COMMONWEALTH OF PENNSYLVANIA HOUSE OF REPRESENTATIVES
STATE GOVERNMENT COMMITTEE HEARING
STATE CAPITOL HARRISBURG, PA
RYAN OFFICE BUILDING ROOM 2 05
TUESDAY, MARCH 24, 2 015 9:01 A.M.
PRESENTATION ON PENSION REFORM
BEFORE: HONORABLE DARYL METCALFE, MAJORITY CHAIRMAN HONORABLE CRIS DUSH HONORABLE KRISTIN HILL HONORABLE RICHARD IRVIN HONORABLE FRED KELLER HONORABLE JERRY KNOWLES HONORABLE BRETT MILLER HONORABLE BRAD ROAE HONORABLE RICK SACCONE HONORABLE THOMAS SANKEY HONORABLE DAN TRUITT HONORABLE JUDITH WARD HONORABLE JEFF WHEELAND HONORABLE MARK COHEN, DEMOCRATIC CHAIRMAN HONORABLE LESLIE ACOSTA HONORABLE VANESSA BROWN HONORABLE MARY JO DALEY HONORABLE PAMELA DELISSIO HONORABLE STEPHEN MCCARTER HONORABLE MICHAEL O ’BRIEN HONORABLE EDDIE DAY PASHINSKI HONORABLE BRIAN SIMS HONORABLE RONALD WATERS
Pennsylvania House of Representatives Commonwealth of Pennsylvania 2
COMMITTEE STAFF PRESENT: SUSAN BOYLE MAJORITY EXECUTIVE DIRECTOR AMY HOCKENBERRY MAJORITY RESEARCH ANALYST KAREN PENICA MAJORITY RESEARCH ANALYST PAM NEUGARD MAJORITY ADMINISTRATIVE ASSISTANT
MATT HURLBURT DEMOCRATIC RESEARCH ANALYST KATHY SEIDL DEMOCRATIC RESEARCH ANALYST LINDA HUNTINGTON DEMOCRATIC LEGISLATIVE ASSISTANT 3
I N D E X
TESTIFIERS
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NAME PAGE
RICK DREYFUSS BUSINESS CONSULTANT & ACTUARY, SENIOR FELLOW, THE COMMONWEALTH FOUNDATION, ADJUNCT FELLOW, THE MANHATTAN INSTITUTE...... 8
SUSAN D. DIEHL, CPC, QPA, ERPA PRESIDENT OF PENSERV PLAN SERVICES, INC...... 21
SCOTT PORTER PRINCIPAL OF MILLIMAN ACTUARIES...... 34
MIKE CROSSEY PRESIDENT OF PSEA...... 4 6
RICH HILLER SENIOR VICE PRESIDENT, GOVERNMENT SERVICES, TIAA-CREF...... 60
JOHN SCHU, CFP, AIF, CLT SENIOR VICE PRESIDENT BRANCH DEVELOPMENT, LINCOLN INVESTMENT PLANNING...... 7 3
JOSH B. MCGEE, PH.D. VICE PRESIDENT OF PUBLIC ACCOUNTABILITY, LAURA & JOHN ARNOLD FOUNDATION, and SENIOR FELLOW AT THE MANHATTAN INSTITUTE...... 86
JOE NICHOLS SENIOR DIRECTOR FOR FTI CONSULTING...... 101
GARY A. WAGNER, PH.D. PROFESSOR OF ECONOMICS, OLD DOMINION UNIVERSITY...... 113
SUBMITTED WRITTEN TESTIMONY
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(See submitted written testimony and handouts online.) 1 P R O C E E D I N G S
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3 MAJORITY CHAIRMAN METCALFE: Good morning. The
4 hearing of the House State Government Committee is called
5 to order. And before we take our attendance, if I could
6 ask everybody to please rise and ask my good friend
7 Representative Rick Saccone to lead us in the Pledge.
8
9 (The Pledge of Allegiance was recited.)
10
11 MAJORITY CHAIRMAN METCALFE: Some have their own
12 way of singing the National Anthem and Rick has his own way
13 of saying the Pledge. Thank you, Rick. Thanks for leading
14 us, Representative Saccone.
15 If I could ask our Member Secretary
16 Representative Knowles to call the roll, please, for our
17 hearing.
18 REPRESENTATIVE KNOWLES: Thank you, Mr. Chairman.
19
20 (Roll was taken.)
21
22 REPRESENTATIVE KNOWLES: We have a quorum,
23 Mr. Chair.
24 MAJORITY CHAIRMAN METCALFE: Thank you,
25 Representative Knowles. 5
1 If everybody could make sure your mikes are off
2 if you’re not going to be using them. We had some feedback
3 coming through there, just to make it better for our
4 testifiers this morning if you would.
5 Just a few comments here before we get started
6 with the hearing, as Chairman of the House State Government
7 Committee, one of my objectives as being Chairman was to
8 ensure we did have hearings, that they are conducted in a
9 way that respected the time of our guests, our testifiers,
10 and our Members, and that’s what we will work to do once
11 again this morning is to respect that time that everyone
12 has that is so valuable as we go through this hearing today
13 that we expect to extend until about 11:30. So we will be
14 working to ensure that we start on time for the testimony
15 and on time for each testifier and then the hearing on
16 time.
17 So if any Members need to come and go throughout
18 the morning, you should be able to pretty much get back in
19 time to hear whoever was your hoping to get back for if
20 that is the case while there are appointments mingled in.
21 And for our testifiers, w e ’re hoping to
22 accommodate your schedules for your time that you’ve given
23 up to be with us today so that you can leave when it’s
24 appropriate and be here back in time for your testimony if
25 you have to go before you actually testify. 6
1 I would also ask the Members to respect the
2 testifiers today in a way that they're here to provide
3 testimony and provide their expertise to us, not to be
4 debated with. We can debate amongst ourselves at the next
5 opportunity when we start to actually consider the
6 legislation we expect to consider this session with respect
7 to pension reform. That will be the time for debate.
8 Today is a time to gather information, so please utilize
9 the time of the testifier to gather the information that
10 actually you think might help your debate as we move
11 forward. So we want to show our testifiers the respect
12 they deserve. They're our guests and should be treated as
13 such.
14 So with that said, today's hearing is going to be
15 on the issue of pensions. It's a very broad issue, of
16 course, with two very large pension systems here in
17 Pennsylvania that face combined unfunded liabilities in the
18 $50 billion plus range. I've done some work with the
19 Republican Members and other Members of our caucus and
20 we've actually worked on trying to define and find
21 consensus on how you define the problem of the pensions
22 here in Pennsylvania.
23 And amongst a number of us we came to a consensus
24 on the following definition of the problem with
25 Pennsylvania's pensions: Pennsylvania State pension system 7
1 faces a combined unfunded liability of approximately $50
2 billion. The problem is that the governmental-defined
3 benefit pension structure is subjected to short-term
4 political manipulation rather than economic considerations
5 of long-term sustainability. Increased pension benefits,
6 shorter vesting periods, and decreased employer
7 contribution rates have produced a liability that
8 contributed to the Commonwealth's most recent credit
9 downgrading.
10 The defined benefit pension structure is
11 fundamentally unsustainable. For this reason, the vast
12 majority of employers in the private sector have moved away
13 from the DB system. Underperformance of defined benefit
14 investments requires that the employer identify alternative
15 revenue sources to fulfill pension obligations. The
16 Constitution of Pennsylvania requires the Commonwealth
17 produce a balanced budget each year. Taxing future
18 generations of Pennsylvanians to fulfill immediate pension
19 obligations violates this principle.
20 And with that said, I'd like to invite our first
21 testifier to the microphone. That would be Mr. Rick
22 Dreyfuss. He’s a Business Consultant and Actuary, Senior
23 Fellow with the Commonwealth Foundation, and Adjunct Fellow
24 with the Manhattan Institute.
25 Mr. Dreyfuss, w e ’re ready when you are, sir. 8
1 MR. DREYFUSS: Okay. Thank you, and good
2 morning.
3 Perspective Chairs, thank you for the invitation
4 to testify before you today on this very encompassing topic
5 of public pensions. I ’m a retired Business Consultant and
6 Actuary, and for over 20 years I was the Human Resource
7 Executive for the Hershey Company, so I have broad
8 experience in both private and public sector pension
9 issues. And in my post-Hershey times I ’ve spent
10 considerable time as a consulting resource looking at
11 public pension issues and have written extensively on this
12 for both the Commonwealth Foundation and the Manhattan
13 Institute.
14 My testimony today is comprised of 16 slides that
15 you have and I ’m going to take about a six- or seven-minute
16 overview of them and highlight certain areas. If there are
17 any questions that you have outside the scope of this
18 meeting, I ’d be happy to meet or discuss these individually
19 with you as appropriate.
20 On my second slide, if I had one slide to
21 summarize everything, I would say that the fundamental
22 problem is that we are trying to change a political
23 institution, which is why public pension reform is indeed
24 so hard. And the reality is that the current public
25 pension system simply is not sustainable in the long run, 9
1 and that’s the reality and that’s the challenge before this
2 Committee and policymakers in general.
3 On my third slide, if we were to ask why is this
4 such an insurmountable problem and why is this so
5 difficult, I break it down into three categories. One is
6 poor benchmarking. Most of the comparisons that you hear
7 are against other public pension systems, many of which are
8 in equally poor States. I would suggest you need to look
9 at the Pennsylvania private sector in terms of their best-
10 demonstrated practices and moving to defined contribution
11 plans at a cost of 4 to 7 percent of payroll.
12 I would also say that the second driver is poor
13 liability management, and this is where we were using
14 economic assumptions of over 7.5 percent to project long
15 term costs, and that is going to be a stretch by any
16 measure by my standard. And w e ’re also funding our plans
17 over too long a period of time. SERS, for example, takes
18 30 years to amortize any deficits, which is way too long.
19 The average should be somewhere between 15 to 20 years.
20 And finally, the overriding issue that is very
21 difficult is the political side of this, and that’s not
22 just a slogan because my contention is that politics and
23 defined benefit plans are a toxic combination. And I say
24 that because of the poor benchmarking, the rosy economic
25 assumptions, and the underfunding that traditionally 10
1 occurs. It is very hard to muster the necessary votes to
2 properly fund these plans, and we've seen that throughout
3 many years. So for those three reasons, my view is that
4 these plans remain unsustainable.
5 If I had to summarize my recommendations in terms
6 of how to proceed, I would suggest a five-step approach,
7 and that's shown on slide #12. I first begin by putting
8 new hires in a defined contribution plan at a cost of 4 to
9 7 percent of payroll. This will eliminate the possibility
10 of unfunded liabilities going forward.
11 Number two, I would continue with the prohibition
12 on pension obligation bonds. Wherever I've seen pension
13 obligations in place, they are typically associated with
14 plans that are in poor fiscal distress and I can't even
15 give you a single example of one that has worked
16 effectively.
17 Number three, and probably I would circle this as
18 well, is we need funding reforms. We need to better fund
19 these plans. Right now, we are on a 30-year timeline to
20 fund these plans and I suggest to you that that is probably
21 about 10 years too long. We ought to adopt adherent
22 pension funding policies where we fund these plans over
23 shorter periods of time using, in my view, more realistic
24 assumptions.
25 Number four, I think the question of unearned 11
1 benefits for members should be on the table. I understand
2 there are legal issues involved, but if we are to bring
3 these plans back to a sustainable state, that type of
4 variable needs to be considered.
5 And then finally, it would be good to properly
6 fund these plans without raising new revenues.
7 Pennsylvania is already the 10th-highest-taxed State from a
8 personal income standpoint and w e ’re right in the middle
9 with regard to the business climate, and I don’t think
10 increasing taxes would help those profiles at all. So
11 that’s the five steps that I would recommend.
12 And conversely, I would equally recommend staying
13 away from five practices. I call these pseudo-reforms.
14 That includes pension obligation bonds, that includes early
15 retirement incentive plans, redefined pension costs to the
16 next generation, or even adopting a new type of defined
17 benefit plan because the problem is not the type of defined
18 benefit plan; it is the defined benefit plan because that
19 is where the ability to overpromise and underfund comes
20 into play time and time again. And you see it not only
21 playing out in this State but in others as well.
22 And then finally, I ’d like to address some half
23 truths that I see from time to time. One is the issue of
24 transition costs. People think it will cost $40 billion to
25 close these plans. Well, that is an incomplete 12
1 calculation. That needs to be done on multiple scenarios.
2 It needs to be expressed in terms of a present value.
3 That’s how actuaries compute these numbers. And if you do
4 that, you’ll see that that is not a significant issue to be
5 overcome. And as evidence of that, I ’ve never seen a
6 private sector plan face a transition cost as an
7 insurmountable barrier in terms of their conversion to the
8 defined contribution plans.
9 Second, people often talk about Michigan and
10 Alaska, which have adopted defined contribution plans and
11 have said, well, their unfunded liability has rocketed
12 since they’ve gone to the defined contribution plan. And
13 the reality is that has nothing to do with why the unfunded
14 liabilities have increased. They’ve increased because
15 they’ve underfunded those plans and they’ve had poor
16 investment results. Again, the State of Michigan’s
17 Teachers’ Plan has remained open and it’s in the same sorry
18 state that the closed defined benefit plan is for the State
19 employees. So looking at other States you need to look at
20 the entire scenario of underfunding and poor investment
21 returns.
22 Third is you hear that pension defined benefit
23 plans are 48 percent cheaper, and I would suggest to you
24 that that conflates pooling of risk, which is an
25 appropriate concept with individual accounts and it’s 13
1 simply not an apples-to-apples comparison. And again, I ’d
2 be happy to talk more on that.
3 And then finally, Act 120: Act 120 was supposed
4 to save $3 billion cumulatively over 30 years. Well, in my
5 view Act 120 has already failed for the simple reason that
6 it was based on an 8 percent assumed interest rate. Right
7 after Act 120 was passed, we lowered that to 7.5 percent.
8 That increased the unfunded liability overnight by $6.4
9 billion. That is twice what we had assumed that that plan
10 would save cumulatively over 30 years. And moreover, the
11 savings were based on hiring new people. The more people
12 we hired, the more money we would save. It’s sort of a
13 perverse incentive. So while I fully acknowledge that the
14 benefits have been reduced under Act 120, I would suggest
15 to you the financial model on which that decision was made
16 was flawed.
17 So let me stop there and I would certainly be
18 happy to answer any questions that might come up. Thank
19 you.
20 MAJORITY CHAIRMAN METCALFE: Thank you,
21 Mr. Dreyfuss.
22 Members with questions?
23 Representative Pashinski.
24 REPRESENTATIVE PASHINSKI: Thank you,
25 Mr. Chairman. 14
1 Mr. Dreyfuss, thank you very much for your
2 testimony.
3 Based upon what you just said, so there’s no
4 formula that would work relative to a defined benefit
5 concept?
6 MR. DREYFUSS: I think where a defined benefit
7 plan works is the exception to the rule. There’s nothing
8 wrong with the concept as is; it’s when you put it in the
9 political domain that you see what goes on, the
10 overpromising and underfunding, and Pennsylvania is not
11 alone in that regard.
12 REPRESENTATIVE PASHINSKI: Because you did say
13 that even the defined contribution plans in Michigan and
14 Alaska were underfunded, which is one of the reasons for
15 its failure -
16 MR. DREYFUSS: Defined-benefit plans -
17 REPRESENTATIVE PASHINSKI: — and that’s one of
18 the main reasons why w e ’re in this boat today because the
19 pension plan has been very solvent up until the point that
20 we changed the multiplier and changed the conditions.
21 MR. DREYFUSS: Right, but even as I speak,
22 looking at next year’s budget, we still underfund the plan.
23 I just don’t see the political will to properly fund these
24 plans and it’s not something unique to our State pension
25 systems. You see these in the municipal plans as well. So 15
1 it's just too big a political lift to properly fund these
2 plans.
3 REPRESENTATIVE PASHINSKI: But if it was funded
4 properly, we'd be okay?
5 MR. DREYFUSS: That's correct.
6 REPRESENTATIVE PASHINSKI: Okay. Thank you.
7 Thank you, Mr. Chairman.
8 MAJORITY CHAIRMAN METCALFE: Thank you,
9 Representative Pashinski.
10 Representative Knowles.
11 REPRESENTATIVE KNOWLES: Thank you, Mr. Chairman,
12 and thank you, Mr. Dreyfuss. We appreciate you being here.
13 On the second page you talk about the fact that
14 it's just unsustainable. I'm not quite sure. I'm going to
15 take a quick peek here so I can refer to -- the current
16 public pension system simply isn't sustainable in the long
17 run.
18 MR. DREYFUSS: Right.
19 REPRESENTATIVE KNOWLES: My question would be
20 that we continuously hear about how we got into this mess
21 and, first of all, the drop in the economy; and secondly,
22 the changes that were made by the Legislature years ago in
23 terms of improving benefits. My question would be, and
24 maybe it's not a fair question of you, but my question
25 would be, number one, if the economy hadn't gone south and 16
1 the improvements for the system for employees had not been
2 made better, question number one is what condition do you
3 believe that system would be in today?
4 And secondly, to tie in the second factor is if
5 the economy had gone south and even with the improvements,
6 I mean it just seems like that was truly what happened
7 here. Can you comment on that a little bit?
8 MR. DREYFUSS: Well, some of the analyses I have
9 seen say that the number one reason for our deficit or
10 unfunded liability, that relates to underfunding as the
11 number one driver. The second is poor investment returns,
12 third is benefit improvements, and fourth is other changes.
13 We used to assume an 8.5 percent interest rate and we
14 lowered that. Every time we take it down a half-a-percent,
15 that adds about $6.5 billion to our liability. So it’s a
16 combination of those factors and then the inability to deal
17 with that sort of in real time because we are always
18 pushing this stuff out 30 years, which is way too far.
19 Obviously, if we could have addressed that back then or had
20 compliant funding policies back then, we wouldn’t be having
21 this hearing today, but this is where we are.
22 REPRESENTATIVE KNOWLES: But if the economy had
23 stayed good, even with giving of the additional benefits to
24 State employees, if the economy had stayed good, some
25 people say we would have been fine if the economy would not 17
1 have gone down the tubes.
2 MR. DREYFUSS: I think that probably accounts for
3 about 30 percent of the problem if the economy had been
4 good, so you still got the other 70 through the benefit
5 improvements and the underfunding that remain a systematic
6 problem.
7 REPRESENTATIVE KNOWLES: Thank you, Mr. Chairman.
8 And thank you, Mr. Dreyfuss.
9 MAJORITY CHAIRMAN METCALFE: Thank you,
10 Representative Knowles.
11 Representative Daley.
12 REPRESENTATIVE DALEY: Thank you, Mr. Chairman.
13 In the plans that you laid out, I think it was on
14 page 12 you had a list of four or five different things,
15 but I don’t believe that you mentioned the unfunded
16 liability and the fact that in Pennsylvania now the pension
17 funds both have unfunded liability. And how would you
18 address that?
19 MR. DREYFUSS: Well, that is actually the third
20 plank of my reform is that we need to have better funding
21 policies because that’s what’s driving our unfunded
22 liability. And to address that we simply have got to put
23 more money into the plan. So there the debate is where do
24 the funds come from? Do we cut programs or raise revenues?
25 And it’s probably going to end up being a combination of 18
1 those two. But I would also say that Representative John
2 McGinnis has a plan in terms of compliant funding practices
3 consistent with this type of an approach, but to be sure,
4 under any scenario we need to have better funding policies
5 in place putting more money in these plans because if we
6 don’t do that, they will continue to remain unsustainable.
7 So that’s an equally important part.
8 REPRESENTATIVE DALEY: So how is that actually
9 different than Act 120?
10 MR. DREYFUSS: Well, Act 120 actually went the
11 other way. What Act 120 did is it put less money short
12 term into already-underfunded plans and pushed the cost out
13 over a new 30-year period. And what I ’m suggesting is
14 today, right now, we need to be properly funding these
15 plans on, say, a 20-year schedule called an amortization
16 basis and putting the necessary funds in place. And by my
17 rough calculations, that’s probably another $2 billion over
18 and above what w e ’re already contemplating for the next
19 fiscal year. I mean that’s what we need to make these
20 plans sustainable.
21 REPRESENTATIVE DALEY: Okay. But we do have an
22 unfunded liability now.
23 MR. DREYFUSS: Absolutely.
24 REPRESENTATIVE DALEY: And I don’t hear you -
25 and I don’t want to debate with you but my observation is 19
1 that we still need to address that because that’s a reality
2 we have in Pennsylvania and Act 12 0. And you don’t have to
3 answer that but that’s my observation of what you’re
4 saying.
5 MAJORITY CHAIRMAN METCALFE: Thank you,
6 Representative Daley.
7 REPRESENTATIVE DALEY: Thank you.
8 MAJORITY CHAIRMAN METCALFE: Now, we have a
9 couple minutes left with this testifier. We have several
10 Members on the list; w e ’re not going to get everybody, but
11 if you don’t get to ask questions of this testifier, you’ll
12 be first on the list if you’d like to ask one of the next
13 testifier so we can stay on schedule here today.
14 The next question will be from Representative
15 Truitt.
16 REPRESENTATIVE TRUITT: Thank you, Mr. Chairman,
17 and thank you, Mr. Dreyfuss, for your testimony.
18 I want to focus on the transition to the DC plan.
19 I wholeheartedly agree that that has to be the first step.
20 Otherwise, we could work our way out of this $50 billion
21 hole and a future legislature could dig us right back into
22 another one.
23 Now, one of the arguments that I ’ve heard in my
24 town halls, I have to say my constituents overwhelmingly
25 support the idea, including rank-and-file teachers, of 20
1 moving to defined contribution for new hires at least. But
2 one of the questions that came up in one of my town halls
3 was is it possible for the State to underfund a DC system
4 or like if we use a 401(a) plan or something like that,
5 does Federal law guarantee that we can’t underfund the
6 system, or do you think we would need some kind of
7 provision in the State Constitution to assure that?
8 MR. DREYFUSS: Well, in a defined contribution
9 plan, it’s like meeting payroll. I mean you have to be
10 current with your costs and there’s no provision for
11 retroactive benefit enhancement or a big IOU going into a
12 defined contribution plan. And that’s sort of the beauty
13 of it is that you’ve always got to keep current. You can
14 always reduce a match or suspend a match based on fiscal
15 conditions and that happens from time to time, but the
16 funding is very straightforward.
17 REPRESENTATIVE TRUITT: So you’re saying that
18 there is no scenario that you could see under which the
19 State could underfund the DC plan?
20 MR. DREYFUSS: Right. That’s right. There is no
21 unfunded liability possible with a defined contribution.
22 REPRESENTATIVE TRUITT: So we would not be able
23 to dig ourselves back into another hole?
24 MR. DREYFUSS: That’s right. Now, you still have
25 the hole from the existing plan -- 21
1 REPRESENTATIVE TRUITT: Right.
2 MR. DREYFUSS: -- but going forward you would at
3 least go in a different direction.
4 REPRESENTATIVE TRUITT: Okay. And just a five-
5 second question. Do you think it’s possible for a State to
6 declare bankruptcy?
7 MR. DREYFUSS: I don’t know the answer to -- I
8 mean that’s a good legal question.
9 REPRESENTATIVE TRUITT: Okay. Thank you,
10 Mr. Chairman.
11 Thank you, Mr. Dreyfuss.
12 MAJORITY CHAIRMAN METCALFE: Thank you. That’s
13 all the time we have for this testifier, and we had two
14 questions from each side. So thank you, Mr. Dreyfuss.
15 MR. DREYFUSS: Thank you.
16 MAJORITY CHAIRMAN METCALFE: Thanks for being
17 with us today.
18 MR. DREYFUSS: Right.
19 MAJORITY CHAIRMAN METCALFE: Our next testifier
20 is Ms. Susan Diehl, the President with PenServ Plan
21 Services, Incorporated. Thank you, m a ’am, for being with
22 us. You can -
23 MS. DIEHL: Good morning, and thank you, Chairs
24 Metcalfe and Cohen and the Members of the House Standing
25 Committee on State Government. Thank you for the 22
1 opportunity to testify in front of you this morning with
2 regard to this important issue. My name is Susan Diehl and
3 I am President of PenServ Plan Services.
4 Just to give you a little bit of background so
5 you know where I'm coming from is we are located in
6 Horsham, Pennsylvania. We are an independent national
7 consulting firm and third-party administrator. We
8 administer approximately 3,000 employer plans with a total
9 of 564,000 participants and record-keep approximately $9
10 billion. We are also located, as far as administering
11 plans, in 25 States. We also consult to over 2,000
12 financial institutions and companies on various retirement
13 matters ranging from IRAs to employer pensions and defined
14 contribution plans.
15 In my role at PenServ, I participated on several
16 IRS and Department of Labor committees and also serve on a
17 number of IRS liaison committees, and I meet with the IRS
18 periodically on certain retirement and pension matters. I
19 also actively serve in professional organizations. I'm a
20 credentialed member of the American Society of Pension
21 Professionals and Actuaries, the immediate past President
22 of the National Tax-Deferred Savings Association, and a
23 current Board Member of the American Retirement
24 Association.
25 As you've already heard and you know, the 23
1 Commonwealth of Pennsylvania is not unique in contemplating
2 redesign of its retirement and public employee retirement
3 system. We know that over the past three years 19 States
4 have actually introduced some sort of public pension reform
5 initiatives. Four those States have actually enacted some
6 form of public sector retirement plan reform.
7 I ’d like to, and in the interest of time,
8 paraphrase some of the testimony and talk about some of the
9 State initiatives and then finally end up with an
10 infrastructure that is already in place in the Commonwealth
11 that I want to make sure you all are aware of.
12 You’ve already heard and talked a little bit
13 about the experience of Alaska and West Virginia. We know
14 that West Virginia converted from a pension to a defined
15 contribution plan, obviously did not work towards the
16 funding issue, and in 2003 the funding dropped to 18
17 percent. The result was, in order to help address the
18 rising required contribution and cash flow issues, they
19 were forced to go back to a defined benefit plan in 2006.
20 Alaska suffered a very similar situation.
21 Perhaps learning from these examples, many new
22 proposals are based on moving employees from a traditional
23 pension to a combination pension and hybrid plan, a
24 combination of a pension and a defined contribution, which
25 we commonly refer to as a hybrid plan. In fact, variations 24
1 of the hybrid retirement plans were introduced in
2 Pennsylvania House last year by Representatives Grell and
3 Tobash. While not a silver bullet to solve the unfunded
4 liability, hybrid plans are seen as favorable policy
5 alternatives because they continue the regular funding to
6 the pension and introduce a defined contribution plan,
7 shifting some of the funding liability and the investment
8 risk from the State to the employees.
9 Two examples of State Legislatures that had
10 passed pension reform that relied upon State Government to
11 exclusively run the defined contribution component of the
12 hybrid retirement systems are Virginia and Michigan. I
13 want to focus first on Virginia.
14 Virginia passed legislation in 2012 to introduce
15 a hybrid retirement plan for State employees that was to
16 begin in 2014. The defined contribution portion of the
17 plan had a mandatory employee contribution element and
18 offered an employer match on voluntary employee
19 contributions. The Virginia Retirement System created a
20 plan and hired a firm to provide services that VRS thought
21 was necessary. The result was that 5 percent of
22 participants were making voluntary contributions. That
23 means that 95 percent of the employees, the participants,
24 were foregoing matching contributions, unbelievable. The
25 most important metrics for a successful defined 25
1 contribution plan our participation rates and contribution
2 rate. By these measures, the plan failed from the start.
3 Virginia recognized this issue and just recently
4 in 2015 they passed new pension reform legislation that now
5 includes competitive offerings through private companies
6 that deliver services at the local level. Virginia
7 basically replaced this with a mandatory 1 percent employee
8 contribution, a non-elective discretionary employer
9 contribution of 1 percent, and then also kept a 50 percent
10 match up to 5 percent.
11 The story is very much the same in Michigan.
12 Michigan is now said to be following Virginia in their
13 legislation and moving towards allowing private local
14 offerings that meet the needs of participants to get the
15 plan working like it should.
16 The important learning here is that neither plan
17 needed to end up this way. Virginia and Michigan could
18 have leveraged the existing infrastructure of private local
19 retirement plan providers at the outset. The key point for
20 this Committee is that you need to understand that every
21 single public school district in the Commonwealth currently
22 has a defined contribution plan. They’re in place today.
23 The infrastructure is already there to launch a plan that
24 works without rebuilding the wheel.
25 What’s more, many Pennsylvania charter schools 26
1 have already made the transition from a straight defined
2 benefit plan to a hybrid system that’s in place. Charter
3 schools in Pennsylvania offer what we refer to as the
4 PSERS’s Alternative, and they’re working quite well with
5 using the existing plans that are available to them or are
6 already in place.
7 Currently in the State of Pennsylvania we have
8 about 175 charter schools. Of that I think 14 of them are
9 cyber charter schools. Probably half of the charter
10 schools in the Commonwealth today have already put in place
11 what we refer to as this PSERS Alternative, and basically
12 the way it works is this. You have a lot of examples in my
13 testimony but I will spell it out this way.
14 PSERS Alternative plan is where the school will
15 take the existing defined contribution plan structure that
16 all employees have the voluntary right to defer money from
17 salary. The PSERS Alternative piece of that is where, for
18 new hires only, so, for example, let’s say we have a
19 charter school that decides effective July 1st of 2015 all
20 new hires after that date would not be put into the PSERS’s
21 defined benefit plan, but in lieu of that, a 5 percent
22 mandatory contribution will come from their salary, the
23 employer will then put a contribution in the plan of 5
24 percent. Those same employees, those new hires, would also
25 be able to do a voluntary deferral into the plan of up to 27
1 $18,000 for this year. If they’re over the age of 50, they
2 get to do an additional 6,000. Existing employees who are
3 part of the PSERS’s pension plan can still participate, and
4 many of them do, on the voluntary side.
5 Some charter schools, to give employees the
6 option when they’re hired, will offer new hires who are
7 already part of the PSERS’s pension plan that choice upon
8 hire between selecting PSERS or the defined contribution
9 plan. Very few new hires will make that choice. If the
10 new hire is a younger worker, they look at it in a number
11 of different ways. They like the fact that it’s a defined
12 contribution plan. They like the fact that they can see
13 their money in there. They can have the opportunity to put
14 the deferral money in there as well. And the mandatory
15 contribution is less than the mandatory contribution that
16 goes into PSERS, and all young employees like to see more
17 in their paychecks.
18 So it’s working. It’s an infrastructure that’s
19 in place right now. Obviously only the charter schools are
20 permitted to use it based on the charter school law as it’s
21 currently written, but it is an infrastructure that’s in
22 place.
23 And with that, I will end and be happy to answer
24 any questions.
25 MAJORITY CHAIRMAN METCALFE: Thank you, m a ’am. 28
1 Our first question will be from Representative
2 Cohen.
3 MINORITY CHAIRMAN COHEN: Thank you.
4 Could you tell us what "working" means? I mean
5 any program that works in a vague sense that people
6 participate in the program, but besides the fact that there
7 are people participating in the program, how is it working
8 in terms of providing retirement security for charter
9 school teachers? That’s the question.
10 MS. DIEHL: Okay. The answer to that is really
11 twofold. First of all, we know that we want to look at
12 participation rates. We want to make sure the employees
13 are saving for retirement. The PSERS Alternative, as it’s
14 called right now, is something that’s approved through
15 PSERS for the charter school. So the first step is once -
16 and I ’m giving you the example of 5 and 5. Some schools
17 have opted to give more of a contribution from the employer
18 side. Very few of them have opted to mandate more than 5
19 percent. PSERS has decided that the 5 and 5 combination is
20 really replacing what they would get from the PSERS pension
21 plan at this point. So actuarially they have decided that
22 that really is the replacement for what they would get from
23 the State pension -
24 MINORITY CHAIRMAN COHEN: Nothing stops PSERS
25 under current law from deciding at some time in the future 29
1 where there are new members -
2 MS. DIEHL: Absolutely.
3 MINORITY CHAIRMAN COHEN: -- that they could be
4 cut to 3 percent or 2 percent -
5 MS. DIEHL: Well, I can -
6 MAJORITY CHAIRMAN METCALFE: -- the employer
7 contribution, Mr. Dreyfuss testified earlier that the
8 benefits of defined contribution plans is the employer
9 contribution can be cut or suspended at any time?
10 MS. DIEHL: It is true under defined contribution
11 plan that you could reduce, increase, or change that
12 employer funding or the employee funding. Currently, the
13 way this is working now, the plan must be approved in
14 Harrisburg through PSERS. It's a three-month process for
15 PSERS to approve it. They are not approving less than 5
16 and 5. Certainly in the future they could say your funding
17 has to be 6 percent to match what PSERS, but currently it's
18 a 5 and 5. Therefore, an employer could not reduce it
19 below 5 percent -
20 MINORITY CHAIRMAN COHEN: Well, I think all of
21 retirement security is for people to be secure, and a
22 retirement that depends on a whim or the will of the future
23 governor and a future board member is not security.
24 MAJORITY CHAIRMAN METCALFE: Was that a question,
25 Representative Cohen, or a debating point? 30
1 MINORITY CHAIRMAN COHEN: Well, I would like to
2 hear a comment on that.
3 MS. DIEHL: Well, once again, the focus on
4 participation rates and the fact that employees are
5 participating. Beyond the 5 and 5, bringing this
6 alternative back to the local level where there is a
7 company or an individual who’s helping these teachers, who
8 is in front of them telling them about the voluntary
9 contribution, those rates are increasing as well. So
10 individual teachers are understanding the need to save for
11 their retirement and what they need to do beyond, whether
12 it’s a pension or an employer-provided benefit, they need
13 to participate as well in a plan. Without the local choice
14 or that plan, that defined contribution plan, you’re not
15 going to have the additional availability to put that money
16 in.
17 MINORITY CHAIRMAN COHEN: Well, that’s true, you
18 have additional availability, but in a defined benefit
19 plan, everybody has the option of putting additional money
20 in a private retirement if that’s what they want to do.
21 MAJORITY CHAIRMAN METCALFE: Thank you,
22 Representative Cohen.
23 Our next question? Can we move on to the next
24 questioner, Representative Cohen? We have kind of limited
25 time. 31
1 MINORITY CHAIRMAN COHEN: Okay.
2 MAJORITY CHAIRMAN METCALFE: Representative
3 Keller.
4 REPRESENTATIVE KELLER: Thank you, Mr. Chairman.
5 And thank you, Susan, for being here today.
6 My question revolves around the rate of return
7 and the normal cost. PSERS and SERS currently assume a 7.5
8 percent rate of return, and in testimony and the
9 Appropriations hearings we talked to the Auditor General
10 and he put a report out on a municipal pensions. And one
11 of his recommendations was to narrow the range of
12 acceptable investment rate of return assumption options to
13 reflect current economic conditions. In your opinion, what
14 would be an acceptable rate of return for that kind of
15 plan?
16 MS. DIEHL: I ’m going to have to pass that to one
17 of the other presenters. I am not an investment company
18 so -
19 REPRESENTATIVE KELLER: Okay. Just looking back
20 at this, and PSERS and SERS I asked that question in
21 Appropriations and I wanted to know what the normal cost
22 would be because people are going to say later on in this
23 meeting that the normal cost for post-120 employees is 3
24 percent or less. That’s 3 percent providing that we get a
25 7.5 percent rate of return each and every year of the plan, 32
1 is that correct? Would that be a correct assumption?
2 MS. DIEHL: Yes. Yes.
3 REPRESENTATIVE KELLER: Not assumption but a
4 fact.
5 MS. DIEHL: Right.
6 REPRESENTATIVE KELLER: So we don’t know what the
7 normal cost would be, so when people start saying, well,
8 the normal cost is below this for Act 120 employees, that
9 all depends on the rate of return?
10 MS. DIEHL: That’s correct.
11 REPRESENTATIVE KELLER: Okay. Thank you. And
12 thank you -
13 MAJORITY CHAIRMAN METCALFE: Thank you.
14 REPRESENTATIVE KELLER: — Mr. Chairman.
15 MAJORITY CHAIRMAN METCALFE: Thank you,
16 Representative Keller.
17 Now, Representative DeLissio.
18 REPRESENTATIVE DELISSIO: Thank you,
19 Mr. Chairman.
20 Just a quick question for now. Do these DC plans
21 have a borrowing feature?
22 MS. DIEHL: Most of them do but only with respect
23 to the non-PSERS Alternative. The PSERS Alternative, the 5
24 and 5, cannot have a borrowing feature, a hardship
25 distribution. That really is to mimic the pension so those 33
1 dollars have to stay within the plan. Voluntary
2 contributions that the employee may put in, that is
3 available for borrowing, you know, emergency distributions,
4 things like that.
5 REPRESENTATIVE DELISSIO: Okay. I have
6 administered both in the concern is that sometimes that
7 borrowing feature, which is very tempting, again undermines
8 -- and not to be paternalistic -- but can undermine that
9 concept of retirement security.
10 MS. DIEHL: And I ’m going to say probably the
11 last five years employers and many defined contribution
12 plans, not just in public schools, have really looked at
13 plans to decide between the borrowing and the emergency
14 distributions. Many of them had both. And now, many
15 employers are deciding which one may work better with their
16 employees.
17 But in Pennsylvania and the charter schools
18 currently in these plans the PSERS Alternative is not
19 permitted to be taken out before really retirement or they
20 separate from service.
21 REPRESENTATIVE DELISSIO: Just the voluntary
22 side?
23 MS. DIEHL: Correct.
24 REPRESENTATIVE DELISSIO: Thank you.
25 Thank you, Mr. Chairman. 34
1 MAJORITY CHAIRMAN METCALFE: Thank you,
2 Representative DeLissio.
3 That’s all the time we have with this testifier.
4 Thank you, m a ’am, for joining us today. I appreciate you
5 sharing your expertise with us. Thank you.
6 Our next testifier is Mr. Scott Porter. He’s the
7 Principal with Milliman Actuaries. Ready when you’re
8 ready, sir.
9 MR. PORTER: Good morning, everybody.
10 As you probably noticed, I didn’t have any
11 written testimony as I understand that timing is of the
12 essence and I wanted to provide enough time for questions.
13 I just wanted to give a little bit of background
14 on Milliman’s work with the retirement systems. We’ve been
15 working with PERC probably for over -- I think w e ’re coming
16 on about 25 years in reviewing the different legislations
17 that have occurred with SERS and PSERS. And then in 2001
18 and 2006 we had done actuary audits for PSERS looking at
19 their assumptions and methods and the like and the actuary
20 calculations. We performed similar analysis for SERS in
21 2005, as well as the Pennsylvania Municipal Retirement
22 System. And then in 2006 through 2008 we had actually
23 worked with the Budget Office for the Rendell
24 Administration. A lot of that work was sort of precursor
25 to Act 120. 35
1 And then in the last couple years, as you
2 probably have known in doing the actuary notes, we had
3 worked with the Corbett Administration between 2012 and
4 2014. So w e ’ve been involved with the plans in various
5 States over the last 25 years.
6 So I ’m happy to answer questions from the Members
7 regarding the different systems.
8 MAJORITY CHAIRMAN METCALFE: Thank you.
9 Representative Truitt, do you have a question for
10 this testifier?
11 REPRESENTATIVE TRUITT: Yes. Thank you,
12 Mr. Chairman.
13 And thank you for being here to take questions
14 from us.
15 I’m curious on your take of the suggested
16 transition costs. I know that some actuaries have said
17 there would be a huge transition cost to go to a 401(k)-
18 style plan or DC plan from the DB plan. Others have said
19 it would be negligible. I know in the private sector
20 businesses are doing it so my gut tells me they should be
21 pretty small. Do you have any insight on that in terms of
22 why we would be getting two dramatically different sets of
23 numbers from different actuaries?
24 MR. PORTER: Yes. The transition costs come from
25 effectively two elements. The first one is the current 36
1 unfunded liability is based on -- and we've heard testimony
2 about it, is it's based on the investment return assumption
3 of 7.5 percent. So if you close the plans, can you
4 continue to invest the assets similarly such that you would
5 continue to earn 7.5 percent?
6 One of the things that we look at when we
7 determine is there a "transition cost" is really, well,
8 does that asset allocation have to change on the day you
9 decide to close the plan? And so we look at what's the
10 percentage of the benefit payments that are being paid to
11 retirees who are receiving benefits versus the asset levels
12 and how would that ratio change over time?
13 As we talked about, there's a significant amount
14 of unfunded liabilities so there's a significant amount of
15 contributions that are going to be expected to come into
16 the plans over the next 30 years. Based on those kinds of
17 contributions, what we call this liquidity ratio is really
18 not expected to change much over the next 30 years so we
19 don't see the need that the asset allocation of the systems
20 would have to change on the day you decide to close the
21 plan. So it will take many, many years before you decide
22 to make changes from an asset allocation standpoint. So we
23 don't see a transition cost from that perspective.
24 The second perspective is from the funding of the
25 plans. The funding of the plans in terms of -- it was 37
1 mentioned earlier in terms of long amortization periods and
2 there was a recommendation of shortening amortization
3 periods, and that probably should be really considered from
4 the standpoint that the amortization periods now are very
5 long and there’s a lot of new actuary literature suggesting
6 that those amortization periods should be shorter.
7 When you close the plan, it does sort of limit
8 how long those amortization periods can be and the way the
9 money is collected. But as long as you are collecting the
10 money and funding the plan properly over the period of
11 time, over, let’s say, the next 30 years, we don’t see that
12 the transition in terms of there’s got to be higher
13 contributions. Higher contributions are needed to support
14 the unfunded liability. Closing the plan doesn’t change
15 that.
16 REPRESENTATIVE TRUITT: Thank you, Mr. Chairman.
17 Thank you.
18 MAJORITY CHAIRMAN METCALFE: Thank you,
19 Representative Truitt.
20 Representative Acosta, we didn’t get to you last
21 round of questions. Do you have a question for this
22 testifier, m a ’am?
23 REPRESENTATIVE ACOSTA: Yes, thank you. Good
24 morning, Mr. Chairman, and thank you.
25 I have a quick question in your testimony that 38
1 you submitted or you made a quick statement that says, "The
2 problem we face today is not a pension crisis but rather a
3 debt crisis." Can you further elaborate on that?
4 MR. PORTER: Who made that statement?
5 REPRESENTATIVE ACOSTA: Wasn’t that you?
6 MR. PORTER: It wasn’t me.
7 REPRESENTATIVE ACOSTA: Oh, he didn’t. Oh, okay.
8 I thought he did. I ’m sorry.
9 But can you elaborate on that? Would you tell us
10 why it’s not considered a pension crisis but a debt crisis?
11 MR. PORTER: Yes. I mean every jurisdiction has
12 to fund the level of benefits that they are promising to
13 their employees, and so it’s a matter of being able to fund
14 at the level that’s required. And in terms of actuarial
15 funding, the funding will change over time as there’s
16 changes in actuarial assumptions and changes in benefit
17 structure. And one of the key changes was back in
18 2001/2002 when the benefits were increased, effectively the
19 cost of those benefits were not really supported by the
20 contributions, in fact until recently, until the last
21 couple of years because contributions soon thereafter were
22 reduced.
23 So if you want to make -- that’s the argument in
24 terms of what I would call more of a funding issue. And
25 then when funding levels are dropped and then they get 39
1 exacerbated when asset levels are then decreased by 20, 25
2 percent, which is what happened with the Great Recession.
3 So when you have the funding levels that are dropped, which
4 will result in higher unfunded liabilities during that
5 period of time, and then you have a shock to the system
6 that decreases assets by 20 to 30 percent, it becomes a
7 significant issue. And so now you’re sort of in this hole
8 and you’re trying to find ways of how can we sort of climb
9 out of this hole?
10 REPRESENTATIVE ACOSTA: Thank you.
11 MAJORITY CHAIRMAN METCALFE: Thank you,
12 Representative Acosta.
13 Before the next question, I just want to
14 recognize we do have some other Members that aren’t
15 necessarily Members of the Committee but I want to welcome
16 them here today, and if they have any questions, you would
17 certainly be welcome to join the Committee Members if they
18 have one. I know Representative Caltagirone is with us
19 today, Representative Tobash, and Representative Kampf.
20 Did I miss any Members that are out there in the
21 audience? Representative Brown -- well, Representative
22 Brown is on the Committee, right? So I didn’t miss you;
23 you’re on the Committee. So I was just recognizing Members
24 that aren’t on the Committee.
25 And former Representative Nichols joining us I 40
1 see in the back there today, so welcome, sir.
2 Our next question will be from Representative
3 Dush.
4 REPRESENTATIVE DUSH: Thank you, Chairman, and
5 thank you, Scott, for agreeing to appear.
6 Earlier, Mr. Dreyfuss had made the comment that
7 there were political decisions that were involved in
8 getting us to where we are. I remember I was an AFSCME
9 member in 2000 when Act 9 was passed and prior to that
10 receiving information from the union encouraging us to get
11 a hold of the Legislators and the Governor in order to push
12 for this. The unions have a seat on the State Employees
13 Retirement Board but they were in effect lobbying to have
14 the other members, participants in the board getting on
15 board with Act 9.
16 My father at the time was a retired State
17 employee and he said that’s going to be the death of the
18 COLA. In SERS we were 134 percent funded at the time;
19 PSERS was about 120, 125 percent.
20 MAJORITY CHAIRMAN METCALFE: Representative Dush,
21 are we getting to the question there, sir?
22 REPRESENTATIVE DUSH: Yes. What were the
23 political decisions that got us -- besides Act 9, w e ’ve had
24 a series of them since then. Are you aware of the other
25 ones that have led us to where we are now? 41
1 MR. PORTER: I mean from a political standpoint I
2 don’t think I can really comment on -- what I would say is
3 a lot of pension funds had large surpluses when we were
4 right about 1999 or so and early 2000 primarily because of
5 stock market returns in the late ’90s. There was about
6 four years there where returns were 20 plus percent. And
7 so certain asset levels really increased.
8 I think what we probably understand more now
9 today is that high returns can be followed by very low
10 returns and significantly low returns, and so they sort of
11 all average out, but the issue becomes is if you spend when
12 the assets are high, then you don’t have any buffer for
13 when the assets start reduce. And effectively that’s sort
14 of what happened. And it’s not unique to Pennsylvania.
15 New Jersey did it. In lots of different States, they
16 improved benefits because assets were high and that reduced
17 the amount of surplus that they had and then the surplus
18 got further evaporated because markets were decreased in
19 2001, so soon thereafter.
20 And the funding mechanisms weren’t in place such
21 that would support the higher level of benefits. It put
22 some jurisdictions on a pathway that makes it much more
23 difficult to support the plans going forward and that’s
24 kind of what I think we see here today.
25 MAJORITY CHAIRMAN METCALFE: Thank you, 42
1 Representative Dush.
2 Representative Pashinski.
3 REPRESENTATIVE PASHINSKI: Thank you, sir.
4 Thank you for your testimony.
5 Trying to come down to this point about defined
6 benefits as opposed to defined contributions, and the
7 question that I asked Mr. Dreyfuss before was it appeared
8 as though he doesn’t feel as though there’s any kind of
9 formula relative to a defined benefit plan that would work
10 and then went on to say that you definitely need the
11 funding.
12 You just highlighted the fact that the fund under
13 the defined benefit had lasted for a long period of time,
14 had been 125 to 130 percent fully funded under that present
15 system. It wasn’t until the Legislature changed the
16 funding formula, that multiplier, and changed those
17 provisions and then did not fund it. The question that I
18 ask you is if we kept it the same even with the downturns
19 and upturns in the market, if we kept the defined benefit
20 the same as it was in 1999 until today, to what point would
21 we be in this situation?
22 MR. PORTER: I think you’d probably still be in a
23 similar situation. I think there’s two changes that
24 occurred back then and so I have to think through exactly
25 how it would play out if those two changes didn’t happen. 43
1 And one was the benefits were increased, and two, then the
2 contributions were decreased. But effectively what was
3 happening was that the subsequent actuary losses they got
4 paid for over a 30-year period of time and the actuary
5 gains as of that money were also recognized over a 10-year
6 period of time.
7 So in year 11 when those assets gains were fully
8 recognized, the contribution was expected to spike up. So
9 it was an issue in terms of you are going to have this
10 contribution where it was going to be like this and that it
11 was going to shoot right up. So it was not a mechanism
12 that was really in place that was going to support those
13 benefits long-term.
14 So in terms of can you have a defined benefit
15 plan that can be supported? Yes. If you have a formula
16 that you believe is supportable and you can fund that
17 benefit appropriately, then defined benefit plans can work.
18 The question is, is the benefit level today supportable
19 based on today's budgets?
20 REPRESENTATIVE PASHINSKI: And the funding level
21 is dependent upon the formula that you initiate, so the
22 point that I was making was throughout that period of time
23 while it was funded up to 1999, even with the increase of
24 the profits from the stock market and the investments, that
25 was fully funded 125 percent. Now, if the State would have 44
1 continued to fund it at the level that it should have -
2 remember the State for a period of 2 years funded it zero
3 and then underfunded it from that point on. If they funded
4 it at the level that it was to be funded, we would not be
5 in this position today.
6 MAJORITY CHAIRMAN METCALFE: Is that a point of
7 debate, Representative Pashinski, or are you asking the
8 testifier a question still?
9 REPRESENTATIVE PASHINSKI: Well, w e ’re still
10 working on trying to -
11 MAJORITY CHAIRMAN METCALFE: Well, we have some
12 other Members who would like to ask questions, so if you
13 want to debate, w e ’ll debate later. I ’m ready to debate
14 you but -
15 MR. PORTER: I mean the portion -
16 MAJORITY CHAIRMAN METCALFE: — another time.
17 MR. PORTER: -- the amount of a liability would
18 be reduced. If benefits are at lower levels, then the
19 amount of liability would be reduced. But it wouldn’t have
20 changed what happened in 2001 in terms of stock market
21 crash and it wouldn’t have changed 2008 in terms of the
22 assets losing 20 or 30 percent, and it wouldn’t have
23 changed the fact that budgets were hit because of the Great
24 Recession as well. So those elements still wouldn’t have
25 changed. 45
1 REPRESENTATIVE PASHINSKI: But the overall
2 downhill -
3 MR. PORTER: Everyone was hit that way.
4 REPRESENTATIVE PASHINSKI: Yes.
5 MR. PORTER: Yes, every fund was hit that way.
6 REPRESENTATIVE PASHINSKI: Everyone. It is not
7 unique. But thank you.
8 Thank you, Mr. Chairman. Thank you very much.
9 MAJORITY CHAIRMAN METCALFE: Thank you,
10 Representative Pashinski.
11 Our final question for time constraints is
12 Representative Kampf.
13 REPRESENTATIVE KAMPF: Thank you, Mr. Chairman.
14 Scott, just on the subject of transition costs,
15 so back in 2012 and then in ’13 and ’14, you did a full
16 actuarial analysis on layering in a defined contribution
17 plan for all new hires for SERS and PSERS, right?
18 MR. PORTER: Correct.
19 REPRESENTATIVE KAMPF: And you had significant
20 access to all the information that is contained in the two
21 systems, is that correct?
22 MR. PORTER: Correct.
23 REPRESENTATIVE KAMPF: All right. And am I
24 correct that you concluded putting in a 4 percent match for
25 a DC plan, mandatory 4 percent for the employer for all new 46
1 hires, that for the 30-year projection period you did not
2 see an increase in cost, is that correct?
3 MR. PORTER: Not in terms of -- right, those
4 transition costs, as I mentioned earlier, because we don’t
5 see the necessary need for the asset allocation of the
6 plans to change immediately or within that period of time
7 because the assets will be supported based on the benefits,
8 yes.
9 REPRESENTATIVE KAMPF: And that’s fundamentally
10 because even if we don’t make any change under Act 120,
11 over the next 30 years, the employer, the taxpayer is going
12 to have to put in something on the order of a couple of
13 hundred billion dollars to fund this system, is that right?
14 MR. PORTER: Yes. It’s big numbers, yes.
15 REPRESENTATIVE KAMPF: Thank you.
16 MAJORITY CHAIRMAN METCALFE: Thank you,
17 Representative Kampf.
18 Thank you, sir, for your testimony today.
19 MR. PORTER: Thank you.
20 MAJORITY CHAIRMAN METCALFE: Our next testifier
21 is Mr. Mike Crossey, President of the PSEA.
22 Welcome, sir, and you can begin when you’re
23 ready.
24 MR. CROSSEY: Thank you. Good morning. Chairman
25 Metcalfe, Chairman Cohen, Members of the House State 47
1 Government Committee, I am Mike Crossey, President of the
2 Pennsylvania State Education Association. And on behalf of
3 our 180,000 members, I thank you for inviting me here today
4 to express our views on retirement security and the various
5 proposals associated with pensions currently before the
6 General Assembly.
7 The Public School Employees’ Retirement System
8 (PSERS) was created in 1917. The State Employees'
9 Retirement System (SERS) was created in 1923. These
10 pension systems have weathered the Wall Street crisis, the
11 Wall Street crash of 1929, the Great Depression, the OPEC
12 oil price shock of 1973, both world wars, and a great
13 number of other significant financial crises and recessions
14 to successfully survive to the 20th century.
15 And succeed they did. At the turn of the
16 century, PSERS and SERS were both viewed as models of
17 success. PSERS was 123 percent funded, SERS was 134
18 percent funded, and the employer cost of pension benefits
19 had dropped below zero. Today, 15 years later, PSERS is
20 only 62 percent funded and SERS is only 59.2 percent
21 funded. These two large, successful state pension systems,
22 which have provided retirement security to millions of
23 Pennsylvanians over the course of their existence, are now
24 viewed by some critics as unsustainable. I feel it is
25 incumbent on all of us to understand what went wrong, 48
1 correct the problems, make any necessary changes, and
2 restore these systems to financial health.
3 These two pension systems have also been
4 tremendous economic engines for the Commonwealth. They
5 have supported significant economic activity in many
6 critical sectors of our State’s economy either through
7 direct investment or the purchasing power of hundreds of
8 thousands of retired State and public school employees who
9 are receiving pension benefits.
10 Under a defined benefit model, contributions are
11 made by both the members of the pension system and their
12 employers. The plan assets are pooled and professionally
13 invested with the earnings from these investments covering
14 most of the cost of retirement benefits. If you look back
15 over the last 20 years, for example, you will find that
16 investment earnings provided 71 percent of the funding for
17 benefits paid by PSERS, member contributions provided
18 another 15 percent, and employers only provided 14 percent
19 of the funding.
20 The members of a defined benefit system are able
21 to slowly earn a pension benefit over a working career and
22 are rewarded with income security in retirement. Employers
23 benefit because they can defer a portion of employee
24 contributions to sometime in the future and use investment
25 earnings to offset part of the cost. This can be a win-win 49
1 proposition for everyone, including taxpayers, if everyone
2 keeps their side of the bargain.
3 So what happened over the last 15 years?
4 Starting in 2001, the General Assembly intervened
5 legislatively, increased pension benefits and then
6 proceeded to take a series of actions that cut or capped
7 the required employer contributions necessary to sustain
8 the pension plans.
9 From 2001 to 2013, Pennsylvania ranked 49th out
10 of the 50 States in meeting its annual required
11 contributions to its pension funds. Only New Jersey ranked
12 lower. Anyone wishing to explore these numbers in more
13 depth might want to review an 82-page study comparing
14 pension funding among the States that was recently released
15 by the National Association of State Retirement
16 Administrators. Attached to my testimony is a NASRA press
17 release that includes a link to the full study.
18 The total employer funding shortfall over this
19 period was $14.9 billion. This, however, was only the tip
20 of the iceberg in terms of the impact on the pension
21 systems. Remember that earnings from investments generate
22 most of the funding for a defined benefit plan. In the
23 case of PSERS, investment earnings accounted for 71 percent
24 of the funding during the last 20 years. Therefore, not
25 only were PSERS and SERS short-funded, but they could not 50
1 earn money investing IOUs. As a result, they lost the
2 earnings that would have been generated with proper
3 funding, which, when compounded over a period of more than
4 a decade, would have helped to sustain the pension systems.
5 Other factors cannot be overlooked, including the
6 investment losses of the 2008-09 Great Recession, as well
7 as the cost of the benefit increases in 2001. Both of
8 these contributed to the substantial swing in the fund from
9 greater than 100 percent funded to having more than $50
10 billion in pension debt. However, both of these factors
11 pale in comparison to the employer funding holiday, which
12 is the single largest factor contributing to the debt.
13 The same NASRA study I mentioned earlier clearly
14 demonstrates that other States with defined benefit pension
15 systems were able to survive the past decade without a
16 funding crisis similar in size to the one facing
17 Pennsylvania or New Jersey. These other States had one
18 thing in common: They made their required employer pension
19 payments.
20 For years PSEA advocated for legislation that
21 would have established a minimum floor for the pension
22 plans' employer contribution rates. Ultimately, these
23 efforts were not successful, due in some part to the fact
24 that the projected employer contribution rate spike
25 continued to decrease year after year. That was until the 51
1 Great Recession when PSERS and SERS, just like every other
2 market investor, lost a substantial portion of their
3 portfolios. Once again, the projected contribution rate
4 spiked to near 30 percent.
5 In 2010, PSEA was approached by legislators from
6 both parties in the Senate and House, and we worked with
7 them to try to address the impending employer contribution
8 rate spike. Over a period of months, we focused our
9 attention on reducing the cost of benefits and establishing
10 a responsible payment plan.
11 Ultimately, these collective efforts resulted in
12 the passage of Act 120 of 2010. This legislation rolled
13 back benefits for new employees to a level lower than had
14 existed prior to the benefit increases changed by the
15 Legislature in 2001. Not only was the pension multiplier
16 reduced back to 2 percent, but in addition to other
17 changes, vesting went up to 10 years, and the retirement
18 age was increased, requiring State and school employees to
19 work years longer before they can collect a full retirement
20 benefit.
21 Most notably, Act 120 pension members share the
22 investment risks associated with pension funding with their
23 employers. If the pension systems suffer significant
24 investment losses, these employees are required to make
25 additional risk-sharing contributions to reduce the impact 52
1 on employers and taxpayers.
2 It is important to note that while employee
3 contributions under Act 120 remained the same, the benefits
4 were reduced, which effectively equates to a rate increase
5 for those same employees. The result of these changes mean
6 that new employees now carry 70 percent of the cost their
7 own retirement benefits. This isn’t readily noticeable
8 yet, because employers pay a blended rate that includes
9 both pre- and post-Act 120 employees. However, if PSERS
10 were to break out the employer cost for pension benefits
11 earned by employees since Act 120, you would see that it is
12 now less than 3 percent of payroll.
13 PSEA is not aware of any lower employer normal
14 cost rate for new employees enrolling in any other State
15 pension plan in the Nation. If you know of one, please
16 bring it to our attention as we would be anxious to examine
17 it.
18 Ultimately, PSEA and other public employee unions
19 agreed to these changes because the Legislature was willing
20 to commit itself to responsibly step up funding to the
21 pension systems and eventually pay off the pension debt.
22 The current crisis, as you can see, although
23 referred to as a "pension crisis," was really not caused by
24 the pension benefits earned by school employees moving
25 forward. These costs are presently less than 1/3 of the 53
1 total employer contribution rate as set for next year. As
2 Act 120 kicks in and new hires replace current members of
3 the system, the cost of pension benefits is projected to
4 eventually fall to less than 3 percent.
5 There has been considerable legislative debate
6 over benefits for new hires with various legislators
7 proposing to put new hires in a 401(k)-style, cash-balance
8 or hybrid plan. One might think with all the debate
9 focused on plan design that instituting such changes would
10 make a major difference and solve the current pension
11 funding crisis. The fact of the matter is that all of
12 these proposals fail to address the real problem, which is
13 the cost of paying off the pension debt that the
14 Legislature has run up like an unpaid credit card bill over
15 the last 15 years.
16 The fact of the matter is that even if we were to
17 ask new hires to pay 100 percent of the cost of their own
18 pension benefits moving forward and require no employer
19 contributions toward their benefits, the most the
20 Commonwealth and school districts combined would save is 3
21 percent of payroll in 30 years as these new hires gradually
22 replace all the current members of the pension system.
23 This would be only a drop in the bucket to solving the
24 current funding crisis that will see the employer
25 contribution rate paid by school districts peaking at over 54
1 30 percent within the next several years. At the same
2 time, it would create significant problems with the
3 Commonwealth’s ability to attract and retain talented
4 individuals within the education system.
5 The problems we face today is not a pension
6 crisis, but rather a debt crisis. What options does the
7 Legislature have to deal with this debt?
8 Accelerated payments: There are legislators,
9 like Representative John McGinnis, who wants to pay down
10 the more than $50 billion in pension debt sooner than
11 required under Act 120. This would indeed save taxpayer
12 dollars in the long run, but it would also require
13 substantially higher pension payments today and over the
14 next decade.
15 Longer payoff period: There are other
16 legislators who follow the line of former Governor Corbett
17 and are willing to lower the Employer Contribution Rate
18 over the next several years in order to provide short-term
19 budget relief. This would defer payment and essentially
20 run up even higher charges on the credit card with future
21 taxpayers having to pay an even larger bill. This is
22 exactly how we got into this mess in the first place.
23 I congratulate Chairman Metcalfe and his
24 colleagues who stood firm against proposals like these when
25 advanced by the Governor of his own party. I mention this 55
1 because critics of the position -
2 MAJORITY CHAIRMAN METCALFE: Mr. Crossey?
3 MR. CROSSEY: Yes.
4 MAJORITY CHAIRMAN METCALFE: You’re about 10
5 minutes into your 15 and you’re a little more than halfway
6 through your testimony so I don’t think w e ’ll be able to
7 wrap it all up in the time, but if -
8 MR. CROSSEY: I will be glad to stop. You have
9 my testimony in writing.
10 MAJORITY CHAIRMAN METCALFE: Yes, w e ’d love to
11 have a chance -
12 MR. CROSSEY: I would be glad to answer
13 questions.
14 MAJORITY CHAIRMAN METCALFE: — to interact. A
15 couple Members I ’m sure have some questions. I mean you
16 can stop where you want to. I just wanted to let you
17 know -
18 MR. CROSSEY: I can stop anywhere and I ’d be glad
19 to answer your questions.
20 MAJORITY CHAIRMAN METCALFE: A good point to stop
21 when you just congratulated me so I figured that was an
22 ideal spot.
23 MR. CROSSEY: Very well timed.
24 MAJORITY CHAIRMAN METCALFE: Thank you.
25 Representative Cohen, first question. Do you 56
1 have a question for this testifier? You were on the list
2 for the last one?
3 MINORITY CHAIRMAN COHEN: Yes, Mr. Chairman.
4 Could you discuss how we compare with other
5 States with which you’re knowledgeable? Are other States
6 more reliable partners of the pension system in terms of
7 making annual contributions than Pennsylvania is?
8 MR. CROSSEY: As the NASRA study mentions, we are
9 second to the bottom in the Nation in terms of paying our
10 annual required contribution rate.
11 MINORITY CHAIRMAN COHEN: So we the Legislature
12 have caused this problem essentially?
13 MR. CROSSEY: It’s the largest cost -- 49 percent
14 of the pension debt is caused by unpaid employer
15 contributions.
16 MINORITY CHAIRMAN COHEN: Forty-nine percent of
17 the total pension debt?
18 MR. CROSSEY: Yes.
19 MINORITY CHAIRMAN COHEN: Thank you very much,
20 Mr. Chairman.
21 MAJORITY CHAIRMAN METCALFE: Thank you,
22 Representative Cohen.
23 Representative Roae.
24 REPRESENTATIVE ROAE: Thank you, Mr. Chairman.
25 Prior to 2001, the multiplier was 2.0 for every 57
1 year of service, so after a 35-year career, the pension for
2 a school employee or a State employee would be 70 percent
3 of the final average salary. That was changed with Act 9
4 in 2001 so now it's 87.5 percent of final average salary
5 after a 35-year career. It's a 2.5 percent multiplier now.
6 My question is what's the position of PSEA if the
7 multiplier was changed in 2001 for future years of service
8 for current employees at the time? If we wanted to, as
9 we're looking at pension reform, why couldn't we change the
10 multiplier for future years of service for current
11 employees in 2015?
12 MR. CROSSEY: There's a constitutional provision
13 stopping impairment of contract. The increase with Act 9 I
14 believe the cost of that was 27 percent of the pension debt
15 because it was applied retroactively instead of
16 prospectively, and at that time, had I been sitting here, I
17 would have said let's do it prospectively instead of
18 retroactively because that did contribute to the pension
19 debt. But at this point there's an impairment of contract
20 constitutional provision that prevents that from happening.
21 We did in Act 120 move that back for all new employees to
22 the 2 percent.
23 REPRESENTATIVE ROAE: Now, for further
24 clarification, when you impair a contract, that means
25 you're changing a contract. And again, 2001, the contract 58
1 was changed to a 2.5 percent multiplier that used to be 2
2 percent. The Constitution doesn’t say you can impair a
3 contract one day but you can’t impair it the next day. I
4 mean what’s the basis -- how was it allowed to be changed
5 in 2001 if you can’t impair a contract because it changed
6 it from what it used to be.
7 MR. CROSSEY: The answer to that, sir, is that in
8 2001 I was in my classroom teaching, and when the
9 legislation was proposed, it required every single
10 participant in PSERS and SERS to affirmatively sign the
11 piece of paper saying that they agreed to the modification
12 in their contract. They agreed to change from a 2.0 to a
13 2.5 multiplier and they agreed to make an additional 1
14 percent, I believe it was, contribution into the PSERS plan
15 going forward. So you would have to go out and have every
16 single State and school district employee in the State of
17 Pennsylvania agree to that change in the benefit.
18 MR. CROSSEY: Like 200 or 300,000 people all
19 signed that paper?
20 MR. CROSSEY: Yes, sir. I believe because I know
21 I was a local president at the time, and I went from member
22 to member explaining the change to them, explaining what
23 Act 9 was and said to them do you want to make this change?
24 And I believe there was one person in my school district
25 that said, no, I don’t want to do that. But, yes, you 59
1 would have to go to every single employee, which is what we
2 did in 2001.
3 MAJORITY CHAIRMAN METCALFE: Thank you,
4 Representative Roae.
5 REPRESENTATIVE ROAE: Thank you.
6 MAJORITY CHAIRMAN METCALFE: Representative Sims
7 for our final question.
8 REPRESENTATIVE SIMS: Thank you, Mr. Chairman.
9 Mike, thank you for your testimony and I ’ll be
10 very brief.
11 MAJORITY CHAIRMAN METCALFE: Yes, Representative.
12 REPRESENTATIVE SIMS: Can you speak to PSEA’s
13 position with respect to Governor Wolf’s proposal to remove
14 this funding from a line item in the General Fund to a
15 restricted receipts account?
16 MR. CROSSEY: We think that that’s a very good
17 idea. One, it would take the politics out of it. It would
18 take it out of the general appropriations. We are very
19 much in favor of looking at the proposals made by Governor
20 Wolf, whether it’s the bonding provision, using the
21 modernization of the wine and spirit shops to pay for those
22 bonds so that the taxpayers aren’t stuck with that cost. I
23 think that’s a very nice way to tie the budget together.
24 It’s a very comprehensive budget, and to remove it from the
25 general appropriations process and say this is our line 60
1 item for mandatory cost that we have to pay, I think it’s a
2 good idea.
3 REPRESENTATIVE SIMS: Thank you.
4 MAJORITY CHAIRMAN METCALFE: Thank you,
5 Representative Sims.
6 Thank you sir, for your testimony today. I
7 appreciate you -
8 MR. CROSSEY: Thank you for having us.
9 MAJORITY CHAIRMAN METCALFE: Thanks for being
10 with us.
11 Our next testifier is Mr. Rich Hiller. He’s the
12 Senior Vice President of Government Services with TIAA-
13 CREF. Thank you, sir, for coming today. You can begin
14 when you’re ready, sir.
15 MR. HILLER: Thank you, Chairman Metcalfe,
16 Chairman Cohen. I ’m Rich Hiller with TIAA-CREF, Senior
17 Vice President. I ’ve spent the better part of the last 30
18 years traveling around the country and meeting with people
19 in public higher education, as well as broader State
20 Government, on appropriate pension design.
21 A little history of our company might be
22 appropriate. We were founded by Andrew Carnegie in 1918.
23 Our actual roots with Carnegie go back to something called
24 the Carnegie Free Pension System, which goes back to 1905.
25 But the purpose of the founding of this system by Carnegie 61
1 and it’s not true; you might hear this -- that I was his
2 first hire. I think I was number four or five -- but was
3 to recognize the employment patterns of professors in
4 higher education, and that was that they were encouraged to
5 move several times during a career. And the reality was
6 that as they moved, they didn’t have accrued benefits and
7 they basically worked until they died.
8 And Carnegie said something’s wrong with this.
9 We need to be able to recognize this important work and
10 have these people retire with dignity. And from that point
11 in 1918 the nonprofit TIAA Retirement System was founded in
12 order to recognize this mobility of employment. And a
13 number of things were done. First of all, what they
14 established without calling it at the time was a defined
15 contribution retirement system that had many defined-
16 benefit-like features, and I ’ll explain what those are.
17 They also, as time went on, noticed a number of
18 other important things. One was that this system worked.
19 It provided guaranteed lifetime income to people in this
20 profession after a career in employment. The second thing
21 was that there were no unfunded liabilities. There could
22 not be by design. And third and very importantly, it
23 provided complete budgetary predictability for both the
24 employer and the employee. They knew exactly year-over-
25 year what this was going to cost. There were no wild 62
1 swings in it so you could create a budget and manage that
2 budget effectively.
3 Interestingly, plans like this had existed in
4 Pennsylvania since the early 1970s, so better than 40
5 years. And those are with Penn State and with the
6 Pennsylvania System of Higher Education, government
7 employees, State employees in those systems. And those
8 plans have worked extremely well.
9 And one of the things that I ’m going to try to do
10 for you is take this out of theory and projections and
11 actuarial calculations and talk to you about real-life
12 experience, how this has actually worked here in the State
13 for the last 40 plus years. Using data that exists, real
14 data from Penn State and from the PASSHE system and use
15 data such as salary-accumulated benefits and other things,
16 the expected income replacement ratios in retirement for
17 the folks in those systems today range from 80 to 98
18 percent of their final average salaries, the point being
19 that this is a system that works extremely well, and
20 through all that there have never been any unfunded
21 liabilities.
22 So for almost 100 years this TIAA-CREF system has
23 provided portability, created no unfunded liabilities, had
24 full budgetary predictability, and provided guaranteed
25 lifetime income. 63
1 If you fast-forward to today, if you look at
2 Carnegie’s founding principle of looking to meet the
3 portability of that specific workforce, today, based on
4 Department of Labor Bureau of Labor Statistics numbers,
5 most recent numbers, the median tenure of an employee in
6 State Government nationally is a little over seven years.
7 Again, a little over seven years, State Government
8 employees nationally, meaning that everyone today is in a
9 portable profession.
10 And you can talk about the problems with one type
11 of plan or another, but the reality is that in a mobile
12 profession which, again, these days is everyone, this type
13 of defined contribution plan serves them better than any
14 other type of retirement plan as long as it’s designed
15 properly.
16 And let me talk for a minute about how you
17 properly design a defined contribution plan to be a
18 retirement plan. And you’ll notice one of the things I
19 haven’t said yet is 401(k)-like, and that’s because there’s
20 nothing 401(k)-like about this plan. 401(k) plans, the way
21 they’re typically -- and people understand 401(k) and I
22 understand that’s why they’re often referred to, but
23 typical corporate 401(k) plan is what I would call an
24 unmanaged plan. You have basically the whole universe of
25 investment options available, typically retail share 64
1 classes of mutual funds, which are very expensive. You
2 don’t have communication education provided to employees,
3 and very importantly you don’t have any control of how
4 those assets are distributed in retirement. What w e ’re
5 talking about here is 180 degrees from that.
6 So three main principles for designing a defined
7 contribution retirement plan, one is the investment design.
8 You have pooled and professionally managed assets in that
9 retirement plan. For example, at TIAA-CREF w e ’re managing
10 close to a trillion dollars. Most of that is in retirement
11 benefits for higher education, government, and other
12 nonprofit organizations, and we operate as a nonprofit
13 ourselves.
14 Looking at the Pennsylvania public higher ed
15 systems, the total cost -- and this is administrative and
16 investment costs combined -- is well under 50 basis points
17 for the cost of that plan, about 45 basis points at last
18 check. That’s less than half of 1 percent. And that’s
19 because the pooled professionally managed assets, because
20 these are a limited number of funds that are provided
21 within a plan, and those would include 1) decision choices
22 like target date funds, which make it easy for the
23 participant to not have to be a sophisticated investor in
24 order to properly invest for their own retirement.
25 The second major principle, communication 65
1 education and advice. What's important here is that you
2 have a comprehensive plan that addresses what a participant
3 in the plan has to do, how they have to do it, what their
4 choices and responsibilities are, and then you provide
5 specific investment advice. And the provider of that
6 advice becomes a fiduciary for the provision of that advice
7 and takes that fiduciary responsibility away from the
8 State.
9 And third and maybe most importantly is asset
10 distribution. And here is where I think there's often a
11 lot of confusion. A plan sponsor, in this case the State,
12 can set provisions for how a defined contribution plan
13 works. You can say that a certain amount of the
14 accumulated assets in the plan at retirement has to be
15 received as a guaranteed lifetime income, an annuity if you
16 will or other form of lifetime income. You as the plan
17 sponsor can make that a provision of the plan, and many do.
18 So, again, it's not like a 401(k) plan where what
19 happens at retirement is most people cash that money out
20 and put it in an IRA and do whatever with it. The plan
21 itself can provide lifetime income and you can control the
22 distribution methods within that plan, and we would
23 strongly recommend that you do that. So the distribution
24 of assets, including lifetime income, would be the third
25 main principle. 66
1 In short, what you’re talking about here is a
2 defined contribution approach that looks a lot like defined
3 benefit in many ways in that it provides lifetime income,
4 pooled and professionally managed assets, certain other
5 features, and also that does not have any ability to create
6 unfunded liabilities, is low-cost, and is proven over a
7 century.
8 So what I would say that this is is a retirement
9 plan designed to replace income in retirement, not a
10 defined contribution plan whose sole purpose is to
11 accumulate assets.
12 Thank you, Mr. Chairman.
13 MAJORITY CHAIRMAN METCALFE: Thank you. Thank
14 you, sir.
15 We have a number of Members from the previous
16 list.
17 Representative DeLissio, did you have any
18 questions for this testifier? You were on the list from
19 before.
20 REPRESENTATIVE DELISSIO: Thank you,
21 Mr. Chairman.
22 I’ve been a fan of TIAA-CREF for a long, long,
23 long time.
24 Mr. Hiller, I appreciate your presentation here
25 today, particularly those three points about design, cost, 67
1 and guaranteed lifetime income because I think some of our
2 concerns are truly secure retirement and ensuring that.
3 And if our society has a literacy level that’s not where it
4 should be, their financial literacy level is even more
5 diminished or is below that.
6 How would this system aid our current situation
7 here in Pennsylvania? We have this unfunded liability. Is
8 this you’re just explaining your system? Is this something
9 we could use going forward? Is this something that can
10 somehow retroactively be worked out to remedy what is -
11 the taxpayers paid their tax dollars, the employees paid
12 their contributions, the employer -- in this case the State
13 -- was deficient in its responsibility. So we talk about
14 pension reform. Actually, I think it’s a pension solution.
15 And if this were to be identified as something as
16 a reasonable solution that met all of the goals
17 collectively, do you see a vehicle to have this help us
18 remedy and identify the solution we need now to sort of dig
19 ourselves out?
20 MR. HILLER: Well, what I ’d say is, I mean the
21 unfunded liability exists and it has to be dealt with. I ’d
22 use the analogy of the oil spill in the Gulf of Mexico a
23 few years ago. The first thing you’ve got to do is cap the
24 well. And that’s what this does. What this will ensure is
25 that going forward for the participants in this plan, new 68
1 hires into the State, that you will not create any more
2 unfunded liabilities. And then you can deal with the
3 liability that you have.
4 So it doesn’t directly do anything to the
5 unfunded liability except ensure that you’re not going to
6 create new ones.
7 REPRESENTATIVE DELISSIO: A new one. So we still
8 are in need then of a more comprehensive solution that
9 deals with that very large unfunded liability, no magic
10 there unfortunately.
11 MR. HILLER: There is no silver bullet, no.
12 REPRESENTATIVE DELISSIO: No silver bullet.
13 Thank you, Mr. Chairman.
14 MAJORITY CHAIRMAN METCALFE: Thank you,
15 Representative DeLissio.
16 Representative Truitt.
17 REPRESENTATIVE TRUITT: Thank you, Mr. Chairman.
18 Thank you, Mr. Hiller.
19 So it sounds like you met my first criteria of
20 any reform plan and that is that we stop digging the hole
21 any deeper. I just want to understand how this is similar
22 -- I know you said it’s not a 401(k)-style plan but I ’m
23 still trying to draw a picture in my head of how this
24 works. And one area I ’m wondering about is if it’s pooled
25 assets, does that mean when you die, whatever money you 69
1 didn’t use just stays in the plan or is there something
2 that goes to your heirs?
3 MR. HILLER: Well, it absolutely goes to your
4 heirs. When I say it’s pooled and professionally managed,
5 what w e ’re talking about here is large sums of money. In
6 the case of TIAA-CREF, like I said, w e ’re managing close to
7 a trillion dollars. And there are economies of scale.
8 That’s why we can do it for the low cost that we do, and
9 not even just our proprietary funds but funds from Vanguard
10 or American funds, whatever, can be part of that platform
11 but at a very low cost, at the lowest share classes
12 available because we’ve got that purchasing power if you
13 will. But it’s all segregated into individual accounts and
14 that individual has control of that money, as do their
15 beneficiaries.
16 REPRESENTATIVE TRUITT: Okay. Thank you. That’s
17 one of my second criteria. I like the idea of defined
18 contribution plans. If I put a million dollars into my
19 plan and I die three days after I retire, at least my
20 family will get some of the benefits of that.
21 MR. HILLER: Yes. There are many different ways
22 to receive that distribution that you would choose. I know
23 most all would provide for beneficiaries.
24 REPRESENTATIVE TRUITT: Thanks for helping me to
25 understand that. 70
1 Thank you, Mr. Chairman.
2 MAJORITY CHAIRMAN METCALFE: Thank you,
3 Representative Truitt.
4 Representative Daley.
5 REPRESENTATIVE DALEY: Thank you, Mr. Chairman.
6 Mr. Hiller, thank you for being here today.
7 Can you just talk a little bit about what the
8 employer contribution is typically?
9 MR. HILLER: A typical plan like this, when the
10 employer and the employee also participate in Social
11 Security, the total contribution rate will typically be 10
12 to 12 percent split either half-and-half or some other way
13 depending on the employer. But it’s usually total
14 contribution in that 10 to 12 percent range if you’re in
15 Social Security.
16 REPRESENTATIVE DALEY: So I didn’t understand
17 what you meant by split half-and-half.
18 MR. HILLER: Well, it could be 5 percent
19 employer, 5 percent employee.
20 REPRESENTATIVE DALEY: Oh, so the total employer
21 and employee contribution would be 10 to 12 percent?
22 MR. HILLER: yes.
23 REPRESENTATIVE DALEY: Okay. Okay. The current
24 contribution for a post-Act 120 employee in Pennsylvania is
25 in the range of 3 percent for the employer, so that’s less 71
1 than what your typical contribution would be, right?
2 MR. HILLER: Yes. I mean that's into defined
3 benefit plan, right?
4 REPRESENTATIVE DALEY: Yes.
5 MR. HILLER: And so defined benefit plans,
6 there's two different parts of the cost. There's your
7 normal cost, which is future benefits, and then any
8 contributions towards your unfunded liability. I think the
9 total is considerably more than that 3 percent -
10 REPRESENTATIVE DALEY: Oh.
11 MR. HILLER: -- but this is what this would
12 always be, this total 10 to 12, and that's to produce an
13 income in retirement that's in that 75 to 80 percent income
14 replacement range.
15 REPRESENTATIVE DALEY: Right. Okay. Well, thank
16 you. But there is a difference. And your point is that in
17 the TIAA-CREF you would not be able to accumulate an
18 unfunded liability -
19 MR. HILLER: Right.
20 REPRESENTATIVE DALEY: -- because the employer
21 and the employee would always be putting their money into
22 the plan?
23 MR. HILLER: Well, and the State's obligation is
24 met when the contribution is made.
25 REPRESENTATIVE DALEY: Right. I agree. Thank 72
1 you.
2 MAJORITY CHAIRMAN METCALFE: Thank you,
3 Representative Daley.
4 Our last question, Representative Tobash.
5 REPRESENTATIVE TOBASH: Thank you.
6 Thank you, Mr. Hiller, and thank you,
7 Mr. Chairman, for allowing me to have a question and a
8 comment. I appreciate it.
9 And it really goes really in reference to a
10 previous Representative’s line of questioning, but goes
11 back to the previous testifier, the President of PSEA,
12 Mr. Crossey. He talked about his belief that the systemic,
13 most fundamental problem of the underfunding that w e ’ve got
14 right now is a result of the lack of the employer
15 contribution. That’s what I heard from the last testifier.
16 But in the plan that you’re talking about, because it’s a
17 defined contribution plan, you do not have an underfunding
18 issue, is that correct?
19 MR. HILLER: Yes, that’s correct.
20 REPRESENTATIVE TOBASH: So the Legislature’s
21 decisions that were made in the past to underfund
22 consciously this defined benefit program would not exist if
23 the State moved to a defined contribution program? Is that
24 your belief?
25 MR. HILLER: It would not create an unfunded 73
1 liability.
2 REPRESENTATIVE TOBASH: Okay. Thank you very
3 much.
4 Thank you, Mr. Chair.
5 MAJORITY CHAIRMAN METCALFE: Thank you,
6 Representative Tobash.
7 Thank you, sir, for joining us today. I
8 appreciate your expertise.
9 Our next testifier will be Mr. John Schu. He’s
10 the Senior Vice President with Branch Development, Lincoln
11 Financial. Ready when you’re ready, sir.
12 MR. SCHU: Good morning, Chairmen Metcalfe and
13 Cohen and Members of the House Standing Committee on State
14 Government. And thank you for allowing me to testify
15 today.
16 My name is John Schu and I ’m the Senior Vice
17 President in Branch Development with Lincoln Investment
18 Planning. On the agenda it says Lincoln Financial. That’s
19 a different company, a common mistake. We don’t have a
20 sign on a football field. But we are located in the same
21 general vicinity outside of Philadelphia.
22 MAJORITY CHAIRMAN METCALFE: Lincoln Investment
23 Planning.
24 MR. SCHU: Lincoln Investment Planning.
25 MAJORITY CHAIRMAN METCALFE: Thank you. 74
1 MR. SCHU: W e ’re a broker/dealer. W e ’re an
2 independent investment advisor. W e ’ve been in business for
3 nearly 50 years. It’s a family-owned business. Currently,
4 we have over 375 Pennsylvania public school districts that
5 we serve and w e ’re helping 31,000 employees managing about
6 $1.2 billion in assets. And w e ’re spread out over the
7 State with about 15 different offices throughout
8 Pennsylvania.
9 Lincoln Investment is also a member of the
10 National Tax-Deferred Accounts Association, which is the
11 Nation’s only independent nonprofit association dedicated
12 to 403(b) and 457 plan marketplace. NTSA was formed in
13 1989 as the National Tax Sheltered Annuities Association
14 and joined the American Retirement Association in 2009.
15 Today, it’s 3,300 plus members include practitioners,
16 agencies, corporate, and employer members, and their
17 mission is to provide high-quality education, technical
18 support, information resources, and networking forums for
19 professionals in the 403(b) and 457 marketplace.
20 Every Pennsylvania public school has a retirement
21 plan that works. This committee has the important task of
22 shaping policy and legislation that will impact every
23 citizen of the Commonwealth for decades to come. And I'm
24 certain that the fact that any decision is likely to
25 displease some, if not all, constituents only makes this a 75
1 more difficult task.
2 What I ’d like to offer the Committee is that
3 there are many businesses like Lincoln Investment Planning
4 throughout Pennsylvania, other firms like ours that work
5 directly with individuals in their local school districts.
6 Every Pennsylvania public school offers a defined
7 contribution plan outside of PSERS. Those plans are
8 specific types of defined contributions known through their
9 Internal Revenue Code sections, which is 403(b) or 457.
10 The plan type is not as important as the fact
11 that every public school employee already has access to a
12 defined contribution-type plan and approximately 1/3 of
13 public school employees are already actively using those
14 plans today.
15 The local plans really work the best. Despite
16 the success of the local plans, previous proposals to
17 replace the existing public pension system with either a
18 hybrid or straight defined contribution plans included
19 provisions that would all but wipe out these local plans.
20 Prior proposals sought to replace the existing structure
21 with a new State-run defined contribution plan. It’s sort
22 of a "destroy the good in want of the perfect.” The
23 problem is that the perfect on paper isn’t always
24 translated into reality. And here’s why that is certainly
25 true in this case. 76
1 In 2007, the Iowa Legislature passed legislation
2 that led to the elimination of the local school district
3 defined contribution plans. Local plans were replaced by
4 State-sponsored programs run out of Des Moines. The theory
5 was that the department that supported the defined
6 contribution plan for the State employees in Des Moines was
7 able to offer the same service to public schools throughout
8 the State. The State would negotiate lower fees and
9 streamline administration, et cetera.
10 In 2009, the State launched its new retirement
11 program for public school employees and all but a few
12 districts signed on. The plan was perfect in the eyes of
13 the department running the program. The fees were indeed
14 low and everything, including investment education was run
15 through a central office in the capitol. The program was
16 heralded for all the investment expenses it would save
17 employees.
18 As it turned out, the State was right in that
19 many employees saved even more money in investment expenses
20 that were projected, but just not for the expected reasons.
21 What happened is that more than half of the participants
22 that had been contributing to their retirement plan stopped
23 making contributions into that plan. You see, they saved
24 fees because they stopped saving.
25 Iowa is now issuing an RFP to reintroduce local 77
1 retirement plan provisions back into the public schools’
2 defined contribution plan system in hopes of getting back
3 to the savings rates where they were at in 2009.
4 Also, I ’m here to tell you that local investment
5 professionals really matter. This example illustrates what
6 Lincoln knows from 50 years of experience. People need to
7 understand why it’s so important to save pre-tax for
8 retirement and where and how to invest for retirement. And
9 when given no choice, people choose not to invest. And the
10 Iowa State plan is just one example.
11 In Southern California, around half the workers
12 stopped contributing when their plan went to a single
13 provider. Colorado, similarly, they had 55 providers that
14 went down to one. They lost about 54 percent of their
15 participants. And in Pennsylvania there was a school
16 district that lost 40 percent participation when they did
17 the same thing.
18 The data shows that disrupting or trying to
19 replace the defined contribution plans that are already in
20 place in Pennsylvania public schools could likely cause
21 half of the current savers to drop out of the system. A
22 reform measure that results in less people saving for
23 retirement is simply a big step in the wrong direction.
24 And don’t forget, many of the firms and advisors that are
25 successful in helping public school employees in 78
1 Pennsylvania are Pennsylvania businesses like Lincoln
2 Investment.
3 It’s the effort to replace the local support with
4 bungee-jumping enrollers from Charlotte or Texas that just
5 don’t work. It’s not likely that many of the people here
6 today started their retirement savings plan online or by
7 dialing an 800 number.
8 Defined contribution participants need
9 professional assistance. One of the policy issues
10 discussed when it comes to pension reform is how much of
11 the risk should be shifted from the State to the employee.
12 A hybrid plan that includes a defined benefit and defined
13 contribution plan has some level of risk-sharing and a
14 straight defined contribution plan shifts all of the risk
15 of investment to the employee.
16 Now, Lincoln doesn’t have a position on what if
17 any plan design changes should be made. What we do know is
18 that it’s not right to shift any portion of the investment
19 risk to the employees without making sure that they have
20 access to investment advice from professionals they choose
21 and trust.
22 You see, local investment professionals are not
23 only key to getting people to save more money, investment
24 professionals can also help participants manage their
25 investments. A study by CIRANO found an increase of 58 79
1 percent more in assets when people got to work with an
2 advisor of their choice over a period of four to six years.
3 Working with an advisor for 7 to 14 years shows an increase
4 of 99 percent over those not using a financial advisor.
5 One example for consideration is the Federal
6 Thrift Savings Plan. The TSP is considered a model of low-
7 cost retirement plans, although part of the reason the
8 costs are low is because the plan is subsidized by tax
9 dollars. Local advisors are not incorporated into the plan
10 support. The result is that the investment with the most
11 plan assets, nearly 50 percent of the plan assets, is the
12 guaranteed account. That means that half of the retirement
13 savings in the plan have missed out on the growth in the
14 equity market and their entire plan is likely growing only
15 slightly faster than inflation. A similar result would not
16 deign well for the retirement preparedness of Pennsylvania
17 public school employees under a hybrid or defined
18 contribution plans.
19 Local plans and investment professionals are a
20 valuable resource. Local school districts' control of
21 403(b) and 457 plans work because employees are able to
22 work with the advisor of their choice. That's why I'm
23 testifying today in support of retaining school district
24 control over these plans and not sweeping 403(b) and 457
25 plans out of the mix when considering pension reform. 80
1 Thank you.
2 MAJORITY CHAIRMAN METCALFE: Thank you, sir.
3 Our first question will be from Representative
4 McCarter. Are you ready?
5 REPRESENTATIVE MCCARTER: Thank you,
6 Mr. Chairman.
7 Thank you very much for your testimony.
8 Wasn’t the original use of 401’s and 403(b)’s to
9 supplement the idea of defined benefit plans?
10 MR. SCHU: Yes. Back in 1958 because at that
11 time to entice people into public education where salaries
12 were lower than you could get in the private sector, 403(b)
13 was created to entice people to have a supplemental vehicle
14 to save.
15 REPRESENTATIVE MCCARTER: What percentage of
16 school employees currently, let’s say, who are in the PSERS
17 system participate in 403(b)’s at the present moment? Any
18 idea?
19 MR. SCHU: Yes, it’s about 30 to 40 percent.
20 REPRESENTATIVE MCCARTER: Thirty to forty
21 percent. So 60 percent or more do not participate?
22 MR. SCHU: Six out of ten don’t do it because
23 they’re uninformed.
24 REPRESENTATIVE MCCARTER: The previous testifier
25 suggested under a hybrid plan that replacement income could 81
1 be had at 70 to 80 percent under this pooled managed system
2 taking place. Is your experience in terms of advising the
3 employees even that participate in 403(b)’s at this
4 particular point, do they have the expertise to be able to
5 do without a managed plan that would take place, a
6 completely managed plan to be able to make those
7 investments successfully to get a rate of return of
8 something that would be sustainable?
9 MR. SCHU: I ’ll give you my own experience. I ’ve
10 been in the industry 33 years working with individual
11 clients and also managing other people doing the same.
12 First off, someone has to motivate you to start to save.
13 And then the returns that you get, you have to understand
14 the risk you’re taking in order to get those returns. So
15 our job is to help them understand risk and invest
16 appropriately and to stay with the discipline over time.
17 REPRESENTATIVE MCCARTER: We heard from an
18 earlier testifier also that in the Virginia plan, when
19 given the option of whether to join or not to join into a
20 voluntary system, that that was somewhere in the
21 neighborhood of roughly 95 percent chose not to join.
22 MR. SCHU: That’s correct.
23 REPRESENTATIVE MCCARTER: And if that’s the case,
24 would we be putting at risk people’s futures by going into
25 a mandatory system like the one you described, not your own 82
1 system but the one in which -- yours is a supplemental
2 system, but taking the place of the defined benefit plan,
3 wouldn’t we be putting large numbers of people at risk to
4 not be able to have that sustainable income when they do
5 retire?
6 MR. SCHU: The basic shift from a defined benefit
7 to a defined contribution puts the risk of the retirement
8 on the backs of the individual. They’re now in charge of
9 the most important pension plan in the world -- their own.
10 Each individual decides how to invest, both the amount and
11 where to put it, and they’re responsible for the income
12 that whatever they accumulate generates when they’re ready
13 to take distributions. So they’re in charge. And that’s
14 why I ’m suggesting that participation goes down because
15 most are frozen. They’re not sure what to do. And advice
16 on an 800 number is not the same as me sitting at a kitchen
17 table with a husband and wife and talking about benefits
18 and retirement long-term and providing education over a
19 long period of time.
20 REPRESENTATIVE MCCARTER: So my last question
21 would be then a successful plan would need literally an
22 advisor for every individual, the roughly 250,000 people
23 covered by both the PSERS and the SERS system to be
24 effective?
25 MR. SCHU: A lot of people are able to do this on 83
1 their own. They are comfortable dialing an 800 number and
2 saying put my money in these accounts and this is how much
3 I want to contribute. But in our experience about 8 out of
4 10 seek professional help.
5 REPRESENTATIVE MCCARTER: Thank you very much,
6 Mr. Chairman.
7 MAJORITY CHAIRMAN METCALFE: Thank you.
8 For a single question, Representative Kampf.
9 REPRESENTATIVE KAMPF: I learned this in talking
10 to you but just so everyone’s clear, you operate in the
11 space above 7.5 percent of the employees’ salary because
12 the 7.5 percent is what they contribute in to PSERS, is
13 that right?
14 MR. SCHU: Yes, that’s correct, because all the
15 contributions into 403(b) plans are supplemental, meaning
16 voluntary payroll reduction contributions.
17 REPRESENTATIVE KAMPF: Okay. Thanks.
18 MAJORITY CHAIRMAN METCALFE: Thank you.
19 Representative Pashinski for a question.
20 REPRESENTATIVE PASHINSKI: Thank you,
21 Mr. Chairman, very kind.
22 And thank you very much, sir. I think you’ve
23 really hit on a very important point here, and it’s the
24 management of that particular investment that is key. And
25 I think all of us can admit we do not have the expertise 84
1 that you would have or the other financial advisors that
2 w e ’ve heard from throughout this entire process.
3 The defined benefit that the State has provided
4 for the employees is a forced savings very similar to
5 Social Security, which is a forced savings, and the reason
6 it’s in place is because, as you’ve pointed out, most
7 people don’t take it upon themselves to do that. So this
8 is a way to preserve life in your senior years and provide
9 some quality of life.
10 The question that I wanted to ask you was
11 relative to the testimony that you heard today on the
12 positive effects of defined contribution, my question was
13 are you aware of anyone that was in a defined contribution
14 system, what their outlay, what their output, what their
15 retirement dollars were before the collapse of 2007/8,
16 during the collapse of 2007/8, and immediately after the
17 collapse of 2007/8, because I suspect that those people in
18 those plans lost money, and when they retired at that
19 point, they had severe loss of their income. Would that be
20 a correct thing to say?
21 MR. SCHU: Of course. Anyone in a defined
22 contribution plan is responsible for their own account,
23 where it’s invested. We have 350,000 clients at Lincoln
24 and I ’d say every one of them participated in the down
25 markets both in 2000 with the tech bubble and in 2008 and 85
1 in 2009. Our client retention was in the high 90 percent
2 because people stay with their discipline when they have
3 someone to hold their hand and ensure that their asset
4 allocation is appropriate so that they don’t buy in at the
5 top of the market and sell out at the bottom because that’s
6 the formula for failure. So that’s really the reason we
7 exist is to educate and help people achieve their
8 retirement goals.
9 REPRESENTATIVE PASHINSKI: And the key point is
10 that the people that retired during 2008 collapse and 2009
11 in the defined benefit plan really lost nothing. Their
12 monthly income was stabled?
13 MR. SCHU: A defined benefit plan is just that.
14 It says this is the benefit you’re going to get. The
15 funding is the other issue. Defined contribution, it’s all
16 based on your account balance.
17 REPRESENTATIVE PASHINSKI: Correct. I thank you.
18 Thank you, Mr. Chairman. Thank you, Mr. Schu.
19 MAJORITY CHAIRMAN METCALFE: Thank you,
20 Representative Pashinski.
21 That’s all the time we have for this testifier.
22 Thank you, sir, for your testimony.
23 Our next testifier is Mr. Josh McGee, Ph.D., Vice
24 President of Public Accountability, Laura & John Arnold
25 Foundation; Senior Fellow of the Manhattan Institute. You 86
1 can begin when you’re ready, sir. Thanks for being with
2 us.
3 DR. MCGEE: Thank you very much. Thank you,
4 Chairmen. Thank you, Members of the Committee. I
5 appreciate the invitation and I look forward to questions
6 after my testimony.
7 So this testimony is educational and nonpartisan
8 in nature. This should not be construed as support for
9 legislation or opposition to legislation.
10 Retirement benefits are an important part of
11 workers’ compensation packages. The Laura and John Arnold
12 Foundation is committed to ensuring that all workers have a
13 fair and secure retirement. We have worked on public
14 retirement systems. We have also supported secure choice
15 plans, so the expansion of retirement benefits to private
16 sector workers who don’t currently receive benefits through
17 their employer.
18 Across the Nation, cities and States are facing a
19 looming pension crisis that is threatening workers’
20 retirement security and critical investment in education
21 and public safety and other essential public services.
22 Governments have failed to responsibly manage their
23 retirement systems. Over the past several decades, and
24 this is true of Pennsylvania, policymakers have engaged in
25 a number of practices that threaten the sustainability of 87
1 these systems. They have used accounting gimmicks, made
2 insufficient contributions, and provided retroactive,
3 unfunded benefit increases.
4 As a result, rising pension costs, particularly
5 that service costs on the pension debt, are now straining
6 State and local budgets. Services have been cut, workers
7 have been forced to endure benefit cuts, wage freezes, and
8 job reductions. I would put to you that when the State
9 runs up an unfunded liability, it is not taxpayers who bear
10 most of the burden; it is workers. They bear it through
11 wage freezes; they bear it through benefit cuts, both of
12 which have happened in the State of Pennsylvania.
13 There was discussion of the Act 120 new tier that
14 was put in place. It's 3 percent normal cost. That 3
15 percent normal cost is quite low. It is quite low because
16 the benefits are pretty terrible for most employees. The
17 cost is low because most employees never make it to
18 retirement under that system, and so we place most people
19 who enter public school employment -- teachers, your
20 principals -- on an insecure retirement savings path. They
21 turnover before they ever get there; they don't have enough
22 savings and were counting on their next job to make up the
23 difference. The 3 percent is low because it is a bad
24 pension plan.
25 People on both the right and the left have 88
1 recognized the urgent need for reform and we are interested
2 in working with all who are pursuing reforms that are
3 comprehensive, lasting, and fair. By taking steps to
4 address the issue today, we can avoid a crisis tomorrow.
5 So I ’ve got a couple of paragraphs here that I ’m
6 going to skip over that say what pension reform should
7 accomplish. I ’m not going to read those.
8 I think that there are two primary things that
9 you have to focus on. One is paying down the pension debt.
10 The State owes public employees a significant amount of
11 money and they have to pay that. You’re not going to be
12 able to avoid it. There is no silver bullet. You have to
13 pay for benefits that have been promised and the State
14 needs to adopt a reasonable, responsible funding plan on
15 that debt as soon as possible, and that plan should pay
16 down the pension debt as quickly as possible.
17 The second issue, the State should consider
18 putting in place a retirement plan that modernizes the
19 pension system for today’s workforce for a workforce that
20 is more mobile than it has been in the past and also
21 improves the political economy issues, the "holding
22 government accountable for making responsible contribution"
23 issue.
24 Right now, the current pension system is very
25 back-loaded. Like I said, it doesn’t put all workers on a 89
1 path to retirement security. We should go to a system that
2 places all workers on the path to retirement security and
3 fully funds that benefit.
4 A variety of different plan designs can meet
5 those principles. There is no one-size-fits-all solution.
6 I would put to you, though, that cash balance and defined
7 contribution are the simplest solutions. They’re easier to
8 understand. You remove a lot of the assumptions from the
9 equation. It’s easier for employees to hold government
10 accountable for making required contribution to those
11 plans.
12 Unfortunately, reform opponents have often used
13 spurious technical and financial arguments to derail
14 potentially productive reform discussions, and I think that
15 has happened in this State. This is especially true when
16 the jurisdictions are considering moving employees to a
17 defined contribution plan. Policymakers in Pennsylvania
18 experienced this in 2013 when they were considering
19 legislation that would replace new State and public school
20 employees in a DC plan. You’re likely to hear those same
21 complaints this time around if you consider similar
22 proposals.
23 There are two primary complaints that are raised.
24 One is that somehow defined benefit plans are more
25 efficient than defined contribution plans, and the second 90
1 is that there are transition costs. The primary proponent
2 of the cost-efficiency myth is the National Institute for
3 Retirement Security, a Washington-based nonprofit created
4 by public retirement plans and their interest groups. They
5 assert that final average salary DB plans have inherent
6 cost advantages and the conclusion reached in the NIRS
7 policy briefs are not just overstated but they are simply
8 incorrect. The NIRS results are not supported by the
9 empirical evidence. They are largely driven by the
10 authors’ very strong assumptions about annuitization in
11 particular and completely ignore pension debt as a
12 significant cost driver in final average salary DB systems.
13 What’s more, there are numerous examples of well-
14 designed, cost-efficient, public-sector DC plans that
15 deliver adequate secure benefits to plan members, including
16 plans sponsored in Oregon. Oregon is interesting because
17 the last presenter was talking about how often -- if left
18 up to the individual, people make bad choices. In Oregon
19 there is only one investment option and that’s the pension
20 plan. It’s managed by the plan.
21 As a government sponsor, you should realize that
22 you have complete control to design whatever system you put
23 into place. You can completely eliminate borrowing from
24 the system. You can require participation. You can
25 require a forced savings rate that would lead to an 91
1 adequate retirement. You can manage the investments in a
2 pooled way at low cost. So Oregon, Colorado, Michigan,
3 Alaska, Ohio, the Federal Thrift Savings Plan, there are
4 more than 20 public-sector DC plans that exist in the world
5 today, and most of them operate at low cost and provide
6 adequate benefits.
7 Most of them offer annuities through their plan.
8 This is one of the big assumptions that NIRS and others
9 make on the efficiency argument is that there is no
10 annuitization. Most of these public-sector plans offer
11 annuitization, lifetime income at retirement.
12 The second false critique raised by reform
13 opponents is transition cost. It has been perpetuated by
14 the cottage industry of actuarial and investment
15 consultants who work for retirement plans. The costs that
16 would supposedly result from a transition to DC are a
17 product of incomplete cost comparisons based on poorly
18 justified methodological choices and assumptions. The two
19 transition cost claims that have been raised in
20 Pennsylvania are the State must pay off the pension debt on
21 an accelerated schedule if the existing plan is closed; and
22 two, winding down the system would require more
23 conservative liquid investments over time.
24 So I ’m going to skip over the GASB paragraph. I
25 don’t think that right now it’s being advanced that GASB 92
1 would require an acceleration. But it’s important to
2 realize that moving employees to a new system wouldn’t
3 really change anything for the current system, for the
4 legacy system. The pension debt is the sole responsibility
5 of the sponsoring government. Employees don’t pay down the
6 pension debt. That’s your responsibility. Just like any
7 other debt of the State, you have to have a payment plan,
8 you have to stick with it, and it has to be adequate.
9 It is up to the government to adhere to a prudent
10 payment policy for the pension debt. In the end, a State’s
11 choice of amortization schedules must match the duration of
12 the debt. And the way the State chooses to pay down the
13 debt service is a matter of public policy over which you
14 have complete control.
15 The previous analysis did not present an
16 empirical justification for accelerating the amortization
17 schedule. Regardless of any proposed change in the plan
18 design for new employees, it is imperative that
19 Pennsylvania adopt a responsible, sustainable pension debt
20 repayment schedule that is consistent with the
21 recommendations of the Society of Actuaries’ Blue Ribbon
22 Panel on Plan Funding. I would recommend that the Members
23 of the Committee look up the Society of Actuaries’ Blue
24 Ribbon Panel on Pension Plan Funding. I think that the
25 State of Pennsylvania would do well to adopt all of the 93
1 recommendations of the panel.
2 On amortization, they recommended amortization
3 schedules that were closed and no longer than 15 or 20
4 years, so shorter than what Pennsylvania has today. If
5 Pennsylvania adopted such a recommendation, there would be
6 absolutely no need to accelerate the pension debt repayment
7 schedule because the duration of that debt would be shorter
8 than the duration of the liabilities.
9 The second transition cost claim, which I think
10 Milliman dealt with quite well, is that over time you have
11 to move it to a lower discount rate because you would have
12 to shift to more conservative, more liquid investments.
13 The key point here is that the actuaries, in
14 their previous analyses, simply assumed that they would
15 have to move it very aggressively to a lower discount rate,
16 in fact, moving to a discount rate that would result in the
17 plan investing essentially at the risk-free rate. This is
18 an assumption. It was not backed up with any empirical
19 evidence. There was no justification for that change. It
20 was purely an assumption. When Milliman looked at this,
21 the empirical results of their study showed that there was
22 no greater liquidity concern in the future over the
23 projection period than there was today.
24 MAJORITY CHAIRMAN METCALFE: If we could take a
25 few questions. 94
1 DR. MCGEE: That would be great.
2 MAJORITY CHAIRMAN METCALFE: If you wouldn't
3 mind. I appreciate your testimony. And I know we've got
4 several Members -- Representative DeLissio.
5 Oh, excuse me. Representative Cohen first. He
6 was on the list from a previous testifier.
7 MINORITY CHAIRMAN COHEN: Thank you,
8 Mr. Chairman.
9 Has your positions and in the Arnold Foundation
10 changed over time? There seems to be a difference in
11 emphasis from what I've heard from the Arnold Foundation in
12 the past.
13 DR. MCGEE: No. Our position has not changed.
14 There are people who would like to define our position for
15 political purposes. Our position has been the same the
16 entire time. I'm interested in retirement security. I'm
17 interested in the well-funded plans. I'm interested in
18 retirement income.
19 MINORITY CHAIRMAN COHEN: Do you support greater
20 State funding for pension plans as it now stands?
21 DR. MCGEE: Without a doubt the State of
22 Pennsylvania needs to put more money into their pension
23 plan. They cannot ignore the unfunded liability, the money
24 that is owed to public workers through their pension plan.
25 MINORITY CHAIRMAN COHEN: What is your feeling 95
1 about TIAA-CREF? Does TIAA-CREF meet your criteria?
2 DR. MCGEE: Well, you’re asking me about a
3 particular provider of a defined contribution plan. I
4 think that TIAA-CREF does a great job managing defined
5 contribution plans. They have done so for higher Ed for a
6 very long time. I think you had an earlier question about,
7 well, what in government have the opportunity just to
8 reduce contributions over time in defined contribution
9 plans? I think if you look at CREF plans, even through the
10 downturn, what w e ’ve seen is very high contribution rates
11 in government. The empirical results are contributions
12 remain flat because the sponsors of those plans have
13 consistent contributions and they can plan for those
14 contributions.
15 MINORITY CHAIRMAN COHEN: TIAA-CREF is broad
16 management by a single source and it’s not just individual
17 decision-making. Do you support single-source management?
18 DR. MCGEE: I ’m not sure quite what you mean by
19 single-source but there are -
20 MINORITY CHAIRMAN COHEN: I mean -
21 DR. MCGEE: -- a limited number -
22 MINORITY CHAIRMAN COHEN: -- centrally directed,
23 centrally directed management.
24 DR. MCGEE: Yes. I do not recommend that members
25 of a plan have the authority to pick individual stocks or 96
1 trade in Russian currencies in their primary retirement
2 plan. I think that a primary retirement plan should offer
3 members a limited set of well-managed, pooled,
4 professionally managed investment options that are good for
5 them and the defaults need to be set so they’re good and
6 that’s relatively easy to do.
7 MINORITY CHAIRMAN COHEN: And the Lincoln
8 Financial gentleman was worried about the loss of
9 supplemental retirement accounts. If people have two
10 defined contribution plans, his feeling is that a
11 significant number of them will give up the supplemental
12 retirement accounts and therefore lower the retirement
13 security. Do you have any evidence or feelings on that?
14 DR. MCGEE: Yes, I think it entirely depends on
15 the savings rate in the primary plan, the required savings
16 rate in the primary retirement plan. I think it has
17 nothing to do with private management. I think it has
18 nothing to do with things being provided locally. I think
19 it’s all about savings rate.
20 MINORITY CHAIRMAN COHEN: Thank you very much,
21 Mr. Chairman.
22 MAJORITY CHAIRMAN METCALFE: Thank you,
23 Representative Cohen.
24 Representative Roae.
25 REPRESENTATIVE ROAE: Thank you, Mr. Chairman. 97
1 All companies want to earn a profit. Companies
2 usually make decisions to do things in a more cost-
3 effective way, so over the years almost all the Fortune 500
4 companies have switched from a defined benefit plan to a
5 defined contribution plan for new employees. Most smaller
6 companies have done the same thing. Have you done any
7 research? Are you familiar with any Fortune 500 companies
8 that have switched back to defined benefit pension plan
9 because they found transition costs going to a defined
10 contribution plan were too much? Do you have any knowledge
11 of small businesses cancelling their 401(k) plan and moving
12 to a defined benefit pen plan?
13 DR. MCGEE: I have no knowledge of a private
14 sector employer that has moved from defined contribution to
15 defined benefit and I also have no knowledge of any
16 transition costs that have been experienced in the public
17 or the private sector.
18 REPRESENTATIVE ROAE: I’ve tried to research and
19 I haven’t been able to find anything. I just wondered if
20 you have because it seems like if it’s expensive to switch
21 from a defined benefit to defined contribution plan, it
22 seems like companies would be scrambling to go back to the
23 good old days when they had a lower-cost defined benefit
24 plan. Well, from what I understand and I guess from you’ve
25 seen that that’s not the case, so I think that’s almost 98
1 proof that there is no such thing as a high transition
2 cost. Otherwise, companies wouldn’t continue to get rid of
3 defined benefit plans, and companies that already did,
4 they’d be moving back to that plan.
5 DR. MCGEE: Yes, I think that’s accurate. I
6 think to put a finer point on this, I think that one of the
7 big pushes for the private sector moving to defined
8 contribution plans is similar bad behavior that’s happened
9 in the public sector. Through the ’80s and ’90s, corporate
10 raiders viewed overfunding as an asset of the company.
11 They took those assets and used them in merger and
12 acquisitions. Companies underfunded benefits and there was
13 a trend of cut, cut, cut, eliminate.
14 And right now, one of the biggest problems that
15 we face in the private sector is not that there are
16 401(k)’s. That is not the biggest problem. One of the
17 biggest problems is people are under-saving. Contribution
18 rates just aren’t high enough. That’s going to be a
19 problem in your current Act 120 plan. Contribution rates,
20 3 percent is not enough to save for retirement. There is
21 no magic formula, no magic black box that you could put 3
22 percent in and expect a reasonable retirement out.
23 MAJORITY CHAIRMAN METCALFE: Representative Roae,
24 thank you for your couple of questions. We have one last
25 question. Representative DeLissio will be our final 99
1 question.
2 REPRESENTATIVE DELISSIO: Thank you,
3 Mr. Chairman.
4 Dr. McGee, you talked about the ability to design
5 a plan. We’ve heard some discussion about avoiding an
6 unfunded liability as a result of defined contribution
7 because of almost sort of a forced contribution. Could
8 that same design feature not be built into a designed
9 benefit plan?
10 DR. MCGEE: So ask your question again real
11 quick, please.
12 REPRESENTATIVE DELISSIO: Could the plan be
13 designed to ensure that under a defined benefit plan that
14 that contribution also had to be made? I heard a question
15 about defined contribution ensures to this high degree that
16 the employer can’t take a pass when in fact those
17 contributions can be deferred and delayed. So they can be
18 deferred and delayed; it may not be able to build up to the
19 same unfunded liability as we have currently but I just
20 want to understand whether a defined pension plan, since we
21 are able to design it, we could design in a feature that
22 ensures that that contribution occurs.
23 DR. MCGEE: I think because these are State-
24 sponsored plans that it’s very hard for you to bind the
25 hands of future legislatures. So while you can decide to 100
1 make appropriate payments, it is very difficult for you to
2 require future legislatures to make appropriate payments.
3 And that's what we've seen in Pennsylvania. There is a
4 pushing out of this cliff payment over time with the
5 assumption by past legislatures that future legislatures
6 would deal with it -
7 REPRESENTATIVE DELISSIO: So how does it —
8 DR. MCGEE: -- and it will be better in the
9 future. I think you can have a defined benefit plan -- a
10 cash balance is a defined benefit plan -- that can be
11 managed well. I think a final average salary plan is just
12 not very good for workers. It's back-loaded. I think it
13 is complex, hard to manage. I think we've seen that play
14 out in government-sponsored plans and in the private
15 sector. And I think the consequences, we've talked about
16 this being a defined benefit that workers get no matter
17 what. I think that misrepresents the point.
18 I think if you look at the trajectory in
19 Pennsylvania, we've seen one of the defined benefit plan
20 benefits being enriched and then slashed. Current workers
21 coming on the job today have pretty terrible benefits.
22 They currently have terrible benefits because the State did
23 not pay for the benefit increases that they made in the
24 past.
25 So there is not this stability in defined benefit 101
1 plans that doesn’t exist in the defined contribution world.
2 You can design any plan to meet retirement needs. My case
3 is that defined contribution and cash balance are simpler
4 and easier to manage.
5 REPRESENTATIVE DELISSIO: Thank you,
6 Mr. Chairman.
7 MAJORITY CHAIRMAN METCALFE: Thank you,
8 Representative DeLissio.
9 Thank you, Dr. McGee, for your testimony today.
10 DR. MCGEE: Thank you.
11 MAJORITY CHAIRMAN METCALFE: We appreciate it.
12 Our next testifier is Mr. Joe Nichols, Senior
13 Director, FTI Consulting. You can begin when you’re ready,
14 sir.
15 MR. NICHOLS: Thank you. Good morning, Chairs
16 Metcalfe and Cohen and Members of the House Standing
17 Committee on State Government. Thank you for taking the
18 time for my testimony.
19 My name is Joe Nichols. I ’m a pension actuary
20 with FTI Consulting. FTI Consulting provides independent,
21 innovative advice to governments and businesses globally.
22 I’m also President-elect of the American Society of Pension
23 Professionals and Actuaries, a sister organization with
24 NTSA, part of the American Retirement Association.
25 Opinions stated in my testimony today are mine 102
1 and not those of FTI Consulting or ASPPA.
2 I wanted to be a pension actuary at 16. I got my
3 actuarial degree in 1988 and started consulting about
4 pensions to government entities in 1990. My public pension
5 experience covers a wide range of plans, including small
6 municipalities up to State funds and through many economic
7 cycles.
8 In all my experiences, there’s one common element
9 that separates sustainable pension plans from those with
10 eventual cash flow issues: consistent funding. There are
11 other factors that help plans succeed: good governance,
12 affordable benefits, and efficient expenses, to name a few.
13 However, rarely do any of these other factors solely affect
14 the ability of the plan sponsor to pay promised benefits
15 like consistent funding.
16 There have been multiple studies regarding
17 Pennsylvania retirement systems over the last decade. All
18 of these studies were precipitated by funding issues.
19 However, instead of squarely tackling the funding issues,
20 plan design changes were wrapped into projections that
21 complicated the discussions and established funding collars
22 that pushed contributions down the road again and again.
23 To make matters even worse, the lower funding
24 plan was not followed. In fact, over the last 12 years,
25 Pennsylvania has only contributed 41 percent of the 103
1 suggested actuarial contribution amounts. Only New Jersey
2 has contributed a lesser percentage than Pennsylvania over
3 the last decade.
4 Pennsylvania’s dismal funding history is nothing
5 new to this committee. I repeat it here because funding is
6 the topic of my testimony, not plan design, not budget, not
7 even expenses; it is funding. Lack of adequate funding is
8 the single largest contributor to the growth of the
9 unfunded liabilities. The growth in unfunded liabilities
10 leads to credit downgrades, which leads to increased cost
11 of borrowing.
12 I’ve heard from people close to Pennsylvania
13 policy circles that virtually everyone agrees that benefits
14 accrued to date by participants in SERS and PSERS cannot be
15 decreased. Since the current underfunding is based on
16 benefits accrued to date, the focus of current pension
17 reform must be primarily on funding.
18 The other issues of pension reform -- most
19 notably, how future benefits are to be earned, mortality
20 risk, investment risk -- should be separate issues and not
21 used as leverage that keeps "kicking the can down the
22 road.”
23 In the last published valuations SERS and PSERS
24 have total unfunded liabilities of approximately $53
25 billion. If amortized over 30 years as a level dollar 104
1 amount, the annual payment would be just over $4 billion.
2 Any contribution short of this amount is continuing the
3 practice of passing the responsibility on.
4 Many will argue that using a level dollar
5 approach puts too much pressure on the current taxpayers.
6 However, since over $15 billion in employer contributions
7 have been skipped in the last few years, the sooner the
8 unfunded liabilities are paid off, the less that gets
9 unfairly pushed to future generations.
10 So my suggestion is to first tackle how to pay
11 for the benefits earned to date. After that is tackled,
12 then worry about the more polarizing issues that affect
13 benefits to be earned in the future, like whether the
14 system’s future structure should be DB, DC, or a hybrid.
15 So far in this year’s debate a couple of
16 suggestions have surfaced about how to fix the funding
17 issue: pension obligation bonds and a move to passive
18 investing. I ’m neither a bond nor an investment expert but
19 I ’ve spoken to both so I have an opinion on these issues.
20 In regards to the pension obligation bonds, the current
21 interest rate environment is definitely advantageous to the
22 borrower.
23 However, there is concern regarding timing and
24 how any potential shift in the current environment might
25 eliminate the expected savings. Even if a POB transaction 105
1 were to go exactly as planned, and assuming a 4.5 percent
2 arbitrage in interest rates, the first year savings would
3 generate approximately $135 million per year before any
4 transaction fees. Also note that many bond rating experts
5 tend to be agnostic in regards to using POBs to fund
6 pension plans, meaning it typically has no effect on the
7 plan sponsor’s credit rating.
8 The second suggestion is to switch investments in
9 both plans from using active to passive management. There
10 are very fervent arguments on both sides of this
11 discussion, so any potential net expense savings are less
12 determinable versus the POB discussion. However, those
13 that favor passive investment management do admit that it’s
14 not prudent to invest in just one asset class or style.
15 Asset allocation is still critically important.
16 As a result, the savings cannot be determined by just
17 comparing fees within one asset class or style. Fees in
18 passive funds also vary for the different asset classes.
19 Even if the purchase of POBs and a move to
20 passive investing worked exactly as planned, the amount of
21 additional funds only make up 10 percent of the
22 contributions necessary to fully fund the unfunded
23 liability. In an order of magnitude, the impact of funding
24 far exceeds the impact of the next four items combined:
25 future benefit accruals, investment returns and expenses, 106
1 cost savings, and plan design for future employees.
2 In closing, I would like to thank the Committee
3 again for listening to my testimony. Actuaries are many
4 times blamed for presenting complex, hard-to-understand
5 solutions. Today, mine is easy. With the assumption that
6 accrued benefits cannot be changed, there is no amount of
7 plan design -- whether DB, DC, or hybrid -- that will lower
8 the contributions needed to pay off the unfunded
9 liabilities. A funding policy that stops pushing
10 responsibility to future taxpayers is the only fiscally
11 responsible solution. All other pension reform discussions
12 are just noise until the funding of the benefits already
13 earned are set and followed.
14 Thank you.
15 MAJORITY CHAIRMAN METCALFE: Thank you, sir.
16 Members? Representative Daley.
17 REPRESENTATIVE DALEY: Thank you, Mr. Chairman.
18 MAJORITY CHAIRMAN METCALFE: Thank you. I should
19 use a first name.
20 REPRESENTATIVE DALEY: Pardon me?
21 MAJORITY CHAIRMAN METCALFE: Maybe I should just
22 use the first name.
23 REPRESENTATIVE DALEY: You know what? I just
24 didn't hear you. You know what? My ears could be clogged
25 up. I have a horrible cold, which -- 107
1 MAJORITY CHAIRMAN METCALFE: I know. I heard you
2 yesterday.
3 REPRESENTATIVE DALEY: So thank you.
4 Mr. Nichols, thank you for your testimony.
5 The way I ’m understanding what you’re saying is
6 something I ’ve been saying as I learn more about the
7 pension problem. I ’m in my second term as a State Rep and
8 so and I ’m on the Appropriations Committee so w e ’ve had
9 lots and lots of discussions about this issue. But we look
10 through a chart of PSERS and why they have debt and benefit
11 enhancements account for 25 percent of it, employer funding
12 deferrals, 45 percent, so that’s 70 percent which are
13 policy decisions made by the General Assembly. And then 29
14 percent is investment underperformance, which some of that
15 could be accounted to the fact that there were employer
16 funding deferrals I would think. So we say 70 percent is
17 policy.
18 And what I ’m hearing you saying is that the most
19 important thing that we need to do is to continue to pay
20 down the unfunded liability and that any discussion about
21 what kind of pension plan we should have in the future we
22 can’t really have it until we actually resolve the issue of
23 the unfunded liability. Do you agree with what I ’m saying?
24 MR. NICHOLS: I agree that the funding of the
25 unfunded should be the first priority and separate, and a 108
1 separate discussion needs to be made about what you want to
2 do with future contributions.
3 REPRESENTATIVE DALEY: Exactly, because every
4 time we start to talk about the two issues together, then
5 it’s what we should or shouldn’t do, but really the main
6 point is that we need to pay our debt. It’s like if you
7 had a credit card and you weren’t making a payment on it,
8 at some point you have to face the fact that you’ve got a
9 debt and you have to make your payment. And you may decide
10 that you want to do this or you want to do that in the
11 meantime, but as long as you have the credit card debt or
12 the pension debt, you’re kind of precluded from having a
13 really solid conversation about -- like you can’t mix the
14 two things together.
15 MR. NICHOLS: Right. I mean it would be like a
16 family having the credit card debt and having to pay it and
17 arguing whether they need a 36-inch TV or a 72-inch TV.
18 REPRESENTATIVE DALEY: Exactly.
19 MR. NICHOLS: And by that argument happening, not
20 paying off the credit card.
21 REPRESENTATIVE DALEY: Exactly. Thank you.
22 MAJORITY CHAIRMAN METCALFE: Thank you,
23 Representative Daley.
24 Representative Hill.
25 REPRESENTATIVE HILL: Thank you, Mr. Chairman. 109
1 Mr. Nichols, thank you for being here today, and
2 I commend you for recognizing that you wanted to be an
3 actuary at 16. That’s really quite something.
4 You made a statement, and to sort of follow up on
5 what Representative Daley was saying that we need to stop
6 pushing this responsibility down the road to future
7 taxpayers. I grew up near the water, spent a lot of time
8 on boats and it seems to me that if you take your boat out
9 and it starts taking on water, the first thing you need to
10 do is plug the boat, right? So approximately 30 percent of
11 existing school district workforce, educators, employees
12 are in that tail end of the Baby Boomer Generation and
13 they’re going to retire, so school districts will hire more
14 people. And those people, if we don’t put the plug in the
15 boat, are going to be put into this system that is
16 underfunded and failing.
17 So are you certain that what we really need to do
18 is just address that unfunded liability or do we need to
19 take a two-prong approach? Address the unfunded liability,
20 put the plug in the boat, and make that transition to a
21 system that is not failing?
22 MR. NICHOLS: We could have three days of
23 hearings on DB versus DC and you hear a lot of anecdotal
24 evidence on both sides. There’s an action and reaction for
25 every single argument. And what I ’m saying is we need to 110
1 separate them. I ’m not saying that you shouldn’t decide
2 where you want to be going forward. All I ’m saying is that
3 you have to pay off that unfunded.
4 Part of doing it together is the reason we have
5 a two-tiered approach and that the new employees are paying
6 more for the unfunded than the current employees because
7 that was a way to pay for the unfunded was to lower the
8 benefits and increase employee contributions. That’s an
9 example of why it shouldn’t be done together.
10 MAJORITY CHAIRMAN METCALFE: Thank you,
11 Representative Hill.
12 Representative Cohen.
13 MINORITY CHAIRMAN COHEN: Thank you,
14 Mr. Chairman.
15 Mr. Nichols, I deeply appreciate your very clear
16 statement that the important thing is to pay off the
17 unfunded liability. I think other people agree with that
18 but you’ve been the most clear of all the witnesses w e ’ve
19 had and one of the clearest spokespersons generally on the
20 subject. Do you have any suggestions for us as to how we
21 pay off the unfunded liability?
22 MR. NICHOLS: No, fortunately that is not an
23 actuarial opinion.
24 MINORITY CHAIRMAN COHEN: Okay.
25 MAJORITY CHAIRMAN METCALFE: Not even starting at 111
1 16.
2 MINORITY CHAIRMAN COHEN: The actuarial
3 profession I think is limited -
4 MR. NICHOLS: Yes.
5 MINORITY CHAIRMAN COHEN: -- including that
6 within its discipline.
7 MR. NICHOLS: We may have some economists on
8 staff that might have some opinions on that but not the
9 actuaries.
10 MINORITY CHAIRMAN COHEN: I would like to know
11 what other States have done. How many States have taken
12 your general formula, the first thing we have to focus on
13 is paying off the unfunded liability? How many States have
14 focused on that as opposed to focusing on future benefits?
15 MR. NICHOLS: Well, I guess in a roundabout way
16 the ones that have approached it that way are the ones that
17 didn’t change their benefits and just assume the higher
18 contribution rate. Beyond that, the ones that have made
19 changes, I think the majority of them, if not all of them,
20 have gone the approach of the two-tiered benefits.
21 MINORITY CHAIRMAN COHEN: And the two-tiered
22 benefit system is inadequate to pay off the debt, and
23 Mr. Arnold suggested earlier that it’s also inadequate for
24 retirement security. Do you agree with Mr. Arnold that the
25 second tier is inadequate for retirement security? 112
1 MR. NICHOLS: Well, I agree that it’s a lower
2 benefit. I think that’s a different discussion as to
3 whether it’s inadequate. I would like to clear up that the
4 employees are getting more than a 3 percent benefit.
5 That’s what they’re getting from the employer. I think
6 they’re getting about a 10 percent when put with employee
7 contributions.
8 MINORITY CHAIRMAN COHEN: Yes, I agree with you.
9 MAJORITY CHAIRMAN METCALFE: Okay. Thank you.
10 MINORITY CHAIRMAN COHEN: I think that was a
11 misstatement.
12 MAJORITY CHAIRMAN METCALFE: Thank you,
13 Representative Cohen.
14 I think you were referencing Dr. McGee from the
15 Laura & John Arnold Foundation was who he was referencing
16 previously just to -
17 MINORITY CHAIRMAN COHEN: I made a misstatement
18 referring to -
19 MAJORITY CHAIRMAN METCALFE: -- correct the
20 record -
21 MINORITY CHAIRMAN COHEN: — Mr. Arnold, yes.
22 MAJORITY CHAIRMAN METCALFE: -- on whose
23 testimony that was we were talking about.
24 MINORITY CHAIRMAN COHEN: That’s correct.
25 MAJORITY CHAIRMAN METCALFE: Thank you, sir, for 113
1 your testimony today. We appreciate it being very clear.
2 MR. NICHOLS: Okay. Thank you.
3 MAJORITY CHAIRMAN METCALFE: Thank you.
4 Our final testifier will be Gary A. Wagner,
5 Ph.D., Professor of Economics from Old Dominion University.
6 You can begin when ready, Doctor.
7 DR. WAGNER: Thank you.
8 MAJORITY CHAIRMAN METCALFE: Thank you for
9 joining us today.
10 DR. WAGNER: Yes, thank you very much. I
11 appreciate it.
12 Chairman Metcalfe, Representative Cohen,
13 distinguished Members of the Committee, thank you for
14 inviting me to testify on pension reform in the
15 Commonwealth.
16 As you heard, I'm a Professor of Economics at Old
17 Dominion University. A lot of my research today, my
18 testimony will be based on a forthcoming paper that will be
19 published by the Mercatus Center at George Mason
20 University. It's also coauthored with Dr. Erick Elder, a
21 Professor of Economics at the University of Arkansas.
22 Pension reform is an extremely important topic
23 for the fiscal health of the Commonwealth and for the more
24 than 700,000 active and retired members of PSERS and SERS.
25 I certainly commend you for your willingness to address 114
1 these challenges.
2 My objective this morning is to try to assist you
3 in understanding the tradeoffs that are involved in any
4 pension reform decision so that you can make the best
5 choice for the Commonwealth in view of the fact that the
6 current unfunded liability in PSERS and SERS is a
7 staggering $135,000 per active member. That gap needs to
8 be closed. But the issue of the benefits for future
9 employees and the treatment of future taxpayers need to be
10 addressed as well.
11 The most common metric for gauging the health of
12 a pension plan is the actuarial funding ratio or sometimes
13 called funded ratio. An easy way to think about this
14 funding ratio is the ratio of 100 percent means that if the
15 actuarial assumptions turn out to be true, then the plan
16 could play all of the promised benefits and would have zero
17 dollars remaining at the end of your time horizon.
18 The current funding situation for PSERS and SERS
19 is at a near-critical stage. Based on each plan’s current
20 funding ratio and the distribution of investment returns,
21 the plans are only guaranteed with 100 percent certainty to
22 be able to pay benefits that have already been earned, not
23 new benefits, benefits that have already been earned for
24 only the next five years. By 2030, which is just 15 years
25 from now, the probability that each plan will be able to 115
1 meet their promised obligations, again, the benefits that
2 have already been earned, drops to 31 percent in PSERS and
3 just 16 percent in SERS.
4 So the most important point that I can make to
5 you today is that while a pension’s funding ratio gives you
6 some information about the solvency of a plan, it does not
7 measure what is really the most important piece of
8 information, which is what is the probability the plan will
9 be able to make its promised benefit payments without
10 additional contributions going forward?
11 Even if we were to assume that PSERS and SERS
12 were 100 percent funded today in an actuarial sense,
13 there’s only a 42 percent probability the funds would be
14 able to make their promised benefit payments going forward
15 over the next 65 years without requiring some additional
16 contribution. The main reason is the volatility in
17 investment returns, what’s sometimes called "investment
18 risk” and the effect it has on the asset side of the
19 ledger.
20 So just as a real simple example, from the 2013
21 SERS CAFR, the plan had investment returns of 24.3 percent
22 in 2003, losses of 28.7 percent in 2008. More recently,
23 the returns were 2.7 percent in 2011 and 13.6 percent in
24 2013. So in an 11-year period you can see the volatility
25 in asset returns was more than 50 percent. This is pretty 116
1 significant because 70 percent of the plan’s funding comes
2 from investment returns.
3 So given that the pension plans are forward-
4 looking and that investment returns are uncertain, the
5 really correct way to look at the funding issue is in a
6 probabilistic sense. Standard pension accounting, GASB
7 rules, and actuaries do not take into account this
8 investment risk when looking at pension funding.
9 Once you take that investment risk into account,
10 the funding calculus changes quite dramatically, and
11 unfortunately, not in the Commonwealth’s favor. For
12 example, if the Commonwealth wanted to be 90 percent
13 certain that you could make your promised benefit payments
14 going forward, PSERS and SERS would need actuarial funding
15 ratios of 180 percent, roughly three times where they are
16 now. In dollar terms, that amounts to having $150 billion
17 additional today in order to make the benefit payments that
18 have already been earned going forward. If you simply
19 wanted a coin flip, a 50/50 chance to be certain that you
20 can make your already-accrued benefit payments going
21 forward, the Commonwealth needs $65 billion additional
22 today in order to do that.
23 So of course if the investment returns were to be
24 significantly higher than normal for a significant period
25 of time, this could reduce the size of the funding 117
1 shortfall. However, based on historical returns, PSERS and
2 SERS are imposing a considerable risk on future taxpayers
3 and future employees, sometimes referred to as a contingent
4 liability, because of the uncertainty in investment returns
5 over the long-term.
6 It may be natural to simply think you could shift
7 to a safer investment portfolio to deal with some of this.
8 The problem with such an approach is that moving to a safer
9 investment portfolio would raise the likelihood that you
10 could make your promised payments in the near-term and it
11 raises the likelihood that you would fail in the long-term
12 because you’re assets are not growing at the same rate as
13 your liabilities.
14 So unfortunately, there is no way for the
15 Commonwealth to avoid closing the funding gap on the
16 benefits that have already been earned. The only true
17 issues are when do you close the gap and how do you close
18 the gap? Do you address this by increasing employer
19 contributions, the Commonwealth contributions, or some
20 combination of approaches?
21 While the current funding shortfall cannot be
22 avoided, even if the defined benefit plans are closed, that
23 shortfall cannot be avoided. The Commonwealth can
24 eliminate the possibility of this investment risk going
25 forward protecting future taxpayers and future employees by 118
1 moving employees into a defined contribution plan.
2 Another considerable advantage to a defined
3 contribution plan is that short-term and long-term
4 employees in those plans are treated much more equitably
5 than in the current defined benefit plans.
6 And finally, I would encourage you to keep in
7 mind the broader picture when considering reforms. The
8 Commonwealth’s bond ratings have been lowered twice by
9 Moody’s and twice by Fitch since 2012 with pension funding
10 cited as a contributing factor. Given the volume of debt
11 that the Commonwealth issues and has outstanding, this is
12 not a trivial matter.
13 The Commonwealth currently has roughly $47
14 billion in outstanding debt. If one assumes that the
15 borrowing cost for the Commonwealth rise by 25 basis
16 points, so a quarter of a percentage point due to the
17 credit rating downgrades, that’s 1/3 of the estimated
18 increase that Illinois has already experienced. This will
19 cost the Commonwealth an additional $120 million per year
20 in extra interest costs alone once all this debt is rolled
21 over.
22 Thank you for your time. I hope you find my
23 testimony to be helpful in deliberations and I ’d be happy
24 to try to answer any questions you have.
25 MAJORITY CHAIRMAN METCALFE: Thank you, 119
1 Dr. Wagner.
2 Questions from Members?
3 Representative Roae.
4 REPRESENTATIVE ROAE: Thank you, Mr. Chairman.
5 Thank you for your testimony. My question is our
6 multiplier in the Pennsylvania PSERS and SERS plans is 2.5
7 percent for most employees. Is that normal or is that high
8 or is that low compared to what the multiplier is for
9 future service for a lot of different plans that you’ve
10 cited, that you’ve seen?
11 And just for the sake of argument, if we lowered
12 the multiplier to 2 percent for future years of service for
13 current employees rather than the current 2.5 percent that
14 got changed in 2001, what kind of impact would that make on
15 our unfunded liability?
16 DR. WAGNER: Sure. In terms of the funding, that
17 multiplier of 2 to 2.5 percent is normal for most of the
18 plans. I ’m not up to date on what every particular State
19 has done, especially in the last couple years. One of the
20 things I can tell you, if you were to lower that multiplier
21 to 2 percent or, say, increase the State’s contributions,
22 certainly those additional contributions and a lower
23 multiplier could help improve the funding ratio.
24 But the broader point I ’m trying to make to you
25 today is that even if you had an actuarial funding ratio of 120
1 100 percent, there's still roughly a 50/50 chance that
2 you're going to need additional contributions down the road
3 because of investment returns and the volatility that they
4 have. So a lot of the fixes and the reforms that you hear
5 being talked about are really changes that, yes, on the
6 surface can improve the funding ratio but they're never
7 going to eliminate that investment risk from future
8 taxpayers and future workers. You're simply contributing
9 to a problem that's just going to grow over time.
10 REPRESENTATIVE ROAE: All right. Thank you.
11 MAJORITY CHAIRMAN METCALFE: Thank you,
12 Representative Roae.
13 Representative Daley.
14 REPRESENTATIVE DALEY: Thanks, Mr. Chairman.
15 So I just want to go to the bond ratings that
16 were lowered twice by the rating agencies. It's my
17 understanding that the bond rating was lowered because
18 Pennsylvania was not making its payments to the pension
19 fund, which were policy decisions, and not because of any
20 inherent issue in the pension fund. And I think that
21 that's an important difference.
22 DR. WAGNER: Yes, I think that's correct. My
23 reading of Moody's and Fitch's statements suggest that's
24 also the case. I mean there were some policy decisions
25 made -- Act 9, Act 40 -- which really contributed to some 121
1 of the underfunding that you’re experiencing now.
2 But the point that I was trying to make with the
3 bond ratings is that that’s a cost that people often don’t
4 consider in that if you don’t somehow shore up the pension
5 funding, this is an additional $120 million that the
6 Commonwealth will incur every year for essentially poor
7 fiscal management.
8 REPRESENTATIVE DALEY: Well, absolutely. And I ’m
9 in favor of shoring it up and reducing the unfunded
10 liability.
11 Thank you.
12 MAJORITY CHAIRMAN METCALFE: Thank you,
13 Representative Daley.
14 Representative Truitt.
15 REPRESENTATIVE TRUITT: Thank you, Mr. Chairman,
16 and thank you, Professor Wagner, for your testimony.
17 I want to ask a question about how fast we should
18 be paying this back. I ’ve looked at this from the
19 perspective that the folks who benefitted by underfunding
20 the system were the citizens of this Commonwealth over the
21 last 10, maybe 12 years. We benefitted in other areas by
22 putting less money into the pension fund, so I see it as a
23 moral imperative if you will to pay it back as rapidly as
24 possible so that the same people who benefitted from the
25 underfunding are the ones who pay it back. 122
1 What do you think is a reasonable amortization
2 period for repaying this debt and what’s the basis for
3 that?
4 DR. WAGNER: Well, let me rephrase your question
5 a little bit if I can. I think what you’re asking or at
6 least what I ’m interpreting is what’s the greatest
7 likelihood of being able to make these payments going
8 forward and keep the promises that w e ’ve already made? So
9 I think it’s a little bit different. One of the first
10 things you want to make sure that you’re doing is making
11 the annual required contributions so that you’re at least
12 funding the benefits that have already been earned 100
13 percent.
14 So if the benefits that have been earned this
15 year, for example, if you underfund those, you are simply
16 compounding the problem. You’re making the probability
17 that you’re going to be able to make these payments going
18 forward drop even faster. So as a first step you need to
19 make sure that you are funding the benefits that have
20 already been earned, meeting that required contribution.
21 Once you meet that required contribution, then you can talk
22 about how to shore up and pay some of these unfunded
23 liabilities.
24 I think the real challenge for you is you should
25 do so as quickly as possible. It’s certainly going to help 123
1 the State’s bond rating. But I think, again, getting the
2 funding ratio to 100 percent doesn’t solve any long-term
3 problem in that you’re still likely to require additional
4 contributions at some point down the road.
5 REPRESENTATIVE TRUITT: Very good. Thank you.
6 Thank you, Mr. Chairman.
7 MAJORITY CHAIRMAN METCALFE: Thank you,
8 Representative Truitt.
9 Any other Members?
10 Representative DeLissio.
11 REPRESENTATIVE DELISSIO: Dr. Wagner, I just have
12 a question when you talk about the long-term. Your numbers
13 here reflect a period of roughly 10 or 12 years. These
14 funds were started at the beginning of the last century.
15 Government is I think reasonably expected to be in
16 existence in perpetuity. So when you talk about that
17 concern about the long-term, have you looked at those rates
18 of return that go back to the beginning and take that truly
19 long view. Ten years is not a long view in the history of
20 an entity such as a government that has a couple of hundred
21 years under its belt.
22 DR. WAGNER: Sure. I haven’t looked at funding
23 ratios that long in the past. I know the actuarial funding
24 ratio that you have today, the way that those numbers are
25 calculated, they look at the assets you have on hand today 124
1 and the benefits that have already been earned on hand. So
2 in other words, the view that you’re just describing is not
3 how actuaries even look at the pensions.
4 So the way that we were looking at the pensions
5 is similar to the actuaries. Based on the assets you have
6 today and the benefits that have already been earned,
7 what’s the likelihood that these assets can make those
8 payments going forward?
9 Now, what you’re describing is a situation I
10 think where you’re essentially taking dollars from current
11 employees to pay out future retirees. So you’re funding a
12 system on the backs of current workers. In other words,
13 it’s a rotating scheme where the retirement benefits today
14 are being contributed by the workers today because you
15 don’t have sufficient assets on hand to pay out the
16 benefits that you promised.
17 MAJORITY CHAIRMAN METCALFE: Thank you,
18 Representative DeLissio.
19 Representative Kampf.
20 REPRESENTATIVE KAMPF: Thank you, Mr. Chairman.
21 I did hear a comment earlier, which was we really
22 need to focus on paying the unfunded liability, which I
23 agree with, but it was characterized as really to have to
24 pay down the credit card. It seems to me that this family
25 who’s paying down their credit card could also at the same 125
1 time, simultaneously, make a decision to cut up all the
2 rest of the credit cards that are in the drawer or coming
3 in the mailbox.
4 Dr. Wagner, I see there’s a paper from Dr. Biggs
5 in here. He was not able to make it, as I understand it.
6 Could you just briefly tell the Committee what that is?
7 DR. WAGNER: Sure. Dr. Biggs’ work addressed the
8 issue of transition costs in closing a defined benefit plan
9 and moving to a defined contribution plan. His research
10 shows that at no point in time do the liabilities increase
11 if you close a defined benefit plan because essentially
12 what happens is you are eliminating these highest long-term
13 liabilities that come from the youngest workers. And so
14 certainly the duration of the liability shortens a little
15 bit and your investment portfolio has to change slightly,
16 but this occurs gradually over a significant period of
17 time.
18 I think the broader issue that I hear in that
19 question is there’s no reason that you couldn't start a
20 defined contribution plan for new employees while still
21 closing out a defined benefit plan that you have if that’s
22 the option that you need to consider.
23 The issue is with a defined benefit plan that you
24 have, you’re going to incur those costs at some point in
25 time. It’s not a question of "if"; it’s a question of 126
1 "when." So you could incur those costs sooner or you could
2 incur those costs later. That's your decision to make.
3 MAJORITY CHAIRMAN METCALFE: Thank you,
4 Representative Kampf.
5 Our final question I believe from seeing Members
6 -- Representative Pashinski, are you going to have a final
7 question?
8 REPRESENTATIVE PASHINSKI: I think —
9 MAJORITY CHAIRMAN METCALFE: We're going to go to
10 Representative McCarter first but we're kind of finalizing
11 the list. So Representative Pashinski will be the final
12 question I believe after Representative McCarter.
13 REPRESENTATIVE MCCARTER: Thank you very much,
14 Mr. Chairman.
15 I appreciate your testimony, Dr. Wagner, and if
16 we could go back and look at the -- and I don't know if you
17 have or not -- the pension crisis that we had back in the
18 early 1980s when in fact the system was again facing a
19 large unfunded position and the funding of both PSERS and
20 SERS had dropped considerably down into the 50s at that
21 particular point, 50 percent.
22 If you used your assumptions that you used at
23 this point looking forward at that particular time, would
24 you have said the same thing and knowing the outcome as we
25 do and the fact that the funds became 123 percent funded or 127
1 more by 1999?
2 DR. WAGNER: Sure.
3 REPRESENTATIVE MCCARTER: I mean what is the
4 difference today that you’re seeing versus what we saw in
5 the future so that the outcome was only 50/50? I mean that
6 normally I think is the assumption, too, even if we take
7 for PSERS and SERS that they assume that the 7.5 is a 50/50
8 ratio in terms of what happens. So I ’m having trouble
9 understanding that. So if you can use the history to
10 explain how you’re looking out to the future.
11 DR. WAGNER: I mean just what you said makes a
12 lot of sense with PSERS looking at it as a 50/50. I don’t
13 know the specifics of the early ’80s. I don’t know the
14 specifics of the early ’80s. I can tell you that one of
15 the things that we saw through the economy from 1991
16 through 2001 was the longest continuous period of economic
17 growth in U.S. history. So -
18 REPRESENTATIVE MCCARTER: Only second to -
19 DR. WAGNER: -- through the 1960s -
20 REPRESENTATIVE MCCARTER: -- actually second
21 being the current on that’s taking place.
22 DR. WAGNER: No. Well, I mean in terms of just
23 the U.S. economy. So we had a period in the 1960s where we
24 had a significant period of growth, from 1991 to 2001 we
25 had 10 consecutive years of economic growth, longest in 128
1 U.S. history, which had a significant effect on the stock
2 market. So I think you saw very much higher-than-average
3 returns in probably PSERS and SERS during that time. I ’d
4 have to go back and check the numbers.
5 I think what we looked at is the historical
6 returns on investment, what’s likely to happen going
7 forward. Certainly, there’s a 42 percent chance your
8 pension could be way overfunded in the future but there’s a
9 58 percent chance it’s going to be underfunded. And a lot
10 of that is just the investment risk. So the main point
11 that at least when I think about trying to get you to
12 consider is that a defined benefit plan, any type of
13 defined benefit plan has this inherent investment risk that
14 you’re imposing on future taxpayers and future workers. A
15 defined contribution plan does not carry this inherent
16 investment risk.
17 REPRESENTATIVE MCCARTER: Thank you.
18 MAJORITY CHAIRMAN METCALFE: Representative
19 Pashinski.
20 REPRESENTATIVE PASHINSKI: Thank you,
21 Mr. Chairman.
22 I hope this is a good question since this is the
23 last one.
24 MAJORITY CHAIRMAN METCALFE: For the good final
25 question, as interpreted by you, final interpreted by me. 129
1 Thank you.
2 REPRESENTATIVE PASHINSKI: And thank you. And
3 thank you very much for your testimony.
4 Obviously, w e ’re all concerned about this issue
5 very much. When we talk about transitioning to a defined
6 contribution, if we were to do that, the actuarial note I
7 thought was 40 billion because you have no money coming
8 into the present defined benefit system. So you’re going
9 to choke that off. It already has an unfunded liability of
10 billions of dollars and yet you say that transition costs
11 aren’t grave? How do you make up that difference in this
12 transition period?
13 DR. WAGNER: I will tell you I did not look at
14 the issue of transition costs. That’s in the written
15 testimony of Dr. Andrew Biggs. So what I tried to do is
16 just illustrate a couple of the major points that he looked
17 at with the transition costs. That’s not an issue that I
18 addressed in my own research. I ’ve heard the $42 billion
19 number; I have not seen that actual report so I don’t know
20 how those numbers were calculated. I ’d be happy to take a
21 look at those and give you my thoughts on that.
22 REPRESENTATIVE PASHINSKI: But it seems to me if
23 w e ’re going to start a new defined contribution, okay,
24 we ’re going to start it. So everybody coming into the
25 system, you’re going to go into that. Now, we have the 130
1 system right now, the defined benefits that’s in the hole X
2 number of billions of dollars and w e ’re going to have no
3 input, no income coming into that whatsoever.
4 DR. WAGNER: Right.
5 REPRESENTATIVE PASHINSKI: So every year it’s
6 going to decline dramatically. So you’re going to have
7 that cost there plus the operation of your -
8 DR. WAGNER: But that’s a cost that you would
9 incur one way or the other. So the fact that your defined
10 benefit plan is underfunded now, if you close the plan, you
11 have to close that funding gap. If you keep the plan
12 open -
13 REPRESENTATIVE PASHINSKI: So the point is you
14 got to pay that?
15 DR. WAGNER: You have to pay that at any point -
16 REPRESENTATIVE PASHINSKI: Okay.
17 DR. WAGNER: -- in time. It’s a question of do
18 you pay it now or do you pay it later. That’s a cost that
19 you’re already going to incur so if you were to think about
20 anything that’s related to the idea of transition costs
21 that people talk about, you should not take into
22 consideration what you’re unfunded liability is because
23 that’s a cost you will bear no matter what. You should
24 look at any additional cost that you may incur as a result
25 of that. 131
1 REPRESENTATIVE PASHINSKI: All right. Fair
2 enough. Fair enough. Thank you, sir.
3 MAJORITY CHAIRMAN METCALFE: Thank you,
4 Representative Pashinski.
5 And thank you, Dr. Wagner, for your very
6 thoughtful testimony.
7 Before the Members take off, I ’d like to, on
8 behalf of the Members as a Committee and myself and
9 Representative Cohen, the Minority Chair, to thank all of
10 our testifiers today for the very thoughtful testimonies,
11 the expertise that was shared. And I had a lot of
12 questions throughout the testimony today. I had a lot of
13 commentary throughout the questioning today and I
14 restrained that for the benefit of the Members to get in as
15 many questions as possible with our limited time that we
16 had with each testifier based on the large number of
17 testifiers, larger than we normally have, and the
18 importance of this topic to Members on both sides of the
19 aisle. And Representative Cohen joined in asking some of
20 those questions so I ’d take the liberty as Chairman here at
21 the end to summarize a couple of thoughts as we part ways
22 here before we enter into a vigorous debate on this issue
23 as legislation is moved through this Committee in the near
24 future.
25 Some of the testimony I think there was a common 132
1 theme to paying off the debt and the unfunded liability.
2 And I think Representative Truitt had talked about the
3 moral obligation, and I agree with that wholeheartedly. I
4 think Members on both sides of the aisle would agree that
5 we have both a moral and a constitutional responsibility to
6 pay off this unfunded liability.
7 I would take it a step further and say that we
8 have a responsibility, not the future generations, and that
9 was another common theme that we saw through some of the
10 testimony from Mr. Dreyfuss and others to say we should
11 look at the period of time that w e ’re paying this off and
12 shorten that down to a 15- to 20-year time frame so that
13 the current generation so to speak is paying that debt off
14 and not creating a situation of generational theft in
15 requiring our children and grandchildren to continue to pay
16 what we should have paid for.
17 And beyond that, the sinking boat analogy that
18 was used by Representative Hill has been used in the past.
19 Remember, Representative Evankovich used it regarding his
20 own boating experience with forgetting to put the plug in
21 his boat. I ’m sure he’ll appreciate that I ’m reminding him
22 of that today, and watching his boat start to sink and
23 having to jump off and put the plug in and find the hole.
24 And then the analogy used with the credit cards,
25 cutting up the additional credit cards, we have an inherent 133
1 flaw in this defined benefit system because it is
2 politically manipulated. This defined benefit system will
3 always be politically manipulated because politicians are
4 the ones responsible for it. So corporate America has
5 moved away from DB plans because it doesn't make sense for
6 their profit margins. We must move away from DB plans
7 because it does not make sense if we're going to try and
8 protect taxpayers and future taxpayers from the damage
9 that's done by a politically manipulated system that's the
10 current defined benefit system.
11 So the defined benefit system is broken. We can
12 fund it. I mean we can make the sacrifices. We can make
13 the contributions and fully fund it again but it doesn't
14 mean future legislators won't continue to enhance benefits
15 when things are looking well like was done back in 2001.
16 It doesn't mean that we won't experience market downturns
17 that the taxpayers are going to be on the hook of dealing
18 with because during the market upturns, legislators decided
19 they're going to put the money elsewhere like was done
20 through several cycles over the years.
21 We watched school districts stop contributing.
22 We watched the State stop contributing, as employers, a
23 very irresponsible decision, while they funded other
24 projects and programs both at the local level in the school
25 districts and at the State level. That money was spent 134
1 elsewhere. It’s gone forever and taxpayers now are being
2 asked to make up the difference.
3 As long as we have a politically manipulated DB
4 plan, taxpayers will always have the wrong end of the stick
5 in this agreement. That’s why it’s important to shift the
6 responsibility to the individual employee and have the
7 State and school district act like responsible employers,
8 give a responsible contribution rate to a defined
9 contribution plan so that every employee has a chance for a
10 good retirement and saving and a responsible way for that
11 retirement.
12 And we need to mandate it. If w e ’re going to
13 switch to defined contribution plan, there has to be
14 mandated rates of investment because if not, w e ’ve seen
15 from the testimony today, that investment won’t occur with
16 those that are young and looking to a bright future and not
17 realizing how quick life goes.
18 So thank you for the Members’ time today. Thank
19 you for our testifiers and for the audience. And w e ’ll
20 look forward to the vigorous debate that will occur. I ’m
21 excited about having that debate because I think the facts
22 are on the side of making a change that’s needed to protect
23 the taxpayers of Pennsylvania.
24 Everyone have a great day. Motion to Adjourn by
25 Representative Dush, seconded by Representative Truitt. 135
1
2
3 136
1 I hereby certify that the foregoing proceedings
2 are a true and accurate transcription produced from audio
3 on the said proceedings and that this is a correct
4 transcript of the same.
5
6
7 Christy Snyder
8 Transcriptionist
9 Diaz Data Services, LLC