Gavin Newsom deserves credit for his unprecedented proposal to pay down California’s pension debt. But don’t kid yourself: The amount is a pittance compared to the overall shortfall of the state’s retirement funds.
The real test will be whether the new governor supports fundamental and essential pension law changes sought by his predecessor, Jerry Brown, to stem the escalating costs for the state and local governments.
During the campaign, Newsom opposed Brown’s legal push, which is currently pending before the state Supreme Court. But, now that he’s in office, Newsom says he’s evaluating the case.
The fundamental problem is that the pension and retiree health benefits promised to public employees in California are more generous than the state and local governments can afford.
Compounding the problem, state and local officials have failed to set aside adequate money to finance them. They have instead relied heavily on overoptimistic investment earnings forecasts to bolster the funds.
As a result, Newsom has inherited a staggering $257 billion shortfall in state and school workers’ pension and retiree health care funds. It’s money the state should have now to cover, after investment returns, future benefits.
That $257 billion debt is 37 percent higher than when Brown took office eight years ago. That’s right: For all his insistence that he was a pension reformer, despite his claims to have wiped out state debt, and despite California’s tremendous economic recovery during his tenure, Brown left the state with more retirement debt than when he took office.
What makes this debt so insidious is that its money owed for benefits employees already earned with past labor. Like any other benefit, the money should have been set aside when the employees performed the work. It should have been treated just like salary or any other compensation.
Instead, the state is stretching the debt out for decades, making our children and grandchildren pay for government services we’ve already received.
So Newsom’s proposal, announced this month, to pay down the debt by $6.4 billion using one-time money in the current and upcoming fiscal year budgets is a positive step. But it’s just 2.5 percent of the debt.
Meanwhile, the debt will likely grow. The state’s pension funds continue to overestimate how much they expect to earn on investment of money they do have – and when those investments fall short taxpayers are on the hook to make up the difference.
There are two solutions:
First, tamp down the overly optimistic investment predictions, which would mean asking employees and already-strapped employers, especially local governments, to put even more money into the system.
Newsom, during the campaign, seemed to favor that approach. He was explicit during an editorial board interview with us in April that he considered the 7 percent annual earnings assumptions used by CalPERS to be overly optimistic. He’s right. Even the pension system’s own consultant says a 6.2 percent forecast is more likely over 10 years.
What Newsom wasn’t clear about is where state and local government would get the money to responsibly fund the system.
Second, reduce the cost of the benefits. Unfortunately, when it comes to pension benefits in California, that’s very difficult due to a series of misguided state Supreme Court rulings dating back to 1947.
The high court has said that, unlike in the private sector, once public employees start work, the rate and the terms under which they accrue pension benefits cannot be reduced.
Under the so-called California Rule, benefits workers have already earned could not be reduced – which is only fair – and the rate at which workers earn benefits for future labor is also locked in – which is misguided. We don’t predetermine salary, but we do predetermine pension accrual rates.
The reality is that these benefits are generally too expensive for state and local government to afford. As the state’s watchdog Little Hoover Commission said in a prescient 2011 report, the problem cannot be substantially eased without reducing future benefit accrual rates for current employees.
Brown was challenging the rigidity of the California Rule when his term ended. The first of a string of cases was argued in December and a state Supreme Court ruling is expected soon.
Newsom, during that April editorial board interview, disagreed with Brown and declared his support for the California Rule. However, when I asked him about it this month, Newsom said he was evaluating his legal position.
Where he lands on that will determine whether he wants to truly tame the state’s retirement costs or fiddle on the margins.
