The High Cost of Teachers’ Compensation: Rust Belt Teachers’ Pensions Have Larger-Than-Reported Deficits
Even with a 20.37 percent increase in the value of its portfolio in 2010-2011, the Pennsylvania Public School Employees’ Retirement System hasn’t exactly had much success growing its portfolio out of one of the nation’s largest pension deficits. Over a three-year period between 2006-2007 and 2010-20-11, the pension’s investments grew by just four-fifths of one percent, according to its annual report released this past December. It did little better over a five-year period between 2006-2007 and 2010-2011, with a rate of return of 3.89 percent. Given this reality, one would think that PSERS would simply adjust its expected rate of return to fit reality, which is more like 5.5 percent (based on the growth of the S&P 500) or possibly even lower. Yet PSERS still maintains that its assets will increase by 7.5 percent every year (though admittedly, it did concede in 2011 that the rate had to be lowered from an even more-inflated 8 percent).
At the same time, it isn’t much of a wonder at all. After all, adjusting its rate of return downward would actually reveal that its pension deficit is larger than the $26.4 billion it reported for 2010-2011. Based on Dropout Nation‘s analysis using a calculation developed by Moody’s Investors Service, PSERS’ deficit would likely be $33.5 billion, or 27 percent higher than than it currently reports. Keystone state districts would have to pay out an additional $2 billion a year for 17 years just to make up the underfunding. This is 81 percent more than the $2.4 billion in annual contributions that must be made to the pension in 2010-2011 and three times more than the $647 million districts actually paid out that year. And while the state did trim retirement benefits for new hires in 2010 through the passage of Act 120, the generous benefits being paid out to current retirees (and will be ladled out to Baby Boomers heading into retirement in the next few years) means that the pension’s virtual insolvency is unsustainable.
Certainly PSERS isn’t the only teachers’ pension that is a bust in all but name only. As Dropout Nation has documented over the past few weeks (and, actually, longer than that), decades of dealmaking between states, districts, and affiliates of the National Education Association and the American Federation of Teachers is rearing its ugly head just as state governments must also deal with increasing Medicaid costs driven by the passage of the Affordable Care Act. The high costs of thees pensions — along with the longstanding neglect by state governments, who, with the acquiescence of NEA and AFT affiliates, have promised generous benefits without fully funding them — is now playing as much a role in driving systemic reform as the consequences of the nation’s education crisis. Given that defined-benefit pensions (along with near-free healthcare benefits, near-lifetime employment rules in the form of tenure, and seniority- and degree-based pay scales) have been proven to be ineffective in either spurring improvements in student achievement, are a disincentive in rewarding high-quality work by teachers (who get the same levels of compensation as laggard colleagues), and actually serve as a disincentive to luring math and science collegians into teaching, it is high time to scrap this and other aspects of traditional teacher compensation.
But a major problem in addressing the issue lies in the lack of full disclosure about the true size of the pension deficits. Thanks to the use of actuarial rules by public-sector pensions that would be intolerable in the private sector — including overly-inflated rates of return that don’t match long-term growth on the Standard & Poor’s 500, as well as not disclosing the underfunding of retired teacher healthcare costs which are often handled by pensions on behalf of districts — teachers’ pensions have gotten away with arguing that everything is just fine. These tactics have been especially galling when one reads through annual reports that admit up front that the actual rates of return haven’t been anywhere close to those inflated expected rates of growth. But thanks to the efforts of the Government Accounting Standards Board — which has pushed to require pensions, along with state governments, to reveal the true size of their healthcare liabilities — and the work of activists, researchers, and rating firms such as Moody’s, we can now get a better sense of the size of the burdens.
For example, Ohio’s teachers’ pension expects a rate of return of 7.75 percent for the defined-benefit pension (along with a rate of return of 6.1 percent for its healthcare fund) even though it only reaped a 2.93 percent increase over a three year period and 4.48 percent in five years ending in 2010-2011. This allows the pension to report a $47 billion pension deficit for the 2010-2011 fiscal year, and $2.1 billion in unfunded teacher healthcare liabilities over that period. But based on Dropout Nation‘s analysis (using a more-likely 5.5 percent rate of return), Ohio’s teacher pension deficit is likely $61 billion, or 30 percent higher than officially reported, while the healthcare liabilities are more like $2.3 billion (an 8 percent increase over what is officially reported). Over the next 17 years, districts would have to pay out $3.6 billion a year to pay down the pension deficit, while pour another $135 million a year into settling the healthcare costs. At least the good news is that the Buckeye State’s officially reported teacher healthcare liabilities (as well as Dropout Nation‘s estimate) are only a quarter of the size they were officially reported to be in 2009-2010.
The move by Gov. John Kasich and legislators last September to require teachers to pay 40 percent more into their pensions (from 10 percent to 14 percent of paychecks), as well as other changes may help reduce some of those deficits. But more will likely have to be done. And that includes moving away from other aspects of traditional teacher compensation.
Then there is Indiana’s long-busted Teachers Pension Fund, whose pension deficits have never been addressed by the Hoosier State in a responsible manner. Two decades ago, then-governor Evan Bayh and the legislature failed to take the opportunity to use the state’s budget surpluses to address the deficit in TRF’s main defined-benefit pension. The state agency that operates the pension, the Indiana Public Retirement System, assumes a seven percent rate of return even as it admits that the three-year rate of return for TRF and its other pensions (ending in 2011-2012) was just 11 percent, and only two-tenths of one percent over a five-year period. This allows for an official pension deficit of $11.5 billion. But based on Dropout Nation‘s analysis, the pension deficit is more like $14 billion, or 20 percent more than officially reported. Districts would have to pay out an additional $814 million a year over 17 years just to make up the underfunding, double the $734 million currently being paid out now.
The good news, sort of speak, is that the Hoosier State is moving to nudge down its expected rate of return from 7 percent to 6.75 percent. But that is still not even close to reality. Gov. Mike Pence and his colleagues inside the Indiana Statehouse will have to get to work on addressing these deficits — just as it faces at least $170 million in new Medicaid costs for its 2013-2015 biennial budget period.