PEPTA Redux (1) Attacking the Messengers

According to a blog post on the National Council on Teacher Retirement (NCTR) website (P/W=nctrinsight) :

Congressman Devin Nunes (R-CA) is poised to re-introduce his “Public Employee Pension Transparency Act”’ (PEPTA), based on a “Dear Colleague” letter that was sent to the U.S. House of Representatives on Tuesday, March 8, 2016, seeking cosponsors for the legislation.  The letter states that PEPTA is necessary in order to “bring transparency and financial stability to state and local governments, which harbor trillions of dollars in hidden public employee pension debt.”  Furthermore, it will “strongly encourage these governments to reveal the true cost of their pension promises and to reform their pension systems if needed to meet their obligations,” Nunes tells his fellow Members of Congress. Previous PEPTA legislation, which was first introduced by Nunes in 2010, would require that, in order to retain Federal tax-exempt status for their bonds, sponsors of State and local pension plans (other than defined contribution plans) must file an annual report disclosing their plans’ liabilities, as well as potential supplementary reports that restate these liabilities using a so-called “risk-free” assumed rate of return, with the Secretary of the Treasury.  These reports would then be entered into a Federal database that will be accessible to the public.  The bill also makes it explicitly clear that state and local pension obligations are solely the responsibility of those entities and that the Federal government will not provide a bailout.

I learned of this from Jeremy Gold on actuarialoutpost who identified the author as Leigh Snell, Federal Relations Director for NCTR, and the purpose of his blog piece to “attack PEPTA and the expertise of Josh Rauh and Andrew Biggs” which is accurate based on excerpts from that NCTR blog:

“Current Congressional offices could be easily influenced to support a new PEPTA bill if Nunes’ propaganda goes unchallenged,” warned Meredith Williams, NCTR’s Executive Director.  “That is why it is so important for NCTR members to be sure that they contact their Congressional delegations now, making it clear that PEPTA is dangerous and completely unnecessary, and should definitely not be added to any Puerto Rico relief legislation,” he continued.

The current Nunes “Overview” of PEPTA claims that “public pensions continue to report grossly misleading information to taxpayers, retirees and public policy decision makers.”  The reason for this, it asserts, is that the accounting system used by state and local governments to determine their pension liabilities “is not subject to oversight or regulation.”  Instead, Nunes says it is just a set of “best practices,” promulgated by a standards-setting organization (i.e., the Governmental Accounting Standards Board, or GASB) that Nunes charges “is widely criticized for lacking the independence and funding necessary to enforce unbiased standards.”

The result, Nunes claims, is that “public pensions operate in a way that is inconsistent with the rest of the world of finance, making it very difficult for taxpayers, retirees, and policy makers to make informed decisions.”  Using present governmental accounting standards, Nunes argues that the currently disclosed total of unfunded liabilities of $1.2 trillion, which he characterizes as about 7% of 2014 U.S. GDP and an “enormous number,” nevertheless “dramatically understates the true nature of the debt confronting taxpayers, because public pension plans are able to calculate their liabilities using self-selected and unreasonably high discount rates.”

Indeed, the Congressman claims that public pension plans “also severely distort fair market value of assets in order to hide debt,” and that when these “accounting gimmicks are excluded from the calculations,” unfunded liabilities in 2014 are “three times greater in magnitude, or $3.5 trillion (about 20% of 2014 U.S. GDP),” which, he reasons, is likely “substantially higher” in 2016 due to poor market performance since the end of fiscal year 2014.

(For a much more accurate understanding of these so-called “accounting gimmicks,” be sure to read “Understanding the Valuation of Public Pension Liabilities; Expected Cost versus Market Price,” by Paul Angelo, a well-respected senior vice president and actuary for Segal Consulting.  In this article, Angelo expertly and very clearly explains how the current process used by public pension plans for measuring liabilities “imparts information about the issues that are most important to decision makers: the expected costs associated with funding promised benefits.”  By comparison, the financial economists’ measures “are far less useful for public-sector plans because they are not designed to answer the critical questions facing policymakers, employers, and trustees related to the expected cost of current and future benefit obligations,” he writes.)

Putting economy theory aside, in practice, PEPTA would effectively require every public pension plan to essentially keep two sets of books.  One would be the set that plans currently produce, which would reflect the reality of balanced investment portfolios—including stocks and other sensible investment alternatives as well as bonds—that have produced a median annualized investment return for the 25-year period ended December 31, 2015, of 8.3 percent, according to the most recent NASRA research.

The other set of books would pretend that all public plan assets were invested in U.S. Treasury bonds (even though this is not the case for any public plan), which currently yield less than 3 percent.

The result would be two substantially different measurements of a plan’s unfunded liabilities maintained by the Treasury Department.  One set of numbers would be a substantially increased, artificial liability measurement that the use of the Treasury yield curve would produce, which, along with the unsmoothed valuation of assets, would significantly understate plan funding levels.  This artificial set of numbers would differ substantially from those used to fund a plan or required for accounting and financial reporting purposes under GASB.  The reporting of these two sets of numbers would only serve to confuse the public, failing to provide any clarity or transparency with regard to public pension accounting.

“If you have not yet responded to the NCTR and NASRA joint Federal Alert last month, asking you to contact your House and Senate members and object to costly and burdensome Federal mandates such as PEPTA, then I strongly urge you to do so now,” Williams concluded.

One final note.  In the 2011 “Press Packet” on PEPTA that is still available on the Congressman’s website, there is a chart prepared by Professor Joshua Rauh, then at Northwestern University’s Kellogg School of Management and currently a Professor of Finance at Stanford University in California and a Senior Fellow at the Hoover Institution, a public policy think tank and research institution that is frequently described as politically conservative, also located at Stanford.

Professor Rauh is a strong proponent of “financial economics,” and believes that public pension plans should value their liabilities on the so-called “risk-free” rate, akin to the return on U.S. Treasury securities.  He is perhaps most famous for his estimates of the dates that state pension funds “run out of money” and “pension payments to retirees will have to come out of general revenues,” to use his precise terminology.

Rauh advised Congressman Nunes when he was first developing PEPTA, and the Nunes materials contain Rauh’s projections.  For example, Nunes/Rauh claim that seven states will run out of money before 2020, including Louisiana and Oklahoma in 2017.  Furthermore, the Nunes materials state that these insolvency dates “are based on generous assumptions concerning the performance of pension plans and are likely the ‘best case scenario.’”

The only problem?  If you check with your colleagues in Louisiana and Oklahoma, they will be happy to inform you that they are not going to completely deplete their pension assets by next year and have to make pension payments out of general revenues.  In fact, as the Government Accountability Office (GAO)—an independent agency that provides Congress with audit, evaluation, and investigative services—said in a 2012 report, Rauh’s exhaustion dates were based on assumptions that it found to be “unsupported.”  Indeed.

This is particularly delightful, given that Nunes’ current “Overview” proudly proclaims that “97 percent of financial economists,” including “experts from our nation’s most prominent schools of accounting and finance including MIT, Harvard, Yale, U.C. Berkeley, the University of Chicago, Princeton, and Stanford,” believe that state and local governments understate their pension liabilities, based on a 2013 survey, and that 92 percent of those surveyed believe that “absent change, public pensions would result in severe austerity budgets, a federal bailout or default in the coming decades.”

“I suppose Professor Rauh is still counted among those ‘experts’” observed Meredith Williams, dryly.

There is a lot to digest and rebut here and I will do so in a series of PEPTA Redux blogs to follow, starting next with the Paul Angelo paper.

21 responses to this post.

  1. Posted by dentss dunnigan on March 9, 2016 at 4:35 pm

    It would bring a level of transparancy to pensions that have never been there .If we had this bill 20 years ago and knew the cost and debt that these pensions would have cost the taxpayer .Pensions would be a lot different now by that a lot less generous and and lot more costly to the employee ….


    • I don’t know about that. Between the greedy and crooked unions and the crafty, corrupt and self-serving politicians, I think most of these unbelievably generous and undeserved plans would have survived the extra disclosure.


    • Actually, all we needed 20 years ago was a Supreme Court that would not interpret the State Constitution, which REQUIRES a balanced budget, to borrow money to balance said budget. For the intellectually challenged justices of the NJ Court, the wording of the Constitution is as follows: “No general appropriation law or other law appropriating money for any State purpose shall be enacted if the appropriation contained therein, together with all prior appropriations made for the same fiscal period, shall exceed the total amount of revenue on hand and anticipated which will be available to meet such appropriations during such fiscal period, as certified by the Governor.”


      • It was a difficult decision for me to leave the state since much of my family is still there. But the citizens of the state were sold out by both parties and all branches of its government. I still maintain my NJ bar registration as I need to be registered in at least one state, but I sure do wonder how long things will go on like they are.


        • Posted by bpaterson on March 14, 2016 at 10:31 am

          geez, when the lawyers are bailing out, you know NJ is in trouble. Thanks for being open about your plight, BD.


    • Posted by Ken Churchill on March 10, 2016 at 7:15 pm

      If the federal government had required public pensions to follow the ERISA rules they enacted for private company pensions we would not be in this mess.

      Private ERISA plans versus government pension plans:

      A corporate bond rate must be used for the discount rate, currently about 3.7% versus whatever the sponsor wants in a government plan

      The unfunded liabilities must be amortized and paid off over 7 years versus up to 30 years in a government plan

      If the funding level drops below 90% or money needs to be placed in the fund, nothing in the government plan

      If the funding level drops below 55% the plan is frozen and no new benefits accrue, nothing like this happens in the government plan

      When I made these changes to my county’s pension plan the funding level dropped from 90% to 45% and the annual costs went from $104 million to $376 million, which was over 100% of payroll.

      This does not end well for anyone.


      • Posted by Tough Love on March 10, 2016 at 8:38 pm

        Ken, Well stated and might I add……

        (1) You enumerated important PRIVATE/PUBLIC Sector pension Plan valuation differences without explaining WHY these differences would result in us … “not be in this mess”.

        Sure, it’s those PRIVATE Sector practices that PREVENT the growth of material unfunded liabilities, but very materially, it is BECAUSE those PRIVATE Sector practices demand HONEST valuations (not the very low-ball valuations routine in PUBLIC Sector Plans) that PRIVATE Sector Plans are VERY careful NOT to promise what is really affordable WITH investment returns based on BOND (not risky equity) investments. And lower Plan “generosity” means lower funding requirements.

        Bottom line ….. if Public Sector Plans were valued as are Private Sector Plans, they would have likely been AT LEAST 50% less “generous (when taking into account BOTH the Plan formula-factors AND it’s Provisions, such a young full/unreduced retirement ages and COLA increases…. almost unheard of in Private Sector Plans.

        (2) Your noted drop from a 90% funding ratio (with say an 8% rate assumption for discounting Plan liabilities) to 45% using 3.7%, is consistent with my own (and others) calculations

        (3) Unless it has changed rather recently, I believe the cutoff funding level for freezing a Private Sector Plan is 60%, not 55%.

        It should be noted that that 60% is 60% when using BOND rates in the valuation (NOT the 8% or so rates used in Public Sector Plan valuations). And without doubt AT LEAST half (likely, a much higher percentage) of ALL of Americas Public Sector DB pension Plans would have a funding ratio UNDER that 60% cutoff if valued on the SAME basis REQUIRED by the US Gov’t of Private Sector Plans.

        Such Plans should be frozen just as has been recommended for ALL of NJ’s Plans by the NJ Pension & Benefit Commission.


  2. Posted by Tough Love on March 9, 2016 at 10:57 pm

    Pension Plan valuations using risk free rates for discounting Plan liabilities WOULD provide VERY valuable information, mirroring the LOW-BALL estimate of Plan liabilities and contribution requirements consistent with current practice, with a reasonable UPPER-Bound estimate of Plans liabilities and contribution requirements.

    For reference, a valuation using the IDENTICAL assumptions and methodology that the US Gov’t REQUIRES in the valuation of Private Sector Plans would (today) come in (with liabilities and contribution requirements) FAR closer to the Risk-Free valuation than to a valuation using current Public Sector Plan practices.

    Is NOT doing it calling for hiding your head in the sand, and refusing to face reality ?

    So you decide ….. would it be helpful ?


    • Posted by Anonymous on March 10, 2016 at 1:06 pm

      Interesting article in record today about paramus hiring 6 new officers….all 6 were transfers from other bc agencies. All 6. Including one from mahwah….which froze officers pay for four years. The others were 2 bcsd, 1pip officer, 1 from Ridgefield park, and another from transit. Franklin lakes has lost 5 of their newer officers. A leafy suburb where you would think one would love to work…
      TL, in all seriousness, if police officers were on a 401k plan, and no pension, coupled with the fact that raises are in the area of 0 to 1.5 a year for the long foreseeable future, wouldn’t you reason that the rate of officers switching depts would dramatically increase, as well as the rate of officers leaving the profession? And if so, would that be a good for law enforcement as a whole? Would corruption increase? Would more officers take other full time jobs and “take it easy” when serving the public because they were tired? Would officers go to school part time in another field (business, insurance, construction, anything really) and quit when they were able to make a career change? Can you objectively state a couple of reasons that someone would 30 years on the police force?
      Most cops today have a four degree or military. Why would a young smart officer stay? And what would you do to prevent it from happening if this was the case? All kidding aside.


      • Posted by Anonymous on March 10, 2016 at 1:10 pm

        In fact, if you were a recruiter on a college campus, what would you say to entice a criminal justice major to come be a police officer in 2016 nj for the next 30 years


        • Posted by dentss dunnigan on March 10, 2016 at 1:41 pm

          Same for private industry ….NJ ??, any millennial will tell you the same thing ..cost are over the top ,plus why should I pay for politicians promises made years ago when I see no benifit now or in the future i’s all downside from here ,with todays technology you don’t have to be in the NYC or even near it ..


        • Posted by MJ on March 10, 2016 at 3:56 pm

          If I were a college recruiter I would say to the criminal justice majors that the opportunity to have a job as a police officer with modest salary and benefits is better than no job at all especially in the bedroom communities of NJ….if not interested then take your basically worthless degree and see if another company will hire you for the same “modest” salary.


      • Posted by Tough Love on March 10, 2016 at 6:05 pm

        Quoting Anon …..

        “TL, in all seriousness, if police officers were on a 401k plan, and no pension, coupled with the fact that raises are in the area of 0 to 1.5 a year for the long foreseeable future, wouldn’t you reason that the rate of officers switching depts would dramatically increase, as well as the rate of officers leaving the profession?”

        And what would they do if ALL of the towns in Bergen County (and the surrounding Counties) quickly moved to 401K Plans (comparable to those granted Private Sector workers) or DB Plans with FAR lower “formula-factors” and a minimum retirement age of 62 with 5% per-year reductions i payout for earlier retirement ?

        With BASE PAY (at the Patrolman rank) of $125+K annually after only 5 to 7 years of which could wuold Officers duplicate such wages in the Private Sector ?

        Quoting ….. “Can you objectively state a couple of reasons that someone would 30 years on the police force?”

        Yes, “wages” (alone) FAR above those of Private Sector workers in equally risky jobs and with comparable requirements as to experience, education, knowledge, and skills.


        • Posted by Anonymous on March 10, 2016 at 9:01 pm

          Yes today they may be high. I am saying what will intice a person w no pension to stay when his contract from an arbitrator gets 4 zeros. It’s already happened in lots of towns. Project the earnings out 30 or more years. Would you personally, strictly on finances alone, be interested in a position. Like that. And spare me the GED nonsense. Almost all officers have college degrees, particularly ones that advance to higher ranks. The exception being the ones the towns/state are forced to.hire because of civil rights issues, consent decrees. Some of these may not make the grade and deserve the GED comments quite Frankly.


          • Posted by Tough Love on March 10, 2016 at 9:58 pm

            Quoting …

            “Yes today they may be high. I am saying what will intice a person w no pension to stay when his contract from an arbitrator gets 4 zeros”

            Perhaps the more intelligent officers would realize, that given their excessive wages (alone) that they get today, a modest annual increase is a greater deal better than what is certainly justified …. a 25% wage REDUCTION. (especially in the “leafy” (near ZERO violent crime) towns in many areas on NJ.

      • Posted by Rex the Wonder Dog! on March 10, 2016 at 8:46 pm

        “…as well as the rate of officers leaving the profession? “

        Yes! I am SURE thee GED Wonders would “leave” the LE profession, because $200K per year GED jobs grow on tress in the real world!


        • Posted by Anonymous on March 11, 2016 at 10:50 am

          Again, neither one of you, (at least TL is polite) has really answered ny question. I really am.not talking about the older cops who have it considerably well. I am talking about someone in college who may considering a job in criminal justice, maybe someone who is still deciding. If that person was in fact you, TL would you strictly on finances alone, take a police officer job that you know will have minimal if any raises over a 30 year period, and probably no pension. Private actor raises often average 3% a year over the long haul. Probably at least double public sector raises over next 3 decades.
          Again, TL. That is my simple question. Not what you think others should do, but would you ,absent any other reasons, (always wanted to do it, etc) , join a profession, any profession, that would limit your earnings potential over such a long time line when compared to others that may not?


          • Posted by Tough Love on March 11, 2016 at 1:44 pm

            Anon, Without undue (e.g., Union, political, self-interested elected officials, etc.) influences, it seems reasonable that jobs with comparable risks/difficulties/desirability, and requirements as to education, experience, knowledge, and skills would migrate toward reasonably comparable Total Compensation (pay + pensions + benefits) whether in the Public or Private Sector…… acknowledging that there are no Private Sector Police.

            In NJ, one of the reasons new officers accept low starting wages (around $40K, I believe) is because (a) those wages increase to high wages ($125+K) over 5 to 7 years, far more rapidly than, AND to a higher level than Private Sector workers with similar skills, etc.and (b) their benefits both while working and retired as well as their pensions are EXTRAORDINARILY generous, and hence VERY costly.

            If properly valued (using the assumption/methodology REQUIRED by the US Gov’t of Private Sector Plans) and assuming the COLA suspension is reversed, the level annual total Normal Cost (NOT factoring in ADDITIONAL amounts needed to amortize the huge existing unfunded liability) to fully fund current pension promises over their working careers is over 50% of pay. Assuming family healthcare coverage and other miscellaneous insurance benefits of $20K annually, the Patrolman with the $125K in “wages” has a total compensation package of …. ($125K x 150%) $20K = $207.5 K. I’m pretty sure you realize that that is MATERIALLY greater than what a “comparable” position would pay a “comparably knowledgeable/skilled, etc.” Private Sector worker.

            Getting to your specific point. If we froze the DB pension and replaced it with a DC Plan with say 5%-10% of pay taxpayer contributions (noting that Private Sector workers typically get 3% to 4% into their 401k Plans), kept the compensation at $125K at the 5 to 7 year point, but increased starting compensation to say $60K, I do not believe we would have ANY difficulty AT ALL hiring as many Well-Qualified new officers as we desired and could afford, as that compensation would STILL be higher than what a “reasonably comparable” job would pay in the Private Sector.

            As discussed earlier, the key for Taxpayers to make this transition happens effectively is for ALL towns to move to the new pension structure quickly, eliminating the “job-hopping” to stick with a higher compensation structure.

            Also I don’t believe that under such a new structure, expected annual raises would be much different than those in the Private Sector. The REASON for the lower raises today is BECAUSE OF the huge costs of the current VERY VERY costly pension/benefit structure, and the costs of dealing with the huge PAST service liabilities that have developed ….. which of course is a SEPARATE and VERY big problem.

          • Posted by Anonymous on March 11, 2016 at 2:28 pm

            TL. In reference to your below post… didn’t specifically say whether you would sign up for the job (or any job) as I presented to you….the one thing you forget in your analysis is the 2% cap. That is on salaries today. That includes officers in steps. (Most contracts are more than 5 to 7 yr to top pay) meaning that the top numbers barely move anymore. Pensions and health Bennies are outside the cap. Therefore any savings will be seperate from allowable tax increases. Again, when you say , we will.have no trouble filling positions, the same argument can be made for any occupation. The question is are people who would be qualified for these positions aND thrive in the positions, going to be attracted to AND remain in the position. Anybody can be a teacher, the idea is to attract and retain those who perform at the highest level.
            I will take from your anwer, that you would in fact consider law enforcement as worthwhile career in 2o16 nj. Even with the under 2% raise forever restriction. Fair enough. Time will tell if others would join the police force like you say you would.

          • Posted by Tough Love on March 14, 2016 at 7:47 pm

            NOT included in the 2% cap are increases in pensions, healthcare, and debt service…… which are of course are the BIGGEST problem areas.

            It’s BECAUSE OF the undeniably excessively generous pensions & benefits that we have the Cap of the OTHER stuff … like salaries. We wouldn’t need to cap the salaries at 2% if the generosity, and hence the COST OF pensions & benefits were not so out of control.

            Quoting …. “Anybody can be a teacher, the idea is to attract and retain those who perform at the highest level.”

            If that were INDEED such a high priority, why is it that whenever layoffs are needed the ONLY criteria for who gets laid-off first, is seniority, and the young, eager, highly effective teacher is ALWAYS laid off before the the older, long-service burnt-out and ineffective teacher who would rather be doing ANYTHING else but is just hanging-on for the highly back-loaded pension?

            It’s certainly NOT … “all for the kids”.

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