In 2000, Pennsylvania's State Employees Retirement System and Public School Employees Retirement System had more assets than liabilities. Today, the systems are 80 percent funded, and recent stock market losses are not the only reason.
Why does Pennsylvania face a dramatic spike in costs for state government pensions?
First, a decade ago lawmakers boosted benefits by 25 percent and raised retiree pensions without fully funding them.
Second, during the 2001-2003 recession the state axed its pension contribution.
Third, after the economy improved, contributions were kept below actuarially sound levels.
Fourth, the funds suffered stiff loses during the 2001 recession and in the current downturn.
Thus, much of the crisis can be traced to underfunding.
In 2003, legislators authorized the state to spread recession-related losses over 30 years and recognize gains from the 1990s over 10 years. This mismatch kept state contributions artificially low through 2011.
A Pew Center study shows that the commonwealth has contributed only 40 percent of what is actuarially required -- the lowest percentage of any state government. Pennsylvania's two major pension funds were 116 percent and 114 percent funded in 2001, but dropped to 83 percent and 79 percent by 2009.
The Boston College Center for Retirement Research finds the average state pension system funding ratio dropped 13.9 percentage points during this period, compared to 32.8 and 35.2 percentage point declines for Pennsylvania.
Former Gov. Ed Rendell and state legislators have some explaining to do.
Pennsylvania now faces massive increases in pension funding that amount to more than $5 billion annually. Recently, legislators enacted H.B. 2497, heralded as a reform of Pennsylvania's pensions. Ironically, this "reform" delays full funding for most of this decade, while re-amortizing existing liabilities over 30 years and reducing new employee benefits.
This is not reform at all. The plan increases funding and provides time to adjust budgets, but funding ratios will continue to deteriorate, creating cash flow problems and putting off hard decisions.
According to the Public Employee Retirement Commission, delaying full funding and re-amortizing liabilities increases long-term costs, resulting "in much higher contributions in later years and ultimately greater total costs to both the commonwealth and other employers."
The commission says funding ratios will erode from 80 percent to approximately 60 percent over the next two decades. With payouts reaching $7 billion annually before 2020, the ability to meet obligations may be at risk.
"The proposal will aggravate PSERS liquidity concerns," one official cautions, and "makes PSERS more vulnerable to a future economic downturn."
It might be worse than that. Assuming 8 percent annual investment returns, Northwestern University economist Joshua Rauh estimates that Pennsylvania pension funds may run out of money as soon as 2023 and find themselves unable to pay $10 billion in annual benefits.
Finally, the H.B. 2497 "reform" legislation adopted largely cosmetic measures when it comes to newly hired state employees. New hires will face larger contributions and lower benefits and will work for 10 years instead of five before they are vested for benefits. Yet these changes make only a small dent in the problem, saving perhaps 1 percent or 2 percent of payroll over the next 20 years.
The state has under-funded pensions for more than a decade, and H.B. 2497 continues this practice. A Wells Fargo Securities analysis sums up the situation: "The tradeoff for less-rapid increases in pension contributions over the next few years is that Pennsylvania will be obligated to make larger contributions in the 2020s and 2030s than it would have under previous law. The widest gap is projected to occur in 2027 when accrued liabilities are projected to exceed assets by $60 billion, a funding ratio of only 60 percent or so."
How can it be "reform" to let unfunded liabilities grow from $20 billion today to $60 billion in 2027?
Given the limits on what Pennsylvania can contribute to the pension funds, the state must consider establishing a 401(k)-like defined-contribution plan for new employees and for current employees willing to switch plans. This would not eliminate the spike in unfunded liabilities, but it would help.
The state also must consider reducing defined benefits currently promised to employees. Having failed both taxpayers and employees, the state needs to start unwinding the problem and to stop heaping burdens on future generations.
George E. Hale teaches political science at Kutztown University of Pennsylvania after a 30-year career in government at the federal, state and local levels ( firstname.lastname@example.org ).