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Insight: California city's pension vote: a precedent for U.S.? By Peter Henderson Posted 2012/06/02 at 11:25 am EDT SAN FRANCISCO, June 2, 2012 (Reuters) — A radical plan to slash public employee pension benefits getsvoted on by the residents of Silicon Valley's San Jose on Tuesday -a decision that could set an important precedent for many othercities, not only in California but across the nation. The nation's 10th-largest city is also one of the wealthiest, butover the past several years it has cut its municipal workforce by aquarter, laying off cops and firefighters, shuttering libraries andletting street repairs fall by the wayside. The problem? Mayor Chuck Reed says it's simple: Retiree benefitcosts eat up more than a quarter of the city budget - and aregrowing at a double-digit rate. The solution he is pushing at theballot box, after city council approval, would slash benefits forworkers, increase employee contributions - and almost certainlyprompt a precedent-setting legal challenge from the public employeeunions. "The best metaphor is cancer," said Reed, a Democrat known as moreof a technocrat than a firebrand, who is now cast as public enemyNo. 1 by public employee unions. "It started a long time ago, itgoes for a long time, and then it becomes life-threatening." It's a challenge other cities in California will soon face. "Ourproblem is nearly universal in the state," he added. "It's just aquestion of timing." Public finance woes are nothing new in California. The state budgetdeficit stands at an estimated $15.7 billion for next year,requiring further cuts in state services and, if Governor JerryBrown has his way, higher income and sales taxes. Local governmentsand school districts have struggled for years to make ends meet. The pension problem, though, may be the mother of all budget issues- for California, for its cities and counties, and for other statesand municipalities across the nation. The main California stateretirement systems have a total shortfall in pension-plan fundingof close to half a trillion dollars, a Stanford University studyestimated. The bill is not due at once, but payments on it growsteadily and can eventually squeeze out even basic services. Publicofficials like Reed, and academics who have studied the issue, saythe day of reckoning is nigh. San Jose is not the only city making tough choices. In San Diego,voters will also be asked to approve a pension-cutting ballotinitiative on Tuesday. In Stockton, city officials, unions andcreditors are engaged in a mediation process aimed at avoiding amunicipal bankruptcy - and public employee pensions are an achinglylarge part of the problem. San Jose, San Diego and the counties of Kern, San Mateo and SantaBarbara are among the worst-off of municipalities with their ownretirement systems, based on calculations in the Stanford study;all pay double-digit percentages of their annual budgets topensions and all face double-digit rates of increase, among otherissues. The city of Los Angeles was only marginally healthier thanthe bottom of the pack. Meanwhile, the giant California Public Employees' Retirement System(CalPERS), the largest public pension fund in the country, has beenengaged in a tortured debate about whether its rate-of-returnassumptions are too optimistic. The CalPERS plan covers state workers and dozens of cities thatvoluntarily joined its system. It recently cut its annual return assumption to 7.5 percent from7.75 percent, which would raise the shortfall it previously hadestimated at $85 billion to $90 billion. CalPERS says it has easilymet its return target for 20 years, but Stanford's Joe Nation andother economists say a lower rate would better reflect theuncertain outlook for markets and a century-long record of marketreturns. On Friday the Dow Jones industrial average fell to itslowest level in 2012 - dropping into negative territory. That explains why Nation calculates the collective shortfall atCalPERS, the smaller California State Teachers Retirement Systemand a state university plan at half a trillion dollars - he assumeslower returns than do systems run by the state and cities like SanJose. It's some consolation for California, perhaps, that the bill mountsslowly - and other states are in even worse shape. "The pension situation in California is by no means the worst,"said Douglas Offerman, an analyst at Fitch Ratings. "We rateCalifornia lower than we rate any other state. We do not rate it atthat level because of its employee obligations." GOOD TIMES, BAD TIMES The roots of the pension crisis can be traced to the 1990s, whenCalPERS, flush with cash from the stock market boom, pushed statelegislation to raise retiree benefits, including a retroactive bumpfor state employees. The 1999 law, adopted overwhelmingly by legislators on both sidesof the aisle, knocked five years off the retirement age for manyworkers, bumped up payments - or both. Every career governmentworker could quit at 50 or 55 with a solid, and sometimes lavish,pension. Because CalPERS also manages pensions for so many localgovernments, the law set off a bidding war across the state, withemployees and their unions insisting on parity, or better, withneighboring jurisdictions. "That eventually washed its way down into local government, and by2006 our public-safety employees had 90 percent retirement benefitsat age 50," Reed recalled. Half a century earlier a San Josepoliceman had to work until age 55 to retire with half his pay. Stanford's Nation did a rough calculation to figure out how much itwould cost to get comparable retirement benefits in the privatesector. "You'd have to start putting away half your salary,starting at 25," he said. California, the most populous state, also has some of the mostgenerous benefits in the country, says Alicia Mannell, director ofthe Center for Retirement Research at Boston College. She is more optimistic than Nation about California's next fewyears - she says the shortfall may shrink - but she agrees thestate has blundered. "These plans get so expensive - California has the most expensiveplan - that people are going to have to realize that if thosecommitments are fulfilled, then other things are not going to getdone," she said. Critics say a big part of the problem is a fundamental conflict ofinterest in the way the pension plans are governed. Pension fund boards are dominated by beneficiaries - workers andretirees. A six-member minority of the 13-member CalPERS board representsworkers and retirees. But the minority also holds the chairmanship,and the entire current board are CalPERS members, due to theirstate service. The directors of the nation's largest public pension fund are notrequired to have financial backgrounds, either, although the fundsays it gives training to the board. Beneficiaries have an incentive to keep the plans solvent, but witha state constitutional guarantee they can rest assured that theirretirement benefits will get paid. Meantime, the board members,themselves beneficiaries, also have an incentive to make thebenefits as rich as possible - and the CalPERS board has focusedsubstantial energy on raising benefits and enforcing the stateguarantee of payment. "The way pension systems have been run, to a certain extent, islegal corruption," said Nation, explaining the conflict of interestinherent in systems run by beneficiaries rather than those who paythe bills. Brad Pacheco, a CalPERS spokesman, pointed out that directorselected by members were a minority and that the entire board had afiduciary duty. "When they make a decision, it is not inself-interest but through the lens of how the decision will benefitor impact our members, employers and taxpayers," Pacheco said. San Jose faced what it saw as a conflict of interest in 2010. Thatyear it expanded and reformed its pension boards, givingindependent citizens with financial backgrounds, approved by thecity council, majorities on both. THE FIX Scores of city and state unions already have bargained to cut thepension load, generally by creating lower-benefit plans for newhires, Pacheco said. But that's not going to ease the problem soon,economists say. The state and cities need to be able to cut benefits for currentemployees, concluded the state's Little Hoover Commission, which ischarged with creating realistic solutions for tough problems in thestate. The commission recommended that state lawmakers point the way withlegislation allowing contract changes that gave midcareer workersthe benefits they had accrued but cut the level of benefits theywould earn in the future - which unions say is not fair play. CalPERS has drawn a line in the sand, saying it will defendbenefits, and there's been no major challenge yet. The city ofVallejo went bankrupt in 2008 but agreed to pay its pensionobligations in full. Proposals by financially hobbled cities to cut costs "may lead onlyto additional litigation and administrative costs," CalPERS warnedin a policy paper last year. San Diego is focusing on future employees, who will go on a401(k)-style plan, which is common in the private sector, if votersapprove the measure on Tuesday. That would transfer the risks andgains of rising and falling markets to workers. But San Diego is not aiming to change plans for police officers,who generally get the highest benefits and can retire earliest, andthe change doesn't affect current employees. San Diego's plan represents the biggest fundamental change, whileSan Jose's would be the highest-profile effort to get employees topay more. It would change the rules for all current employees. Itwants to let city employees choose between switching to alower-benefit plan or paying substantially more to keep currentbenefits. San Jose's retirement costs rose to $244 million, or a quarter ofits general fund budget in the fiscal year ending in June, and evenwith relatively optimistic investment return assumptions, the cityexpects retirement costs to hit $325 million four years from now,unless voters pass Mayor Reed's reform plan, known as Measure B. The stakes are high for employees: The police union calculates thatthe ballot measure and previous changes could leave an officerpaying more than 40 percent of his salary for retirement, a figurethe city describes as a worst-case scenario but does not dispute. San Jose Police Officers' Association President Jim Unland thinksMayor Reed is exaggerating the problem and is misleading votersabout the legality of the plan. That said, Unland expects voterswill trust their mayor and approve his plan. If that happens, the battle is sure to move to the courts, whereUnland expects it to remain for years. "In the end, we'll probablybe right back where we are today," the police union president said. (Reporting By Peter Henderson; Editing by Jonathan Weber andDouglas Royalty). We are high quality suppliers, our products such as Co2 Fractional Laser Machine Manufacturer , Oxygen Facial Machine Manufacturer for oversee buyer. To know more, please visits IPL Beauty Equipment.
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