I am halfway through this book and it works as a good primer on the California pension system though the alarm the author seeks to blare is lost on this New Jerseyan. With plans that are 79% funded officially (64% under Moody’s rules) with fairly steady contribution sources from those localities not in bankruptcy Lawrence J. McQuillan first needs to hammer home the 80% Pension Funding Standard Myth before proceeding with his vivisection. No such detour is necessary when discussing a system at a 32.6% funded ratio.
There will be selected excerpts from the book in the next blog but, for now, the sub-chapter on pages 58 through 61 on “The Role Played by Accountants, Actuaries, and Auditors in the Downward Descent’ is basically what this blog is all about so here it is in its entirety:
One group often ignored when assessing the pension crisis is financial-control personnel: the accountants, actuaries, and auditors at the pension funds. They all maintain deniability because the follow “generally accepted practices,” but the story is more complicated than this.
For example, according to CalPERS’s annual report: “The accounting policies used to prepare these financial statements conform to accounting principles generally accepted in the United States.” Moreover: “The basic financial statements are presented in accordance with the guidelines of the Governmental Accounting Standards Board (GASB).
The same deniability comes from CalPERS’s actuaries. The chief actuary Alan Milligan said in the annual report: “The actuarial assumptions and methods used for funding purposes meet the parameters set for disclosures presented in the Financial Section by Governmental Accounting Standards Board….”The same goes for the auditors.
CalPERS’s annual report said its internal Office of Audit Services “performs assurance and consulting work consistent with the Institute of Internal Auditors’ International Standards for the Professional Practice of Internal Auditing.” And the independent external auditor, Macias Gini & O’Connell, LLP, said: “We conducted our audit in accordance with auditing standards generally accepted in the United States of America,” which arc consistent with the standards contained in Government Auditing Standards issued by the Comptroller General of the United States.
To the extent that California’s pension crisis was driven by an inaccurate picture of the extent of the problem, the cause does not appear to be financial-control personnel ignoring generally accepted practices. Rather, the problem is in the practices themselves that result in actuarial estimates that are “smoothed, stretched, averaged, backloaded, and otherwise spread across time,” as described by the New York Times.
The accountants and actuaries followed the “Generally Accepted Accounting Principles” (GAAP) for state and local governments established by the Governmental Accounting Standards Board (GASB). GASB is a nonprofit professional association, not a government agency. Almost all state and local governments produce financial statements according to GASB’s rules. The accountants’ and actuaries’ job of producing accurate financial statements was made more difficult, in fact, by such things as pension spiking, which injects greater uncertainty into pension calculations. But they appear to have followed accepted practices.
The true culprit was GASB’s rules, which allowed billions of dollars of unfunded government pension debt to accumulate unreported to the public. As John G. Dickerson of the California Public Policy Center said: “The Fatal Flaw is that pension expenses that create unfunded pension debt are reported in the future as chat debt is paid. That’s absurd – the payments of a debt eliminate the debt, they don’t create it. Unfunded pension debt is created by pension expenses in the past – most of which have never been reported to the people,” The accepted practices and lack of transparency allowed lawmakers to hide from the public the true extent of the problem.
An extreme example of this is Detroit. Using actuarial standards, Detroit’s pension fund was shown to be healthy on paper just before the city’s bankruptcy, when the pension fund turned out to be actually billions of dollars in deficit. In reality, Detroit’s municipal debt was around $18.2 billion and public employee pensions and retiree healthcare obligations accounted for $9.2 billion of the liabilities, or about $13,000 per Detroit resident.
GASB’s rules allowed unfunded pension debt to be hidden and reported as a lower amount than it should have been. GASB recently changed the rules on how governments must calculate and report pension finances. The changes are mostly for the better. The new rules will provide a more accurate picture of the financial position of state and local governments. But the new rules do not “tell” governments how much they should pay into their pension funds.