Rauh Testimony (1) Riskless Rates

The Joint Select Committee on the Solvency of Multiemployer Pension Plans (Bailout Committee) heard from ‘stakeholders’ last week both verbally and in writing. Here are those texts from:

  • James Naughton, Assistant Professor/Donald P. Jacobs Scholar, Kellogg School of Management, Northwestern University
  • Joshua Rauh, Director of Research and Senior Fellow, Hoover Institution, Stanford University
  • Kenneth Stribling, Retired Teamster
  • Timothy Lynch, Senior Director Government Relations Practice, Morgan, Lewis, and Bockius LLP

Naughton, Stribling, and Lynch pretty much stuck to their scripts but, in Rauh’s case, his script was 29 single-spaced pages of text with charts that would have taken up the entire two hours allotted for the hearing.

But here we have time and space so we will look at Rauh’s written testimony in detail starting with what I see as the fallacy of his riskless rate theory of interest rates which I have always had a problem with.


Rauh explains on pages 2 and 3:

[T]o know how much money a pension plan would need today to be certain that the promised payment would be met. If a pension plan needs to meet a $50,000 obligation in 10 years, it can buy a zero-coupon default-free bond, such as a 10 year Treasury STRIP. Such a security would yield around 3% in today’s markets, meaning that the pension plan would need around $37,200 today to be sure of meeting the promise, since $37,200 growing at 3% for 10 years will result in a payoff of $50,000 which could then be used to pay the pension. The Society of Actuaries (2006) Pension Actuary’s Guide to Financial Economics calls this measurement a Solvency Liability….[A]n alternative measure of interest is the so-called Market Liability, also described in Society of Actuaries (2006). The Market Liability can be thought of as what a rational and financially unconstrained individual who was expecting to receive the $50,000 would accept today in exchange for giving up the promise of the $50,000 in 10 years. Why might this differ from the $37,200 calculated in the Solvency Liability? If the sponsor of the pension plan promising the liability were at high risk of insolvency over the next 10 years, the individual hoping to receive the $50,000 might be willing to settle for a payment today of less than $37,200, knowing that if they do not take the payment today, they might end up with less than $50,000 in 10 years time due to a default by the sponsor. The Market Liability would use a discount rate higher than the 3% to reflect this risk of default.

The Financial Economics folk then make the argument that “because pension benefits are guaranteed under most state laws, the appropriate discount factor is a riskless rate” which is where they lose me.

Of course liabilities of most public pension systems should be valued at lower interest rates but not because participants in public plans are assured of getting all their benefits (they’re not). The reason, as I went into previously, is that a plan like New Jersey’s, which is about 30% funded, will only get earnings on 30% of the assets that should be there.  When setting the interest assumption it needs to be decided what the trust can reasonably be expected to earn on the money it has to work with (taking into account the need for liquidity) and then that rate should be multiplied by the funded ratio – .3 in New Jersey’s case.  So if you expect to earn 8% on assets then 2.4% is what should be used to value the liabilities.  So if you use an 8% rate to value liabilities it would require that 30%-funded plan to make 27% in earnings to keep up and, when that does not happen, funded ratios continue to drop even if earnings assumptions are met and calculated contributions are deposited.

46 responses to this post.

  1. Posted by skip3house on August 1, 2018 at 11:45 am

    Seems those running these pension plans forgot their 8th grade arithmetic lessons?

    Reply

  2. Posted by Anonymous on August 1, 2018 at 5:17 pm

    It’s more the case they forgot their mission which was to provide a secure stream of benefits. Somewhere along the way they began to think they could “lean into” higher risk portfolios and let those juice return POTENTIALS do some (or most) of the heavy lifting. They turned away from an ALM/defeasement approach and began playing like hedge fund/prop desk trading operations. I’d ask how the is working but I know the answer.

    Reply

  3. Posted by Tough Love on August 1, 2018 at 8:51 pm

    John,

    A few thoughts………….

    (1) I don’t believe that you would disagree with financial economic theory that it is appropriate to “value” a TRULY RISK-LESS liability using risk-free interest rates, and your disagreement with Mr. Rauh on this point is that many Public Sector pensions are no longer “risk-free” in the sense that there is certainty that all promised pension benefits will indeed be paid in full and on time. On this observation, I agree with you.

    (2) Where you lose ME, is in your last paragraph where it appears that you are OK with using the high rates now assumed by most Public Sector Plans subject to an adjustment to reflect the proportion of the Plan liability that is backed by real/legitimately-valued assets. That suggests that you would be fine with using say NJ’s 7.5% rate IF NJ had a 100% funding ratio. Well even though you have authoritative company (the GASB) in that believing such, I believe it is wrong because it completely ignores investment risk. Simply put, Public Sector Plans DO HAVE the same investment risk that anyone else would have if making identical investments, but they CHOOSE TO IGNORE IT because they have a captive “sucker” (the Taxpayers) upon whom the consequences of actual poor investment results can be foisted.

    I have difficulty understanding why you (as an actuary) believe this structure is “ok”. Would it not be more appropriate to price (i.e. cost-out) a given level of pension promises assuming low-risk (but not risk-free) asset return rates, and then pass along (time-smoothed) REALIZED GAINS if/when they actually materialize ? No different that the structure of participating Whole Life Insurance sold by a Mutual Life Ins. Company ……. price it conservatively, but ONLY pass along gains AS THEY MATERIALIZE.

    Reply

    • As for the 7.5% rate if the plan is fully funded I would be fine with that if a study were done of asset values (by investment people not actuaries) and they signed off on 7.5% being a reasonable expectation of what this mix of assets will get. To that you apply the 30% funding factor and do your valuations.

      Whether 7.5% is a reasonable assumption is beyond me. From my layman’s perch I expect that NJ is playing games with the values (all those alternative investments) and a lot of what they say they have is not there (an honest audit could also reveal that).

      Reply

      • Posted by Tough Love on August 1, 2018 at 9:41 pm

        Even “reasonable expectations” are accompanied by risk. In any OTHER venue the investor assumes that risk. ONLY in the arena of Public Sector Plans is the consequences of that risk forcible passed along to someone (the Taxpayers) who nether wants it of has agreed to accept it.

        Reply

        • Posted by Anonymous on August 2, 2018 at 9:21 am

          As Barton Waring says “The volatility of the portfolio is the volatility of the contributions”. For plans that invest in a portfolio of risk(ier) assets they also put in place a mechanism where shortfalls must be met from the contributions. If/when that mechanism fails the plan fails and we are back to . . . . well, back to where we currently are. William Sharpe states that using anything other than a risk-free rate to value an guaranteed stream of payments is “insanity”.

          Reply

          • Posted by Tough Love on August 2, 2018 at 9:39 am

            Quoting …………..

            “For plans that invest in a portfolio of risk(ier) assets they also put in place a mechanism where shortfalls must be met from the contributions. ”

            Yes, THAT’S the way it works in Corporate-sponsored Private Sector pension Plans because they know, they understand, and they have the financial resources to accept that THEY are assuming that investment risk, and that THEY (the Company) is the one who will have to make additional contributions if poor investment returns materialize.

            That’s a heck of a great deal different than in Public Sector Plans, where the consequences of poor investment returns are foisted upon Taxpayers who were sold a bill-of-goods by a Plan whose “cost” would ONLY work out as presented to the Taxpayers if the Plan indeed realized the high investment returns that they assumed in the costout.

  4. Posted by Anonymous on August 2, 2018 at 12:18 pm

    True re: public plans. It’s nasty stuff.

    Reply

  5. Posted by Chad Stefanko on August 2, 2018 at 12:50 pm

    There’s nothing wrong with using an expected return on assets (whether equities, bonds, hedge funds, etc.) as a discount rate for determining the expected cost of the plan. There’s also nothing wrong with using a risk free rate of return as well to discount the liabilities to determine the economic value of the plan to the participants and to understand the relative risk the plan is taking. Both measurements have value and are useful. I think too much time is being spent debating this issue, since we can all agree that when and if treasury rates rise across the yield spectrum (which may very well be a possibility soon), there will be nothing left to debate…

    Reply

    • Posted by Tough Love on August 2, 2018 at 1:32 pm

      Sounds like you’re a Public Sector worker or retiree and don’t want your “gravy train” derailed.

      Reply

      • Posted by Chad Stefanko on August 2, 2018 at 2:38 pm

        No, I sound like an actuary that knows a few things about pension funding

        Reply

        • Posted by Tough Love on August 2, 2018 at 2:48 pm

          Don’t know if Chad Stefanko is your real name, but when I search the Actuary.org database for all credentialed actuaries in America (and several other countries) the name Chad Stefanko comes up with……

          “Unfortunately your search returned no results, please search again. “

          Reply

          • Posted by Chad Stefanko on August 2, 2018 at 2:58 pm

            Sorry about that Tough, unfortunately, I can’t find anybody by the name of Tough Love anywhere

          • Posted by Tough Love on August 2, 2018 at 7:50 pm

            So does not finding anything on a handle clearly NOT my name, make YOU a credentialed actuary ? Unlike MD or CPA, way too many people call themselves an Actuary w/o having passed the difficult examinations required to be “credentialed” as such ………. often because Gov’t employers give them titles including the word Actuary.

            From a later comment you stated …………… “The plan I work for now has a 7.4% annualized return over the last 25 years.” …….. so it seems I was correct in that (working for a Public Sector Plan) you are likely a Public Sector employee participating in a Public Sector DB Plan.

            —————————————————-
            That said, in a later comment where you stated ………..

            “The real culprit regarding the ability to properly fund these pensions is NOT investments or a discount rate, it’s the level of benefits. They are NOT sustainable. When one promises the level of benefits that are currently being promised, the ability to fund them at a manageable level incentivizes these funds to take on more and more risk.”

            You are dead-on accurate. For years, I have been commenting that the ROOT CAUSE of the Public Sector pension mess is Ludicrously excessive pension promises ….. TYPICALLY 2, 4, even 6 times greater in “value upon retirement”* than those typically granted the lucky few Private Sector workers still accruing DB pension and who retire at the SAME age, with the SAME wages, and the SAME years of service.

            * 2, 4, even 6 times greater in “value upon retirement”, resulting from a combination of MUCH greater per-year-of-service “formula factors”, MUCH younger ages at which one can begin collecting one’s pensions w/o an appropriate actuarial reduction, materially under-priced early retirement factors, and post-retirement COLA-increases (all but unheard-of in Private Sector Plans).

          • Posted by Stephen Douglas on August 4, 2018 at 7:24 am

            Stop me if you’ve heard this before. Biggs 2014 study gives clear examples of hindreds of thousands of workers who have so-called Ludicrously excessive pension promises ….. and still earn compensation equal to or less than equivalent private sector workers.

            This is not a calculation. It is actual verifiable nationwide empirical data.

            It is invalid to compare data outside the context of total compensation.

            Your demonstration is, was, and shall always be specious.

          • Posted by Tough Love on August 4, 2018 at 7:49 am

            Quoting Stephen Douglas/Earth ………………

            “Biggs 2014 study gives clear examples of hindreds of thousands of workers who have so-called Ludicrously excessive pension promises ….. and still earn compensation equal to or less than equivalent private sector workers. ”

            Omitting material facts AGAIN ???

            And as I stated in a comment below ………….

            ========================================

            AND ………….and what you always OMIT ………….. is that in all but a VERY few states, the net of those Public Sector “Total Compensation” advantages and disadvantages, when all workers are looked at as one group …… WHICH IS THE FINANCIAL MEASURE THAT IMPACTS TAXPAYERS ………… is typically a VERY substantial Public Sector Total Compensation ADVANTAGE…………. amounting to 23%-of-pay in both our home States of CA and NJ.

            Taxpayers ……… how much extra would you have for YOUR retirement needs if YOU had an extra 23% of pay to save and invest in every year of YOUR career ….. an extra $500,000. $1 Million, perhaps $2 Million for some ?

            ——————————————-
            Stephen Douglas/EARTH …….. Why do you always OMIT that ????

          • Posted by Stephen Douglas on August 4, 2018 at 11:06 am

            And as I stated in a comment below ………….

            Because it is blatant dum bassery.

            Do you understand the concept of “average”?

            In nationwide data, Biggs has public sector professionals with average total compensation of $171,439.

            The equivalent private sector professional has an average compensation of $206,993.

            Taxpayers ……… how much extra would you have for YOUR retirement needs if YOU had an extra $35,000 to save and invest in every year of YOUR career?

            We are all unequal, but some are more unequal than others.

          • Posted by Stephen Douglas on August 4, 2018 at 12:06 pm

            “The national pattern that public-sector workers with college degrees are compensated somewhat less and those without college degrees are compensated somewhat more than their private-sector counterparts holds true for Connecticut as well. The more compressed pay structure—with top and bottom pay closer together—reflects the fact that people are drawn to public service for nonpecuniary reasons and that government employers have an interest in setting a higher floor on compensation than private-sector employers, some of whom pay poverty-level wages and pass health care and other costs onto government programs. Because public-sector workers are more likely to have college degrees, public employers—and taxpayers—are getting a bargain while ensuring a decent standard of living for less educated workers.”

            Monique Morrissey

            It’s a very basic concept, the compression of pay for public workers. If your only goal is to reduce pensions, this is the place to do it. As Willie Sutton says, “That’s where the money is.”

            Biggs says these workers earn much more than equivalent private sector workers, as a percent of pay. Much of the alleged 23 percent advantage comes from health benefits which are a fixed dollar amount. The $35,000 clerk gets the same health coverage as the $135,000 attorney, but for the clerk, that is about 30 percent of pay.

            This is where contracting out government jobs saves money. Lots of money. At the lowest levels. Same wages + no benefits = lower cost. Dollar wise, for each worker, savings aren’t that much, but there are lots of them, so the savings in total percentages is high. Your spreadsheet will be ecstatic, but your spreadsheet doesn’t factor in the social costs.

            Don’t begin a vast pension reform with a half-vast idea.

          • Posted by Tough Love on August 4, 2018 at 1:07 pm

            Stephen Douglas/Earth,

            You’re just repeating the SAME thing ……….. but amazingly, AGAIN ignoring that:

            The net of those Public Sector “Total Compensation” advantages and disadvantages, when all workers are looked at as one group …… WHICH IS THE FINANCIAL MEASURE THAT IMPACTS TAXPAYERS ………… is typically a VERY substantial Public Sector Total Compensation ADVANTAGE…………. amounting to 23%-of-pay in both our home States of CA and NJ.
            —————————

          • Hey, Einstein,

            Did it never occur to you that…

            “You’re just repeating the SAME thing ………..”

            also?

            It’s cool, though. Would that I had the patent on “copy/paste”.

            I did not IGNORE that ” when all workers are looked at as one group ……”

            …there is a public sector total advantage.

            I merely reiterated…

            That advantage is an average, and the lion’s share of the advantage is concentrated in the lower echelons of public sector workers.

            I invite anyone to look at table 4, page 60 of AEI “Overpaid or Underpaid? A State-by-State Ranking of Public Employee Compensation”

            The lower two ranks (“HS diploma” and “Some college”) “looked at as one group ……WHICH IS THE FINANCIAL MEASURE THAT IMPACTS TAXPAYERS …………” account for virtually all the alleged public sector advantage.

            According to table 1, page 58, this group accounts for 40 percent of state workers.

            Eliminate this group, by contracting out, or by reducing pensions and healthcare for this group, and the public sector advantage is gone.

            More than gone. It will turn into a public sector disadvantage.

            The math is easy, implementation is more difficult, because man shall not live by spreadsheet alone… (Mathew 4:4)

            Even though reducing the pay, or contracting out these jobs, would absolutely materially reduce pension costs, and the lower paid public workers would then be “equal” in compensation to their private sector peers, I do not believe you will find the moral or political will to follow through.

            Better to look at actual pension reform, backed by laws and restrictions similar to ERISA.

            If it’s any consolation, you will get your precious material reductions, at least in the states which most egregiously shorted their “required” contributions. “It’s the math.” as they say. Let us hope they can find a way to fairly distribute the pain.

          • Posted by Tough Love on August 4, 2018 at 4:45 pm

            Quoting Stephen Douglas/EARTH ……………..

            “I did not IGNORE that ” when all workers are looked at as one group ……”
            …there is a public sector total advantage. ”

            Good, because THAT is the relevant point and what FINANCIALLY IMPACTS the Taxpayers…………. the splits by income group (while interesting) is just noise….. and NOT financially relevant.

    • Posted by Anonymous on August 2, 2018 at 3:18 pm

      Chad, actually you are mistaken. One real negative outcome of using a too-high DR is that the trustees who have to make decisions about future benefits are unaware of how this works. It can, and indeed has, lead to decisions made by relying on an overly- optimistic scenario painted by the ROA used as DR. In the case of collectively bargained contacts in ME plans there is no easy mechanism to boost employer contributions to restore funding status. This has indeed happened to a number of plans. Trust me I know. As has been discussed here already using the ROA for a DR is ok as long as there is the ability to boost ECs annually to keep the fund healthy and avoid the negative CF death spiral that comes into play when portfolios underperform and contributions cannot be increased enough.

      Reply

      • Posted by Chad Stefanko on August 2, 2018 at 3:23 pm

        I agree with you 100%. However, using a risk free discount rate as well (as I mentioned), should get you to where you want to be. At least then, those policy makers would be armed with information to make a rational decision

        Reply

  6. Posted by Anonymous on August 2, 2018 at 3:22 pm

    Chad, let me add that actuaries are meaningfully divided on this issue so I suppose it’s a case of “for every expert there is an equal and opposite expert”. This leaves us being able to recognize your claim of being an actuary with knowledge and still leave open the possibility that you are wrong. Judging from where we are right now it’s entirely possible the higher DRs have not been the best choice. I’ll side with Dr, Gold, Ron Ryan, Barton Waring and William F. Sharpe.

    Reply

    • Posted by Chad Stefanko on August 2, 2018 at 3:30 pm

      You’re right. You can put 10 actuaries in a room, ask them the same question and get 10 different answers. The problem I have is that if someone is saying the discount rate has been too high because we haven’t been able to earn the expected return, then they are mistaken. The plan I work for now has a 7.4% annualized return over the last 25 years. However, is someone is saying the discount rate is too high because equates to taking on a level of risk that may be unacceptable, then I can get on that horse. I choose to side with the evidence that is right in front of my eyes

      Reply

      • Posted by Chad Stefanko on August 2, 2018 at 3:40 pm

        Guys, you’re barking up the wrong tree. What you’re saying is not wrong, however, it’s a debate you’re not going to win and you’re not going to lose. Let’s face it. The real culprit regarding the ability to properly fund these pensions is NOT investments or a discount rate, it’s the level of benefits. They are NOT sustainable. When one promises the level of benefits that are currently being promised, the ability to fund them at a manageable level incentivizes these funds to take on more and more risk. You’re blaming a symptom of the problem, not the problem itself.

        Reply

        • Posted by Redfaced actuary on August 3, 2018 at 8:33 am

          Chad’s right – the main structural problem is the insane richness of the benefits. How is it possibly sustainable for a school district to continue paying 75% of a teachers salary for 30 years after she stops teaching? Forget what benefits the teacher prefers, what compensation makes sense for the district to pay? Answer DC not DB, which results in perfect intergenerational equity — it assigns benefit costs to years of service without exception.

          The structural problem was magnified by systemic undervaluation. 1) the benefits may have never been adopted in the first place, if costs were presented to pols with UC4% instead of EAN7% and 2) contributions would likely have been much higher every year.

          There is nothing I can add to Josh’s stellar explanations regarding proper basis other than to say I agree with him 100.0%. My experience is that the ONLY actuaries still trying to defend EAN7% are conflicted — they earn a living off the sponsors who use it and cannot afford to change it.

          Reply

          • ” 75% of a teachers salary for 30 years after she stops teaching? ”

            Who gets that? That would imply retiring at age 52-54.

          • Posted by Brian on August 3, 2018 at 3:27 pm

            In Illinois, for example, the teacher’s retirement system allows a teacher to retire at any age with 35 years of service. That teacher would get a benefit of 75% of final average salary. If she started at age 22, she could reach 35 years at age 57, and a 57 year old female teacher has a life expectancy of around 30 years.

            That level of benefits and eligibility was not uncommon in public pensions, and in states where the benefits are offered a great deal of protection that means that you will see people retiring under that benefit structure for decades to come.

        • Posted by PS Drone on August 3, 2018 at 1:00 pm

          You better inform S. Moderation Douglas and El Gaupo of your conclusion. They seem to think that the benefit schedules are fine and dandy as is. To them, it is just a matter of unpaid bills.

          Reply

        • I believe S Moderation Douglas has consistently said that reductions in benefit schedules can be part of “pension reform”.

          What S Moderation has also consistently said is that…

          1) Lower educated, unskilled public workers earn more than similar private workers, primarily due to pensions and benefits.

          2) Highly educated, professional public workers earn much lower wages than their private sector peers. Their so-called ludicrously excessive pensions are not sufficient to compensate for the lower wages.

          3) And, of course, between these two extremes, there are by definition, hundreds of thousand of public workers whose lower wages are roughly offset by their higher pensions and OPEBs. It’s called deferred compensation.

          Failure to recognize this and incorporate it into true pension reform is a recipe for disaster.

          There is a need for pension reform in every state, no matter how rich the benefits. In several states, there is need for reform and reduction. It’s the math…

          Mary Pat Campbell:
          “DON’T PAY THE BILLS, THE DEBT GETS LARGER”

          Reduction without reform is doom…

          “It makes no difference whether the New Jersey plan were to promise, on average, an annual benefit of $10,000 or $100,000. Once those benefits get put through the actuarial meat grinder that the politician/actuary cabal has constructed to develop low-ball contributions, the end product is doom.”

          John Bury

          Reply

          • Posted by Tough Love on August 3, 2018 at 3:39 pm

            Quoting Stephen Douglas’EARTH …………….

            “1) Lower educated, unskilled public workers earn more than similar private workers, primarily due to pensions and benefits.

            2) Highly educated, professional public workers earn much lower wages than their private sector peers. Their so-called ludicrously excessive pensions are not sufficient to compensate for the lower wages.

            3) And, of course, between these two extremes, there are by definition, hundreds of thousand of public workers whose lower wages are roughly offset by their higher pensions and OPEBs. It’s called deferred compensation.”
            —————————————————-

            AND ………….and what you always OMIT ………….. is that in all but a VERY few states, the net of those Public Sector “Total Compensation” advantages and disadvantages, when all workers are looked at as one group …… WHICH IS THE FINANCIAL MEASURE THAT IMPACTS TAXPAYERS ………… is typically a VERY substantial Public Sector Total Compensation ADVANTAGE…………. amounting to 23%-of-pay in both our home States of CA and NJ.

            Taxpayers ……… how much extra would you have for YOUR retirement needs if YOU had an extra 23% of pay to save and invest in every year of YOUR career ….. an extra $500,000. $1 Million, perhaps $2 Million for some ?

            ——————————————
            Stephen Douglas/EARTH …….. Why do you always OMIT that ????

          • Because it is blatant dum bassery.

            Several posters on this and other blogs have made the blanket statement that pensions are excessive. All I am saying is that many, perhaps most state workers have total compensation less than equivalent private sector workers. And that comes from the same source which says the average advantage in New Jersey is 23 percent.

            Are you seriously suggesting that we cut the pensions of those thousands of state workers who are already undercompensated, in the name of “average”?

          • Posted by Tough Love on August 3, 2018 at 4:38 pm

            Quoting Stephen Douglas/Earth …………………

            “Are you seriously suggesting that we cut the pensions of those thousands of state workers who are already undercompensated, in the name of “average”?”

            No, we should cut the “Total Compensation” of all the workers who are now overcompensated. And YES, I don’t care if we take away rich pensions and rich healthcare benefits from the less-well-paid Public Sector workers. They “deserve” no more in total compensation what a similar job would pay in the Private Sector. And, if that compensation is insufficient to meet basic needs (shelter, food, clothes, healthcare needs), they should be required to do EXACTLY what comparable Private Sector Taxpayers must do today ….. seek the assistance of Social Services.

            ——————————————–

            And as to the “studies” that suggest that highly-educated/professional (your Professional/PHD group) Public Sector workers make less in “Total Compensation” (wages + pensions + benefits) than their Private Sector counterparts, I’d love to know if the 50 to 60 hour weeks quite routine for such workers in the Private Sector are matched by their PUBLIC Sector counterparts.

            If not, they DESERVE proportionately less (and getting less under such circumstances would NOT constitute being under-compensated).

          • Posted by Stephen Douglas on August 3, 2018 at 5:16 pm

            The “studies” are primarily from Biggs and the American Enterprise Institute. Same study as the 23 percent average. And we are not just discussing lawyers and doctors. The third group, the middle ground, consists of groups such as scientists an engineers and arguably, skilled trades such as plumbers, electricians, etc. It’s not an exact science, but generally speaking, it would be safe to say that most of your 23 percent advantage is concentrated on the low end.

            Or, as Juvenal says…
            ” you are just wrong about the comparison of public sector and private sector total compensation (except at the level which requires no education–sorry for giving them benefits other than Medi-Cal).) ”

          • Posted by Earth on August 3, 2018 at 5:22 pm

            “It’s not an exact science, but generally speaking, it would be safe to say that most of your 23 percent advantage is concentrated on the low end.”

            Earth to Brother Love:

            Why do you always OMIT that ????

          • Posted by Tough Love on August 3, 2018 at 6:15 pm

            Hey Stephen Douglas ……………

            How does YOUR alter-ego EARTH pop up ?

            Do you look in the mirror and just see him, or do you actually summon him to appear and respond when you have nothing productive to add ?
            —————————————

          • Posted by Earth on August 3, 2018 at 6:43 pm

            “It’s not an exact science, but generally speaking, it would be safe to say that most of your 23 percent advantage is concentrated on the low end.”

            That is substantive. That is crucial.

            Materially reducing the pensions and OPEBs of the least educated state workers could eliminate the the average public sector advantage entirely. Reducing the pensions of the highly educated and mid level employees would just make it more difficult to attract and retain qualified employees. does that mean I advocate reducing those pensions? No.

            Improving the governance and regulation of public pensions (and MEPs) could bring more stable, and less expensive, pensions. Win/win.

            Earth is a fount of wisdom and Moderation. He is ubiquitous.

            You’re welcome.

          • Posted by Tough Love on August 3, 2018 at 7:26 pm

            Quoting EARTH/Stephen DOuglas ……………….

            “Improving the governance and regulation of public pensions (and MEPs) could bring more stable, and less expensive, pensions. Win/win.”

            That’s Public Sector worker/retiree/Union speak for …….. let ‘s do NOTHING but make it LOOK LIKE we doing something.
            ———————————

            Now crawl back under your rock with the rest of your ilk.

          • Posted by Earth on August 3, 2018 at 8:28 pm

            Crawl under your own rock. My ilk is fine.

  7. Posted by Brian on August 2, 2018 at 3:40 pm

    If you need to pay 100 this year, 110 next year, and so on until you’re paying 190 in year ten, what is your liability? It’s 100, 110, 120, …

    But that’s too complicated, people want to know a single point estimate.

    OK, if I want to be really certain, I could just accumulate enough cash to make all the payments (100+110+120…+190=1450) and hold on to it until I hand it off. Then my liability is 1450.

    But I could also invest the money. If I expect that the investments will earn 5% each and every year, I’d say that I only needed to start with $1143.13, and that sum would generate enough interest to make all my required payments on time.

    But what if the investment earnings are uncertain? If it is possible that I make less than 5%, then it might mean that I’m going to fall short and have to come up with more money at a later date.

    If you use the expected rate of return to discount your payments, you end up with the “expected” liability, but that amount is uncertain. The uncertainty goes up as the risk of the investment strategy goes up.

    People tend to talk about pension liabilities as if they are exact, certain values. But they are based on expected returns from risky investment portfolios, so they are really just expected liabilities, while the real, emerged cost will only be apparent once all of the benefits have been paid. The real cost of funding the benefits can be much higher or lower than the expected value. Given the very high discount rates in use, and the ease of raising benefits compared to the difficulty of dialing them back, it has generally been the case that the real emerged cost has proven to be higher than the initial expected value, either because investment returns have been below expected, or because benefits were enhanced at some point along the way when returns were (temporarily, unfortunately) higher than expected.

    So the liability calculated at a riskless rate gives you a good idea of what it would cost to provide the benefit if you don’t want to take a chance that real emerged costs are higher than expected. If you want to take risk, the real cost may end up being lower than that, but it may also be higher, but the critical thing is that when you take risk, the cost becomes uncertain, just like the investment returns.

    The liability calculated at a risky rate equal to your expected return gives you a good idea of what the cost will be in the median scenario, but no idea of how risky that cost estimate is, nor any idea of what reasonable bounds on the costs will be.

    Reply

  8. Posted by Brian on August 2, 2018 at 4:02 pm

    John, your example would result in a recursive solution.

    For example, the plan assumes a discount rate of 6% and it results in a PV of liabilities of 2000. However, they only have assets of 1000. The example, if I understand it correctly, would say they should then use a discount rate of 6% * .5 = 3%. That results in a liability of 3000, so now they’re just 33% funded and they need to use a discount rate of 2%, and so on…

    Reply

    • Not really. The interest rate is chosen first and would be the earnings that the mix of assets are expected to get. Let’s say it is 6%. Then comes the magic of computers where you plug in a lower interest rate to calculate the liabilities (assuming you think there will be an underfunding) – let’s say 2%. If the funded ratio using that 2% interest rate comes to 33% then you are done. 6% x .33 = 2%.

      Reply

  9. Posted by Brian on August 3, 2018 at 8:31 am

    Yes, that is a recursive process. The Funded Ratio is essentially the Assets/PV(Benefits). The PV(Benefits) is calculated using a rate equal to Funded Ratio * Assumed Rate. The Funded Ratio depends on the Funded Ratio.

    If you extended this method to situations where the Funded Ratio (calculated using the assumed rate of return) was in excess of 100%, you would end up crediting the plan with massive amounts of leverage, and what had been a Funded Ratio of 110% would end up being 300% or more, depending on the shape of the benefits.

    While it is a good idea in general to have the metrics and fund status reflect the riskiness and funding situation of the plan, this particular implementation is probably not appropriate.

    Reply

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