Municipal Pensions--the Next Big Crises

Yesterday, I noted an article from the Atlantic about the coming economic crises in Japan. Today, I want to mention this article about the pension crises for local governments.

But there are other policies that have a lasting and devastating impact on the health of cities. That’s currently on sad display as municipalities try to deal with the ticking time bomb of public employee pensions.

State government pensions have dominated the headlines, beginning, as ever, with California. Less well known is the plight of local governments, struggling with the very same problem. There are 220 state pension plans but nearly 3,200 locally administered across the nation, wreaking havoc on municipal budgets already in tatters.

Like many urban renewal plans, generous pensions for a range of city employees were established with the best of intentions, in the context of another era. Awarding pensions – long since been phased out in the private sector and replaced with individual retirement accounts to which employers often contribute over the course of one’s career – was seen as a way of rewarding public service, particularly for salaries that were not competitive with the private sector.

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Municipalities have an even harder time covering monthly pension obligations; most depend primarily on property tax revenue, along with dwindling state aid and limited other tax revenues. And then there is the ongoing post-2008 public finance crisis. Cities are struggling to pay for other things; many have drastically cut back services, from police patrols to keeping streetlights lit. They have laid off current employees as stimulus funding has run out. Some have declared bankruptcy.

The really bad news is in the future, however. Researchers have estimated that the aggregate unfunded liabilities of locally administered pension plans tops $574 billion. In what amounts to some scary reading in the world of public finance, Tracy Gordon and Ilana Fischer at the Brookings Institution and Heather M. Rose at the University of California, Davis, have detailed this unfolding story in a recently published paper, summarized as well by Gordon and Richard F. Dye of the University of Illinois at Chicago in the current issue of Land Lines. The conclusion is that local governments have not set aside enough funds for pension liabilities, and are borrowing heavily and shifting the burden to future taxpayers. On average, pensions consume nearly 20 percent of municipal budgets. But if trends continue, over half of every dollar in tax revenue would go to pensions, and by some estimates in some cases would suck up 75 percent of all tax revenue.

The bottom line of all of this is that governments, the world over, are finally running out of other people's money. Traditionally, during the little time most people had between when poor health forced them to stop working and when they died, "retirees" were supported by close family members--generally their children. Planning for retirement was necessarily an endeavor to have enough children.

The rise of public and private pensions upended this traditional arrangement, creating the typical freeloader problem. Since someone else's children were going to be subsidizing the system, there is a reduced incentive to expend the time, effort, and money to have enough of your own children. Now, however, the ratio of workers to retirees is declining. This is exacerbated in poorly run cities and states because they have driven out their tax base (Detroit comes to mind). So, there is just not enough other people's money to keep the pension ponzi scheme going. While the authors suggest that cities have to honor the pension agreements, I suspect that there will come a time when people rebel against having to pay taxes to a government from which they obtain no benefit. And the people that lose their pensions won't be happy either.