MANHATTAN INSTITUTE 2011 SUMMER M I The mission of the Manhattan InstituteM Ais Nto H develop A T T A N andI N S Tdisseminate I T U T E F O Rnew P O Lideas I C Y Rthat E S E foster A R C H greater economic choice and individual responsibility. DEAR FRIENDS AND SUPPORTERS, “This is a defining moment.” So said Congressman Paul Ryan—at an event hosted by our partner think tank, e21—the day after President Obama made his mid-April speech criticizing the bold new budgetary framework put forth by the Republican leadership. We at the Manhattan Institute agree with Congressman Ryan: this is a defining moment. And Lawrence J. Mone our fellows are leading the effort to reveal the true scope of the ongoing fiscal crisis and propose practical structural reforms that can lead us out of the current mess. The status quo is neither defensible nor sustainable. The problems associated with the cost of government affect all levels of American society. States and cities, in particular—where we have had a histori cal interest and expertise—are emerging as key battlegrounds in the fight to rein- in spending by controlling the cost of public employment. For too long, actuarial practice and political sleight of hand at the state and local levels have obscured the true financial liabilities of public-sector employee pensions. Manhattan Institute senior fellows Josh Barro, Nicole Gelinas, Steven Malanga, and E. J. McMahon have consistently worked to expose the inadequacy of government accounting standards. Sunday, May 29, 2011 Monday, February 28, 2011 Number 7 – Spring 2011 E.J. McMahon: Tweaks won’t reform NY state pension System needs overhaul to be defined-contribution. Dodging the Pension Disaster By E.J. McMahon Josh Barro In his opening message to the Legislature, Gov. Andrew Cuomo pointed out that public-pension costs are When Dan Liljenquist began his first term as a Utah state senator in January 2009, his financial acumen “exploding” across New York State. quickly earned him serious legislative responsibilities. A former management consultant for Bain & Company, Liljenquist was appointed by the Utah senate president, Michael Waddoups, to three budget- He certainly wasn’t exaggerating. New York City alone has seen its annual bill rise from just over $1 billion a related committees; he was also made chairman of the Retirement and Independent Entities Committee. As decade ago to a projected $8.4 billion in fiscal 2012. Pension costs for other localities are doubling, tripling or Liljenquist remembers it, Waddoups pre-empted any concerns the freshman might have had about his new even quadrupling over the levels of a few years ago. responsibilities: “Don’t worry,” Waddoups said, “nothing ever happens on the retirement committee.” The state’s own pension bill has increased 50%, or $500 million, in the past three years. It would be climbing But then, in the early months of 2009, the stock market went into free fall. Worried about the effects the on had not adopted a funding gimmick that will delay much higher in coming years if the Paterson administrati market crash would have on Utah’s public-employee pension plan—which, like most states’, is invested pension contributions by 2017-18. and “amortize” a projected $5 billion in heavily in equities—Liljenquist asked the plan’s actuaries to project how much taxpayers would have to pay Wednesday, April 20, 2011 into the pension fund in order to compensate for the stock-market losses. The figures that came rs, Mr. Cuomo is getting ready to present his long- back were After months of preoccupation with other fiscal matte alarming: Utah was about to drown in red ink. Without reform, the state would see its contribution awaited proposals for dealing with the pension-cost crisis. California Dreamin’ About Texas Jobs s to government workers’ pensions rise by about $420 million a year—an amount equivalent to roughly 10% of Among other things, the governor will reportedly propose higher retirement ages, lower benefit levels and Utah’s spending from its general and educationBy Steven funds. MalangaMoreover, those astronomical pension expenses increased employee contributions to retirement funds. He is also likely to address notorious abuses, such as would continue to grow at 4% a year for the next 25 years, just to pay off the losses the fund had incurred in overtime “spiking” and double-dipping. the stock market. A group of California legislators recently made headlines Star State has lately been generating the kind of job growth that the Golden State was once known for, and But if Mr. Cuomo’s plan begins and ends with changes to the boundaries of defined-benefit pensions, it will This scenario alarmed lawmakers, and for evengood luring reason. many It also companies alarmed publicthat once employees, made California who feared theirwhen that home. they traveled to Texas to learn why the Lone represent yet another missed opportunity to reform the state’s pension system. rising pension costs would limit the state’s ability to pay higher wages. Tapping into these concerns during the 2010 legislative session, Liljenquist builtBut consensusevery politician around in a Californiacost-saving of reform either partyplan: Utahought will now ture, which is dauntingly complex, encourages The problem is not only the system’s cost but its basic struc require all state employees hired after Junelies 2011 not toin chooseTexas, butone inof California.two retirement Job migrationoptions—eith is aer very a 401(k)- sexy issue, and one blogger, relocation expert exposes taxpayers to open-ended financial risk and volatility. excess and abuse, and needlessly style benefit plan, or a sharply modified pensionJoseph Vranich,plan with is costs even to keeping taxpayers an onlinecapped list in advance.of firms thattoThe know havereform that exited the California.answer to theBut state’s migration economic makes woes up isn’t perfect, of course, but it will be significantlyonly a small less part costly of forthe Utah’sjob gains taxpayers, or losses and a state will eleave more room It’s no coincidence that the latest rise is occurring after a deep recession, when New Yorkers can least afford in the state budget for the real business ofbusinesses government. and the formation of new companies is far more responsible for job growth. California once knew it. This is not a bug but a feature of the traditional defined-benefit system, and it can’t be fixed by tweaking xperiences. By contrast, job creation through expansion of e a track record of persuading the state how to create new jobs and new companies, and a few places in the state still do it fairly well. The answers to benefit levels—especially when public employee unions hav Utah, it seems, has thus narrowly escaped catastrophe. But what about the other 49 states? The pension-cost s improve. California’s woes lie in those places, not in Texas. Legislature to boost benefits whenever economic condition explosion is hitting nearly every one of them, too. And unlike Utah’s, these states’ efforts at pension reform are not being overseen by a management consultant. Rather, in most places, state legislators are overmat to defined-contribution plans, already the prevalent Over the last 15 years, California ranks as the third worst state inched the country in terms of job migration, with a Real structural reform would move government workers by savvy public-employees’ unions and by pension-fund managers wedded to the status quo. Their in retirement savings vehicle in the private sector. net outflow of jobs that is 1 percent greater than the fluence explains why, though 18 states enacted Establishmentsome sort of pension Time Series reform database. in 2010, Texas,very few by will contrast, offer isreal, 10th long- best in the nation in that period, with a plus flow of jobs into the state, according to the National With such a system, taxpayers would no longer bear all the financial risks associated with providing term relief to taxpayers. 1.3 percent inflow of jobs from other states. Based on Vran guaranteed pension benefits. The tax-funded share of retirement benefits would become both predictable and of jobs leaving California. easily understandable, and the real costs of proposed benefit increases would be transparent. Concern about this impending crisis should extend far beyond state capitals, because its consequencesich’s will anecdotal list, Texas is the biggest beneficiary affect much more than state balance sheets. The staggering burden of paying out retirement benefits is While those kinds of numbers won’t make or break an economy, what the NETS database also tells us is that w entrants, their legacy cost will be a gigantic increasingly preventing state and local officials from financ Even if New York’s current pension plans are closed to ne states that do a bad jobing attracting all the other and servicesholding ontothat citizens busi expect their the lesson of what the late Sen. Daniel Patrick governments to perform. For example, Camden, New Jersey—one of the most crime-ridden cities in the headache for decades to come. But we should at least heed economic performance that matter more, especially in generating new businesses and in being home to firms hole, stop digging. country—recently had to lay off nearly half its police force because the state’s public-sector unions, Moynihan called Political Economy 101: When you’re in a that expand rapidly. California, for instance, ranks 34th nessesin the countryalso generally in the ratiodo poorly of jobs in createdother areas by new of including those representing police, were unwilling to cut businesses comparedcostly to jobs benefits eliminated provisions by firms from going their under.