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The Origins and Severity of the Public Pension Crisis

The Origins and Severity of the Public Pension Crisis. Presentation to EARN Dean Baker Co-Director Center for Economic and Policy Research September 13, 2011. Key Points on Public Pensions  The main cause of the shortfall was the economic collapse.

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The Origins and Severity of the Public Pension Crisis

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  1. The Origins and Severity of the Public Pension Crisis Presentation to EARN Dean Baker Co-Director Center for Economic and Policy Research September 13, 2011

  2. Key Points on Public Pensions  • The main cause of the shortfall was the economic collapse. • The shortfalls are manageable (use percents, not dollars). • The return assumptions are reasonable .

  3. The Crisis Caused the Shortfall

  4. The Crisis Caused the Shortfall The plunge in the stock market cost pension funds almost $860 billion, compared with a situation where they earned the risk free rate of return. If state and local governments had continued to contribute to funds at the 2004-2007 rate in 2008-2010, they would have gotten another $77 billion contributions. The total impact of the downturn was more than $930 billion, more than many estimates of the pension shortfall.

  5. Putting the Shortfall in Context • Trillions of dollars are not informative, but they are scary. • Pension shortfall is equal to about 0.2% of GDP over the next 30 years (differences by state). • The shortfall is equal to about 1.5% of state budgets and a bit more than 2% of tax revenue.

  6. The return assumptions are reasonable Should pensions assume risk-free rates of return (4.5%) or expected rates of return on assets (8%)? Return assumption is reasonable – it depends on current price to earnings ratios and projected growth.

  7. Source: BEA, Federal Reserve Board, and author’s calculations.

  8. Source: CBO, Federal Reserve Board, and author’s calculations.

  9. Implications of assuming risk free rates • Investing in equities would give volatility – but not gains – in projected returns. • Increased near-term funding = less funding in the future. (This is like pre-funding schools or fire departments.) • Managers would have to make up shortfalls in periods of down markets just as they do now. • There will be pressure to not invest in equities: • Would raise the cost of pensions to taxpayers, • An incentive to drop DB pensions, • Then workers would have to invest individually in stock market.

  10. Longer-term picture • Private sector workers have lost DB pensions. • Private sector workers need pensions. CEPR plan: A Voluntary Default Savings Plan: An Effective Supplement to Social Security (www.cepr.net/index.php/publications/reports/a-voluntary-default-savings-plan)

  11. Conclusion • Public sector pension plans are an important part of employee compensation. • They are affordable. • The problem is that the private sector workers don’t have pensions, not that the public sector workers do.

  12. www.cepr.net/index.php/component/option,com_issues/Itemid,22/issue,50/lang,en/task,view_issue/www.cepr.net/index.php/component/option,com_issues/Itemid,22/issue,50/lang,en/task,view_issue/

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