The Whole Truth

Task Force Stirs Controversy in Warwick

Are local governments unknowingly or purposely hiding the truth from their residents?

How do you solve a problem if some don’t think there is a problem?

An debate is underway, and the sides are taking shape. On one side are the City of Warwick, its local newspaper, and state officials. On the other side are current and former Warwick city council members, a scholar from a nationally recognized think tank, National Review, and our own Center for Freedom & Prosperity.

A locally published interview with a member of the national pension task force, assembled by the RI Center for Freedom & Prosperity, has caused a stir in Warwick, puzzling the Mayor, confusing the local paper, and leading to an online rebuttal. Even the Providence Journal has covered the action.

On May 24, the Warwick Beacon published an article from an interview with Eileen Norcross senior research fellow and lead researcher on the State and Local Policy Project with the Mercatus Center at George Mason University, attempting to refute her warnings that the City of Warwick is not accurately representing the true scope of the liabilities in its locally administered pension plans. Norcross published a pie-chart depicting what she calculates as the true budget snapshot for the city. See the pie-chart here.

In citing Mayor Avedisian’s puzzlement by Norcross’s figures, and in misstating facts itself, the article is an example of the complexities involved in this important issue for cities and towns in Rhode Island.  A point-by-point clarification, “Wake Up Warwick,” was subsequently posted by Norcross as a rebuttal to the Warwick Beacon article.

Further, National Review Online has also published an article in support of Norcross’ perspective.

At question is the “discount rate,” or “rate of return,” utilized by most government agencies to value long-term pension liabilities. Many economists believe that government actuaries use higher rates than they should, which ends up understating the scope of the liability. If rates that are commonly used in private industry were to be utilized, the pension liability would be 2-3 times larger in many cases. What politician would want that kind of information to come out?

Is this arbitrary accounting practice done out of habit, or ignorance or, worse, is it done to purposefully deceive the public by kicking the can down the road and forcing future administrations to deal with the true scope of the problem?

The Center for Freedom & Prosperity takes the position that this debate — and this level of transparency — should take place in every city and town in Rhode Island. We strongly urge concerned citizens to publish or otherwise distribute the Open Letter to Municipalities: Tell Us The Truth previously published by our Center.

NY Times Echos Pension Task Force Warnings

The article below reinforces the concept that our Center’s pension task force has been saying for many months … that state and municipal entities are dramatically understating the true scope of their unfunded pension liabilities.

FROM THE NEW YORK TIMES, May 27, 2012

Public Pensions Faulted for Bets on Rosy Returns

By MARY WILLIAMS WALSH and DANNY HAKIM

Few investors are more bullish these days than public pension funds.

While Americans are typically earning less than 1 percent interest on their savings accounts and watching their 401(k) balances yo-yo along with the stock market, most public pension funds are still betting they will earn annual returns of 7 to 8 percent over the long haul, a practice that Mayor Michael R. Bloomberg recently called “indefensible.”

Now public pension funds across the country are facing a painful reckoning. Their projections look increasingly out of touch in today’s low-interest environment, and pressure is mounting to be more realistic. But lowering their investment assumptions, even slightly, means turning for more cash to local taxpayers — who pay part of the cost of public pensions through property and other taxes.

In New York, the city’s chief actuary, Robert North, has proposed lowering the assumed rate of return for the city’s five pension funds to 7 percent from 8 percent, which would be one of the sharpest reductions by a public pension fund in the United States. But that change would mean finding an additional $1.9 billion for the pension system every year, a huge amount for a city already depositing more than a tenth of its budget — $7.3 billion a year — into the funds.

But to many observers, even 7 percent is too high in today’s market conditions.

“The actuary is supposedly going to lower the assumed reinvestment rate from an absolutely hysterical, laughable 8 percent to a totally indefensible 7 or 7.5 percent,” Mr. Bloomberg said during a trip to Albany in late February. “If I can give you one piece of financial advice: If somebody offers you a guaranteed 7 percent on your money for the rest of your life, you take it and just make sure the guy’s name is not Madoff.”

Public retirement systems from Alaska to Maine are running into the same dilemma as they struggle to lower their assumed rates of return in light of very low interest rates and unpredictable stock prices.

They are facing opposition from public-sector unions, which fear that increased pension costs to taxpayers will further feed the push to cut retirement benefits for public workers. In New York, the Legislature this year cut pensions for public workers who are hired in the future, and around the country governors and mayors are citing high pension costs as a reason for requiring workers to contribute more, or work longer, to earn retirement benefits.

In addition to lowering the projected rate of return, Mr. North has also recommended that the New York City trustees acknowledge that city workers are living longer and reporting more disabilities — changes that would cost the city an additional $2.8 billion in pension contributions this year. Mr. North has called for the city to soften the blow to the budget by pushing much of the increased pension cost into the future, by spreading the increased liability out over 22 years.

Ailing pension systems have been among the factors that have recently driven struggling cities into Chapter 9 bankruptcy. Such bankruptcies are rare, but economists warn that more are likely in the coming years. Faulty assumptions can mask problems, and municipal pension funds are often so big that if they run into a crisis their home cities cannot afford to bail them out.

The typical public pension plan assumes its investments will earn average annual returns of 8 percent over the long term, according to the Center for Retirement Research at Boston College. Actual experience since 2000 has been much less, 5.7 percent over the last 10 years, according to the National Association of State Retirement Administrators. (New York State announced last week that it had earned 5.96 percent last year, compared with the 7.5 percent it had projected.)

Worse, many economists say, is that states and cities have special accounting rules that have been criticized for greatly understating pension costs. Governments do not just use their investment assumptions to project future asset growth. They also use them to measure what they will owe retirees in the future in today’s dollars, something companies have not been permitted to do since 1993.

As a result, companies now use an average interest rate of 4.8 percent to calculate their pension costs in today’s dollars, according to Milliman, an actuarial firm.

In New York City, the proposed 7 percent rate faces resistance from union trustees who sit on the funds’ boards. The trustees have the power to make the change; their decision must also be approved by the State Legislature.

“The continued risk here is that even 7 is too high,” said Edmund J. McMahon, a senior fellow at the Empire Center for New York State Policy, a research group for fiscal issues.

And Jeremy Gold, an actuary and economist who has been an outspoken critic of public pension disclosures, said, “If you’re using 7 percent in a 3 percent world, then you’re still continuing to borrow from the pension fund.”

The city’s union leaders disagree. Harry Nespoli, the chairman of the Municipal Labor Committee, the umbrella group for the city’s public employee unions, said that lowering the rate to 7 percent was unnecessary.

“They don’t have to turn around and lower it a whole point,” he said.

When asked if his union was more bullish on the markets than the city’s actuary, Mr. Nespoli said, “All we can do is what the actuary is doing. He’s guessing. We’re guessing.”

Vermont has lowered its rate by 2 percentage points, but for only one year. The state recently adopted an unusual new approach calling for a sharp initial reduction in its investment assumptions, followed by gradual yearly increases. Vermont has also required public workers to pay more into the pension system.

Union leaders see hidden agendas behind the rising calls for lower pension assumptions. When Rhode Island’s state treasurer, Gina M. Raimondo, persuaded her state’s pension board to lower its rate to 7.5 percent last year, from 8.25 percent, the president of a firemen’s union accused her of “cooking the books.”

Lowering the rate to 7.5 percent meant Rhode Island’s taxpayers would have to contribute an additional $300 million to the fund in the first year, and more after that. Lawmakers were convinced that the state could not afford that, and instead reduced public pension benefits, including the yearly cost-of-living adjustments that retirees now receive. State officials expect the unions to sue over the benefits cuts.

When the mayor of San Jose, Calif., Chuck Reed, warned that the city’s reliance on 7.5 percent returns was too risky, three public employees’ unions filed a complaint against him and the city with the Securities and Exchange Commission. They told the regulators that San Jose had not included such warnings in its bond prospectus, and asked the regulators to look into whether the omission amounted to securities fraud. A spokesman for the mayor said the complaint was without merit.

In Sacramento this year, Alan Milligan, the actuary for the California Public Employees’ Retirement System, or Calpers, recommended that the trustees lower their assumption to 7.25 percent from 7.75 percent. Last year, the trustees rejected Mr. Milligan’s previous proposal, to lower the rate to 7.5 percent.

This time, one trustee, Dan Dunmoyer, asked the actuary if he had calculated the probability that the pension fund could even hit those targets.

Yes, Mr. Milligan said: There was a 50-50 chance of getting 7.5 percent returns, on average, over the next two decades. The odds of hitting a 7.25 percent target were a little better, he added, 54 to 46.

Mr. Dunmoyer, who represents the insurance industry on the board, sounded shocked. “To me, as a fiduciary, you want to have more than a 50 percent chance of success.”

If Calpers kept setting high targets and missing them, “the impact on the counties won’t be bigger numbers,” he said. “It will be bankruptcy.”

In the end, a majority decided it was worth the risk, and voted against Mr. Dunmoyer, lowering the rate to 7.5 percent.

The Whole Truth

Open Letter to RI Municipalities: Tell us the Truth!

ALL CITIZENS ARE ENCOURAGED TO CONTACT THEIR LOCAL OFFICIALS

Quick Links: See the OPEN LETTER below, Automated Online Contact Form , Locally-Administered Municipal Pension Plans Evaluations, About the National Pension Task Force

April 19, 2012. Providence, RI – An “open letter” to Rhode Island municipal officials was released today by the national Task Force organized by the Rhode Island Center for Freedom and Prosperity to provide research and analysis on Rhode Island’s underfunded municipal retirement systems. The open letter is in response to the evaluations of locally administered pension plans recently submitted by each city and town.

The letter requests that City officials utilize the same realistic assumptions used in the private sector, when evaluating the true scope of their pension and OPEB liabilities and assets.

“It is obvious that our city’s are using un-realistic methods to determine the true scope of the problem”, said Mike Stenhouse, CEO for the RI Center for Freedom & Prosperity. “We urge every Rhode Islander to contact their city officials and demand that accurate accounting figures be put forward. How can a problem be solved if we don’t accurately quantify the problem?”

“We all remember the public outrage when Enron and other corporations were exposed for conducting fraudulent accounting practices … and rightly so. But why should we be any less concerned about accounting malpractice when it comes to our public pensions”, asked Rich Danker, member of the task force and project director for economics at American Principles Project, which is hosting the online form to contact municipal officials.

Citizens are asked to contact in their city and town officials in one of two ways:

1) Copy and paste the open letter below into a personalized email or letter to your own selected officials

2) Contact multiiple officials in multiple municipalities with a version of the same letter by utilizing an automated online contact form

OPEN LETTER

Dear Mayor / City Official,

“Truth in Numbers” was a key theme for the historic pension reforms that were implemented last fall in Rhode Island, and, as a concerned citizen, I am requesting that the same level of transparency be implemented when it comes to dealing with the pension and other post employment benefit (OPEB) problems facing our city. All public officials and citizens need to be made aware of the full extent of the liability as well as the true condition of our public finances in order to be able to make informed decisions about proposed solutions.

We all remember the public outrage when Enron and other corporations were exposed for conducting fraudulent accounting practices … and rightly so. But why should we be any less concerned about accounting malpractice when it comes to our public pensions?

We are all in this together. How our city handles this significant problem will impact each and every resident: from retirees, to municipal employees, to property and vehicle owners, to business owners, to students and to all those who receive city services.

In order to instill honesty in public finances the city should publish the data associated with its retirement system that is comparable to what is demanded of the private sector. This means:

1) The city’s pension liabilities must be valued according to a discount rate that matches the true market value of the debt. Even if this means conducting a second valuation of the liability based on this more realistic rate assumption.

2) An open accounting of the city’s OPEB liabilities

3) The city’s pension assets must be valued on a true market basis

4) The projected total benefit contributions expected to be borne by taxpayers for the next ten years must be based on these more realistic figures

We know the horror stories of how public pension debt may have been dramatically undervalued by state and municipal governments, by as much as a factor of three-to-one. The assets that are meant to support this debt are also not always reported according to market values. Therefore, taxpayers are in the dark about what they owe in terms of pension payouts to government workers and retirees. This impedes an honest discussion about spending and taxes that needs to take place for cities like ours to achieve good fiscal health.

We are asking you to enhance your relationship with your constituents and fulfill your fiduciary responsibility to us, the taxpayers, by promptly disclosing the true scope of the pension data requested above. We deserve nothing short of full “truth in numbers” when dealing with this critical matter of public finance.

Thank you for your service to our community,

Task Force OpEd in ProJo: All RI Communities in Deep Trouble

by MIKE STENHOUSE and RICK DANKER

Rhode Island has become ground zero for the public-employee pension crisis owing to the size of the unfunded pension liabilities the state and its cities face along with the sad story of the Central Falls bankruptcy.

But, unlike other states stuck in similar situations, the Ocean State has been proactive in making solid reforms to reduce this debt load. This month, Governor Chafee introduced a municipal pension reform plan that will enable localities to make cuts similar to what the state made with its reform late last year.

The centerpiece of the governor’s proposal is legislation to let the state’s independent pension plans suspend annual cost-of-living adjustments (COLAs). Eileen Norcross, senior research fellow with the Mercatus Center at George Mason University, and a member of the Rhode Island Center for Freedom and Prosperity’s national pension task force, finds that a 1 percent reduction in the COLA reduces the overall pension plan liability by 10 percent.

The magnitude of this cost savings is clear in the data on the task force’s transparency website, RIOpenGov.org? , which shows the difference in a 3 percent COLA and no COLA on projected future pension payouts to the top-earning retirees to be around $1.5 million. Cranston, for one, would cut its total projected future pension costs associated with its 421 public police and fire retirees from $579 million to $410 million with this change.

To qualify for the COLA suspension — which the state already enacted with its own reform legislation — local pension plans must be in a “critical status” of a funded level below 60 percent. As the governor’s plan notes, the most recent average reported funded level for the plans is just 40 percent.

But this reporting doesn’t tell the whole story of local pension debt. When these liabilities are calculated using private-sector valuation rather than assumed investment returns, the picture gets even worse.

Norcross and her Mercatus Center colleague Benjamin VanMetre in November 2011 calculated the average funded level to be 29 percent using Treasury bond yields. The unfunded liabilities belonging to the 36 Rhode Island cities with their own pension plans was therefore $6 billion rather than the reported $2.4 billion.

Utilizing private-sector valuation, every locality in Rhode Island would be funded below 60 percent, according to this same Mercatus report. We question, then, why there should even be a “critical status” test in the legislation.

This truth about local pension debt means that many of these municipalities will ultimately need to do more than suspend COLAs. They will need to consider adjusting benefit formulas, capping pension payments, or offering buyouts to pare down this debt. The alternative is to let the burden remain on taxpayers, either in the form of higher taxes, cuts in public services, or both. Those are particularly bad options in Rhode Island, where emigration to other states and towns is just a short trip away.

Governor Chafee should be commended for acting decisively on the public-pension crisis and introducing a plan to give the municipalities a head start on reform. It is now up to the legislature to quickly pass this into law. But the hard work will remain for those cities and towns deemed to be in “critical status.”

They should now calculate and disclosure their pension debt using market valuation so their citizens know full extent of the unfunded liabilities. Then they should come up with reform plans that use every legal option available to spare those citizens from having to prop up uncontrollable pension plans. Rhode Island will benefit when the state’s enablement of the COLA suspension is combined with the opportunity for its fiscally-distressed cities and town to design their own reform plans.

When adding the often-overlooked burden of other post employment benefits (OPEB), the public retirement crisis — decades in the making as benefits outstripped contributions through government overpromising — is the state and local finance issue of our time. It threatens foundations crucial to making government work, such as truthfulness about finances and fairness in allocating public services and benefits. When they get the state’s go-ahead to start reducing their pension obligations, Rhode Island’s cities and towns will have no excuse not to take it on.

Mike Stenhouse is CEO of the conservative Rhode Island Center for Freedom and Prosperity. Rich Danker is director of economics at American Principles in Action, a conservative Washington policy organization. Bot individuals are part of the RI Center for Freedom’s national task force on Pension Reform in the Ocean State.

Click here for image of the actual ProJo OpEd page …

Task Force Launches Municipal Pension Reform Website

Pension Data added for 1800+ Police and Fire Retirees for Central Falls, Warwick, East Providence, and Newport

FOR IMMEDIATE RELEASE: March 20, 2012

Providence, RI – As part of National Transparency Week, the Rhode Island Center for Freedom and Prosperity announced today the posting of new pension data on its popular transparency website, www.RIOpenGov.org . The site has also been reconfigured to host the work of its national Task Force on pension reform, as the debate about municipal pensions heats up in Rhode Island.

The previously announced Task Force, which will focus on the City of Cranston, has a stated goal of providing detailed research and analysis about the municipal pension crisis that may be useful to other localities in the Ocean State and across the country.

The RI Center for Freedom’s open government website has recently added multiple new modules:

* Cranston and Municipal Pension Home Pages; www.RIOpenGov.org/Cranston and www.RIOpenGov.org/municipal-pensions ,where research and analysis from the Task Force will be posted

* Interactive pension data from locally run retirement plans, including; 132 police and fire retirees from Central Falls, 880 retirees from Warwick, 206 from East Providence, and 177 from Newport. Cranston pension data for 426 retirees was previously posted.

The interactive data displays for these 1800+ local retirees complements the 26,598 state retiree records that were previously available to review on www.RIOpenGov.org/state-pensions.

The Cranston Municipal Pension Home Page includes multiple analysis of how Cranston police and fire retirees receive higher pension benefits than their statewide peers, as well as details of the generous Holiday Pay that Cranston retirees continue to receive at taxpayer expense.

The Municipal Pension Home Page includes links to all local retiree pension data displays, as well as general analysis of the overall local pension crisis.

The Task Force members, who will provide commentary and analysis and who may participate in statewide forums or committee hearings in the General Assembly, include Eileen Norcross of the Mercatus Center, Rich Danker of American Principles Project, Bob Williams of State Budget Solutions, and Mike Stenhouse from the RI Center for Freedom & Prosperity.

Additional bio information for Task Force members can be found on the Center’s website at www.RIFreedom.org/pension-reform.

For over 25 years, the Mercatus Center at George Mason University has been the world’s premier university source for market-oriented ideas-bridging the gap between academic ideas and real world problems. A 501(c)(3) tax-exempt organization located on George Mason University’s Arlington campus, Mercatus works to advance knowledge about how markets work to improve our lives by training graduate students, conducting research, and applying sound economics to offer solutions to society’s most pressing problems.

American Principles Project is a Washington-based 501(c)3 organization. Founded by Princeton Professor Robert George in 2009, last year it became the first public policy organization to sponsor a presidential debate, which was shown on CNN. APP works across three areas: economic policy, education, and Hispanic outreach. It’s economic initiatives are public employee pension reform and monetary policy reform. It has worked to promote awareness of the public pension crisis and proactive reform ideas.

State Budget Solutions, a non-partisan organization advocating for fundamental reform and REAL solutions to the state budget crises, is a non-partisan, positive, pro-reform, proactive organization that is anchored in fundamental-systemic solutions.

The Rhode Island Center for Freedom and Prosperity, a non-partisan public policy think tank, is the state’s leading free-enterprise advocacy organization. Firm in its belief that freedom is indispensable to citizens’ well-being and prosperity, the Center for Freedom’s mission is to restore competitiveness to Rhode Island through the advancement of market-based reform solutions.

All Cities and Towns May Already be in “Critical Status”

COMMENTARY: by Mike Stenhouse and Rich Danker

The centerpiece of the governor’s proposed legislation to let municipalities’ independent pension plans suspend annual cost of living adjustments (COLA’s), includes a ‘60% critical status’ test that may be irrelevant. While we support the concept of providing “tools” to Rhode Island municipalities, the distinction of which localities are in crisis – and which are not – may be an unnecessary exercise.

According to a study published last November by Eileen Norcross, senior research fellow with the Mercatus Center at George Mason University and a member of the Rhode Island Center for Freedom and Prosperity’s national pension task force, the true scope of  the unfunded liabilities belonging to the 36 Rhode Island cities with their own pension plans is $6 billion rather than the reported $2.4 billion, if the more accurate “market value” or private-sector rate is utilized instead of the the less accurate “assumed” rate, commonly used by most government entities.

Utilizing private-sector valuation rates, the pension liability for EVERY locality in Rhode Island is funded below 60%, according to the Mercatus report. We question, therefore, why there should even be a “critical status” test in the legislation.

The table below, from the Mercatus Report, shows how the true scope of the unfunded liabilities, along with the related funding ratios, are dramatically altered depending on which rate is used. (for each city – compare column 5 with column 8; and compare column 4 with column 7)

Market Value of Municipal Pension Liabilities

How municipalities account for their pension liabilities is of significant importance. We all remember the public outrage when Enron and other corporations were exposed for conducting fraudulent accounting practices … and rightly so. But why should we be any less concerned about accounting malpractice when it comes to our public pensions?

Using a valuation rate that is more in-line with the private-sector, all municipalities in the Ocean State should be provided with the tools the Governor proposes, and we should spare ourselves the drama of picking and choosing qualifying and non-qualifying localities.

Rich Danker is the project director for economics at American Principles Project in Washington, D.C . Mike Stenhouse is the CEO for the Rhode Center for Freedom and Prosperity. Both are members of the Center’s national task force for pension reform in Rhode Island.

CityPensionReform

Cranston Pensions to be focus of Task Force organized by the Center for Freedom

Providence, RI – Representatives of several major policy organizations today announced the formation of a collaborative effort to provide research and analysis that may be useful to local officials as they work to design pension reform options for Rhode Island’s underfunded municipal retirement systems.

New! Cranston Police & Fire Retiree Data Posted @ www.RIOpenGov.org

RI's Open Government website

Visit RI's Open Government website

For Immediate Release; February 13, 2012

Providence, RI – Representatives of several major policy organizations today announced the formation of a collaborative effort to provide research and analysis that may be useful to local officials as they work to design pension reform options for Rhode Island’s underfunded municipal retirement systems. Cranston is the first municipal pension plan that the team will analyze. Cranston, one of many localities in Rhode Island which has an independent pension plan, has a pension funding level below 25 percent and reported unfunded liabilities of $245 million, placing it among the worst-funded in the state.

Following the successful task force assembled last fall regarding statewide pensions, the collaboration is organized by the Rhode Island Center for Freedom and Prosperity’s Special Pension Task Force. Task force members will provide transparency data, research, and policy analysis, including for Cranston’s actuarial report and funding plan, both of which are required of all independently managed municipal retirement systems by the Rhode Island General Assembly this year.

The Task Force also announced that pension data for some 1714 Cranston retirees, both in the local and state administered plans for teacher, police, fire, and other retired personnel, is now available to view via interactive displays on the RI Center for Freedom’s transparency website, www.RIOpenGov.org. This website will serve as the home page for all future work published by the Task Force.

Central Falls, Rhode Island recently filed for bankruptcy, and its retirees have agreed to sharp pension cuts as part of the reorganization. The state of Rhode Island in November passed comprehensive pension reform legislation implementing the defined contribution model of compensation and canceling cost of living allowances for state-run plans. The task force members hope to provide useful information that may guide other municipalities to make preemptive adjustments to their pension fund management to avoid the difficult consequences that Central Falls is currently experiencing.

The Task Force members, who will provide commentary and analysis and who may participate in statewide forums or committee hearings in the General Assembly, include Eileen Norcross of the Mercatus Center, Rich Danker of American Principles Project, Bob Williams of State Budget Solutions), and Mike Stenhouse from the RI Center for Freedom & Prosperity.

“This task force is set up to get the best economic, legal, and policy analysis on how to deal with a pension shortfall at the local level,” Rhode Island Center for Freedom and Prosperity chief executive officer Mike Stenhouse said. “This is a national crisis that must be solved from the ground up through the principles of fiscal federalism.”

“This collaboration is a great opportunity to advance best practices in pension reform at the local level,” Rich Danker, project director for economics at American Principles Project said. “We hope that the task force’s transparent pension fund analysis will foster responsible decision-making.”

“The Mercatus Center is pleased to offer its analysis on public pensions to Cranston as it has to other cities and states,” senior research fellow Eileen Norcross said. “Fixing the structural problems embedded in these retirement systems is crucial to our nation’s fiscal health.” Norcross has done leading research on public pension deficits in Rhode Island, Illinois and New Jersey as part of the Mercatus Center at George Mason University’s State and Local Policy Project.

 Additional bio information for Task Force members can be found on the Center’s website at www.RIFreedom.org/pension-reform.

 For over 25 years, the Mercatus Center at George Mason University has been the world’s premier university source for market-oriented ideas-bridging the gap between academic ideas and real world problems. A 501(c)(3) tax-exempt organization located on George Mason University’s Arlington campus, Mercatus works to advance knowledge about how markets work to improve our lives by training graduate students, conducting research, and applying sound economics to offer solutions to society’s most pressing problems.

American Principles Project is a Washington-based 501(c)3 organization. Founded by Princeton Professor Robert George in 2009, last year it became the first public policy organization to sponsor a presidential debate, which was shown on CNN. APP works across three areas: economic policy, education, and Hispanic outreach. It’s economic initiatives are public employee pension reform and monetary policy reform. It has worked to promote awareness of the public pension crisis and proactive reform ideas.

State Budget Solutions, a non-partisan organization advocating for fundamental reform and REAL solutions to the state budget crises, is a non-partisan, positive, pro-reform, proactive organization that is anchored in fundamental-systemic solutions.

 The Rhode Island Center for Freedom and Prosperity, a non-partisan public policy organization, is the state’s leading free-enterprise think tank. Firm in its belief that freedom is indispensable to citizens’ well-being and prosperity, the Center for Freedom’s mission is to restore competitiveness to Rhode Island through the advancement of market-based reform solutions.

Media Coverage:

GoLocalProv: NEW: Pension Task Force to Focus on Cranston

Cranston Patch: Pension Task Force Sets Sights on Cranston’s $245 Million Black Hole

Task Force Report used to create Municipal Pension & Debt Map

Based in-part on the work of the Mercatus Center, which published a detailed report on the true scope of the unfunded pension liabilities facing Rhode Island municipalities as part of the national pension Task Force that our RI Center for Freedom formed, a local organization created an online, interactive map that allows you to click on each of Rhode Island’s cities and town to view information about their finances, people, government, and taxes.

Thanks to Richard C Young and EJ Smith for this compelling tool.

How Easily the Hybrid Pension Reform Can Be Undone

In his Sunday Providence Journal column, Assistant Managing Editor for business, commerce, and consumer issues John Kostrzewa describes the business community’s enthusiasm for the just-passed pension reform:

There was a lot to celebrate because many of the 700 businessmen and women who attended the [Providence Chamber of Commerce] dinner had contributed their money, influence and support to back the reform effort that had been heavily opposed by the labor unions.  It showed that when the business lobby is committed, organized and focused, it can be a potent force in setting public policy.

Myself, I continue to be skeptical that the field broke so cleanly into opposing sides.  That is, I’m not so sure Business faced Union and won a battle, with pension reform.

A few years ago, during teacher contract negotiations in Tiverton, National Education Association Rhode Island Assistant Executive Director Patrick Crowley put forward a proposal for health savings accounts — which are typically seen as key components of serious conservative healthcare reform plans.  A close look revealed that the union’s plan was constructed in such a way that the reform would hardly have saved money, yet it enabled negotiators to proclaim savings with the health benefit so as to argue for other increases, as in salary.  The lesson that stuck with me is that unions are willing to seize on the trappings of reform, but they’ll, first, force reformers to negotiate something, like raises, in order to insert their favored concepts into a contract and, second, work to dilute the effect of the reform of itself.

General Treasurer Gina Raimondo has successfully brought the notion of a defined-benefit/defined-contribution hybrid to the Rhode Island public-sector pension system, but reformers arguably didn’t do enough to ensure that it would be a strong win, and it’s beginning to look like other concessions made in the process may very well outweigh the improvements.  The new 5.5% privatization tax that the General Assembly imposed on state (and perhaps municipal) government was likely a mere first taste, especially if NEA-RI President Larry Purtill’s exhortations are any indication.

The quantitative question that naturally follows such predictions is:  Just how much would it take to undo the benefit of a reform like the hybrid system?  Well, for starters, I’ve already pointed out that the hybrid benefit is more costly than the defined-benefit system alone, if the actuaries’ investment assumptions hold.  Regardless of investment returns, however, it won’t take much at all for the unions to negate the “hit” that they’ve taken with the hybrid through advantageous policies in other areas.  If legislators and other government officials seek to mitigate the backlash from the unions by offering such juicy concession prizes as the privatization tax and binding arbitration, the reform could easily turn into a recidivistic windfall for public employees.

For example, if we assume that the average teacher will work for 25 years and retire for 20, the unions will only have to increase the average annual raise by 2.76% to leave their members retiring with exactly the same defined-benefit pension.  In other words, if teachers’ typical annual raise is 4% (which is the state actuaries’ assumption) and the unions bring that up to 6.76%, a 25-year teacher will see no change in defined-benefit pension whatsoever.

For state workers, the necessary delta is 2.73%.  For teachers and state workers who stay on the job for 30 years, which will be much more common, given increases in minimum retirement age, the delta to erase the effects of the hybrid reform is 2.5%.

That doesn’t tell the whole story, obviously.  Most important, if the unions manage to procure higher salaries for members, then the reward far exceeds the increased pensions, as employees bring home more money each year of work.  The hybrid plan also lowered the amount that employees contribute to defined-benefit portion of their retirements, which provides 5% or more in annual savings for them, and added a 1%-of-payroll employer payment into the defined-contribution portion, which amounts to a 1% raise deposited into a high-yield savings account for future use.  On the other end of the scale, one has to factor in variations in cost of living adjustments (COLAs) based on the size of base pensions.

Taking all of those variables into account, a teacher who works for 25 years and retires for 20 only needs his or her annual raise to be 0.89% higher than it otherwise would have been in order to completely eliminate the adverse effects of the hybrid reform over the course of his or her career and retirement.  If he or she works for 30 years and retires for 15, that delta drops to 0.68%.  For state workers, the parallel numbers are 0.92% and 0.71%.

That is, if the expected 4% annual increase in teacher pay becomes 4.68% based on concessions to the unions, the combined compensation from salary and pension will exactly equal what it would have been had the hybrid reform and the concessions never occurred.  Keep in mind that this doesn’t include the five percent of salary that employees will be putting in their defined-contribution plans or the investment yields from those plans, from both employee and employer contributions.

Of course, it will be all but impossible to tell whether this effect was actually obtained.  The economy might force the average annual raise for state workers down to 3%, but if, for example, the privatization tax prevents the pressure of competition from driving it down to 2%, then public workers would have ultimately benefited from wave of reform.  (And, yes, it’s tautological to note that taxpayers would have lost out.)

If the business community really does have pull at the State House, then it ought to apply its strength to resist any additional giveaways that legislators are planning to offer unions to buy forgiveness of their pension votes.  Next it ought to strive to repeal the privatization tax as well as the provision of the pension reform that puts future adjustments in the hands of the union-heavy Retirement Board.  Otherwise, any celebrations over the General Assembly’s 2011 special session on pensions will soon prove unjustified.

Pension Reform Bait-and-Switch to Block Broader Reform

An observer of Rhode Island’s political scene needn’t be excessively cynical to be a bit disconcerted by the unity of purpose displayed toward the end of the General Assembly’s special session on pension reform.  Leading Democrats, including some who double as labor union leaders, were onboard.  The union-backed Independent governor, Lincoln Chafee, was onboard.  From the opposing camp, various good government groups were onboard, almost in unity.

Even the ostensibly neutral media joined the parade.  After an overwhelming vote passed the legislation, the Providence Journal editorial board dubbed the achievement as “Rhode Island rescued.”  An analysis by WPRI’s Ted Nesi called the bill, “an extraordinary — and unlikely — achievement for the three leaders most responsible for shepherding it through.”

Two questions arise from this sea of consensus:  Is it really plausible that the combination of budgetary crisis and strong leadership changed the legislature’s stripes so dramatically as to make it a national example of forward-thinking government?  And should we worry that the issue’s momentum carried forward catches and promises that will ultimately harm the state?

An initial answer comes in the form of the last-minute amendment creating a 5.5% “assessment” (aka “tax”) on privatized workers.

A Long-Running Union/Assembly Goal

Back in 2007, as June 15 turned into June 16, Rep. Charlene Lima (D, Cranston) slipped a midnight amendment into the budget bill that would pass before the sun came up.  The amendment created RI General Law 42-148, “Privatization of State Services,” which requires an elaborate review and appeals process before the state can use private contractors for services previously performed by unionized public employees.

The legislation made its appearance in the midst of efforts by Governor Donald Carcieri to address the state’s structural deficits through such privatization, and within a week, his efforts ended.  As Carcieri spokesman Jeff Neal put it, “Bringing competition to the delivery of state services is one of the key ways Rhode Island will be able to fix its budget problems.  Unfortunately, it appears that solution is off the table now.”  The final nail came a year later, when the state Supreme Court declined to review the constitutionality of the law.

In essence, the legislation required a cost-comparison analysis that would pit the private contractor’s bid (plus all remaining inside and transition costs) against an optimistic “new cost estimate” from union workers, “reflecting any innovations that they could incorporate into the work performance standards.”  (Not that the law required them ever to implement the innovations.)  In order to win the contest, the outside vendor would have to offer “substantial” savings; in her initial legislation, Lima used the margin of 10%.  State workers and their unions could then use an appeals process to delay the contract award for months.

Fast forward to November 2011.  As the pension reform legislation moved toward stunningly smooth passage, the following language slipped into the mix, amidst a variety of “technical amendments”:

42-149-3.1. Assessment on state expenditures for non-state employee services. – Whenever a department, commission, board, council, agency or public corporation incurs expenditures through contracts or agreements by which a nongovernmental person or entity agrees to provide services which are substantially similar to and in lieu of services hereto fore provided, in whole or in part, by regular employees of the department, commission, board, council, agency or public corporation covered by chapter 36-8, those expenditures shall be subject to an assessment equal to five and one-half percent (5.5%) of the cost of the service. That assessment shall be paid to the retirement system on a quarterly basis in accordance with subsection 36-10-2(e).

Government leaders are quite open about the intention behind the new statute.  House Speaker Gordon Fox (D, Providence) has acknowledged it as an effort to prevent future governors from returning to Carcieri’s methods.  Richard Licht, director of the Department of Administration for the current governor, told WRNI’s Ian Donnis that “the purpose of it” is to “curb the state’s use of outside employees.”

Whatever “substantial savings” might have meant under Lima’s legislation, they now must overcome an additional 5.5% handicap, and as the state’s structural deficits continue, government officials will be nudged even more strongly toward tax increases and/or service reductions.

A Tax for the Pension System

The secondary effect of the 5.5% provision is, obviously, to introduce another taxpayer stream of revenue for the pension system.  The amount that state entities spend on contract employees is not readily available, but Licht puts the annual revenue to the pension system at a projected $2 million (though he admits that no thorough analysis has been performed).

In the context of the pension reform, however, dollar amounts have typically been described in terms of the amortization period.  That is, in the 25 years that it is supposed to take for the pension system to be sufficiently funded, this last-minute money grab will amount to around $50 million paid from the state’s general revenue.

Or Something More Insidious?

Whatever the dollar amounts, a key difference between this latest scheme and the Lima amendment should not be overlooked.  The definitions section of the 2007 law defines “in-house” services as those involving “in-house state programs and employees.”  Section 3 of the law explicitly begins the review process “prior to the closure, consolidation or privatization of any state facility, function or program.”

The new law is not so carefully limited.  It describes the included services as those provided by employees covered by RI General Law 36-8, which establishes the state pension system.  That system is not limited to state workers.  Indeed, subsection 36-10-2(e), which the new law cites for the process of payment, refers to state contributions to teachers’ pensions, as well as state workers’ pensions.  Depending how enthusiastically the various parties wish to press their advantage, it may turn out that the 5.5% assessment applies to contractors hired to perform any service “similar to or in lieu of” any employee in the pension system, whether employed by the state, a school district, or a municipality.

The most financially and politically significant example that comes to mind is that of charter schools.  In general, teachers in such schools are required by state law to participate in the retirement system, but mayoral academies can opt out.  If they do so, will their budgets be subjected to the 5.5% assessment?  Given the fact that the last-minute amendment was not thoroughly vetted before submittal nor thoroughly debated before being voted into law, that may very well be the case.

Pension Reform as a Barrier to Broader Reform

I’ve been arguing against General Treasurer Gina Raimondo’s pension reform on the grounds that it (1) is insufficient by several orders of magnitude to solve the entire problem, and (2) puts future adjustments and reforms fully in the hands of the state Retirement Board, with seven of 15 members appointed directly by unions.  Even when agreeing, supporters of the legislation have proclaimed it as a huge step in the right direction.

The privatization tax may be an early indication that crisis and leadership only yielded a quarter step forward, soon to be followed by four steps back.  At the very least, the state has one less tool to rein in its structural deficits, and the restriction may apply to any other government entity in Rhode Island that participates in the pension system but wishes to explore privatization.

The scope may broaden even more (and more definitively) if reform of municipal pensions brings additional public employees within reach of General Law 36-8.  And reformers would do well also to ponder the relevance of this latest General Assembly bait-and-switch while advocating for another of their favorite notions:  consolidation.  Bringing local services under the purview of state employees will virtually ensure that they remain forever “in house.”

Beyond all of this speculation is the likelihood that the amendment was just the first surprise that helped buy such broad assent and smooth passage for the bill.  It isn’t cynical at all to observe that, whatever else it might be, Rhode Island’s entrenched establishment is sufficiently savvy to see when basic math threatens the application of reality to unrealistic benefits and to make the best of reforms… and with a vengeance.