service charges”—AKA taxes—to provide administrative functions that are centralized for state agencies. The idea to create a PERS fund service charge is simply an extension of this pre-existing mechanism.
Hire fewer employees
State employees have become extremely expensive as their direct compensation has grown and benefits have expanded. Former Democratic Secretary of State Phil Keisling, a Senior Fellow at the Center for Public Service at Portland State University's Mark O. Hatfield School of Government, did a study in 2012 examining the “Total Employer Cost of Compensation” for several government entities across Oregon. The bottom line is the total cost of compensation for a government employee is approximately double their base pay—taking into account insurance, retirement, overtime, and paid time off. So, a government employee in 2012 that appeared to make $60,000 in salary costs another $60,000 in benefits for a total of $120,000.
I am not advocating to cut the pay or benefits of government employees. We simply need to recognize that these employees are relatively expensive. Retirement benefits alone (PERS) add between 24%-34% over their base salary. Given that we have already built a huge commitment to future retirement benefits for the existing employees and retirees (and have not fully funded those benefits), we need to moderate the number of new employees hired. We simply cannot afford to continue to expand the payroll at the same rate. Again, by “flattening the curve” of employee hiring we can also flatten the growth in payroll and benefits.
If we reduce the number of full-time, full-benefits employees, how can we service the growing needs of the state? One way is with investments in computer systems and software. Computer systems and software can be tools to allow fewer, better-trained employees to be more productive. And, computers and software aren’t entitled to retirement benefits. At least not yet…We can also supplement full time regular employees with other staffing options.
Oregon Peace Corps
One way to augment our regular staff would be to create something like the Peace Corps but just for Oregon. High school graduates would be hired by the government to do entry level jobs. They would receive full time salaries, but reduced benefits and no retirement benefits. In return, they would earn education credits that could be used in the Oregon University System or for other post-secondary education. A person graduating from high school could earn a completely free university education in a few years. This could solve two problems: first, “flattening the curve” of the growing PERS liability; and, second, reducing the burden of student debt.
Federal government bail out
I don’t really like this suggestion but it is a possibility. The national unfunded actuarial liability for all state pension plans is about $1.5 trillion dollars. The Federal Government could just print the money necessary to bail out state pension plans. The problem is some states are well funded and need little money, while others states are hopelessly underwater. The debate is similar to the debate about paying off student loans. Why should someone who acted responsibly and managed their student loans be held responsible for someone who didn't? Why should states that managed pension liabilities within their means be burdened with the debt of less financially prudent states?
Politically a bailout is tricky because generally there are more Democratically-controlled “blue” states that would be bailed out than Republican-controlled “red” states. Also, states have taken different approaches to balancing their systems. Several of the Democratically-controlled states have realized that they have an issue and have been taking meaningful steps to balance their systems. Oregon isn’t one of them.
If you don’t believe that this is a possibility, then look no further than to comments made by Speaker Pelosi in the debate around COVID-19 relief regarding “pension support.” Several proposals from the U.S. House have included money to states to pay down pension liabilities. The issues I have with this approach are twofold. The first one I already mentioned—is this equitable to the states that have taken the meaningful steps to balance their liabilities? And, the second is without something to enforce fiscal discipline moving forward, the bailout is only a speed bump. The structural issues that allow unfunded commitments to retirees are still unresolved. Any bailout needs to be tied to real reform and at the top of the list should be moving new employees to a defined contribution, 401k-like plan.
The Bottom Line
The PERS liability and how we pay it is an incredibly large and complex issue, but it isn’t so large and complex that we can’t fix it.
I have provided some ideas to expand the scope of the discussion. My ideas might not all be feasible but they are meant to help people think differently about the issues and then come up with their own suggestions. After working in the Governor’s office and meeting with people all over the state, I am sure that the solutions exist here in Oregon. We need the right people holding elected office, sitting on oversight boards, and communicating a clear and credible plan for financial solvency. In this case, as with what we have seen with COVID-19, hope is not a strategy.
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