It's no secret problems plague California's public pension system. Serious problems.

Critics like Joe Nation, operating nowadays from his Wall Street-supported think tank at Stanford University, want everyone to focus on pension funds' investment return assumptions as a big part of the problem. You could see that in his recent op-ed in The Bee, "Pension plans should assume realistic returns" (Viewpoints, Dec. 16).

Nation's use of that ploy is understandable, because he's part of the real problem. As a state assemblyman, Nation in 2001 voted for Assembly Bill 616, which opened the door to extravagant pensions for local government employees. The bill was the son of 1999's SB 400, which did the same at the state level. Combine those two big policy mistakes with the recession, and you have the real causes of the current mess.

The two bills resulted in Cadillac public pension benefits that compounded recession-caused market losses to cause significant, new long-term liabilities.

Meanwhile, private sector workers have lost millions of jobs and seen their retirement security gutted. The end product: a system for state and local government pensions that's too expensive and politically unsustainable.

We have to reduce public pensions' cost to taxpayers and employees. But any reform effort has to begin by answering a fundamental question: What constitutes an adequate pension? Nation, in his latest report on public pensions, doesn't even bother to ask this question. Yet, he styles himself as a reformer. He's not. He's just an agenda-driven academic dreaming up Dr. Strangelove scenarios.

The governor suggests pensions should provide retirement income equal to 75 percent of working income. I agree. Starting there, here's how I'd go about reforming the system.

First, fully integrate public pensions with Social Security. Then mandate for new employees a hybrid plan that would work like this: a defined benefit component, including Social Security, would guarantee 75 percent replacement income for employees who work a full career, which should be longer than under current rules. A 401(k)-style defined contribution component would supplement the defined benefit plan. Additionally, increase the number of years folks have to work to collect full benefits.

Finally, increase the age at which employees can start collecting benefits.

To speed the process of cutting unfunded liabilities, a significant number of current employees would have to switch to the new, cheaper plan. But they can't be forced to move. Government doesn't get to break its promises to workers who earn their pay and benefits. Some folks would like us to do that. They never would suggest the state tell bondholders, "Sorry, but we decided not to pay you the interest we owe you." They wouldn't think of letting a city tell government contractors, "Thanks for the work. But we're not going to pay you after all." But for some reason, these "reformers" think it's okay to break promises to workers. It's not. It's unconstitutional. And it's wrong.

We can find ways to encourage current employees to move voluntarily to a plan that saves taxpayers' money, and theirs. For example, we could reduce how much employees contribute to the new, lower-cost plan. They would trade increased take-home pay (not a pay raise) for less generous retirement benefits. If employees converted past service years to the reduced-benefit plan, it might be possible to use some of the contributions they already have made to their pensions to seed the 401(k) component of their new plan. This kind of approach might be particularly attractive to younger workers.

Nation, in his Dec. 16 Bee op-ed, said California's public pension managers must stop using unrealistic investment return assumptions and get real. That argument is as bogus as his numbers.

Consider these facts: CalPERS and CalSTRS use an investment return assumption of 7.75 percent. Over the last 20 years, CalPERS has beaten 7.75 percent in 14 years.

Over the last 30 years, CalPERS' annual average return was 9.66 percent. Over the last 20 years, CalSTRS' annual average was 8.1 percent.

Over the same period, UC's annual average was 8.97 percent. Stanford's main investment pool averaged 9.5 percent over the last 12 years. Stanford's retiree health benefit plan uses an 8 percent assumed rate of return – higher than CalPERS and CalSTRS.

This history shows clearly that it's Nation and others of his ilk who ignore reality. Nation proposes public pensions switch to a 6.2 percent investment return assumption. To concoct the 6.2 percent figure, Nation looks at returns over the past 100 years for an investment portfolio composed of 80 percent equity and 20 percent income. The report doesn't indicate whether the allocation to private equity and real assets – two major drivers of returns for public pension funds – mirror the allocations used by CalPERS and CalSTRS. Maybe we should call Nation's model the black box portfolio.

And here's a question: When California's public pensions use their actual investment mix, and the best financial experts, to calculate their return assumptions, Nation and his allies say use of historical data produces unrealistic assumptions.

But when Nation uses his "black box" portfolio to cook up different numbers that serve his purpose, history is OK, and the result beyond reproach. Why is that?

What's especially disappointing is that the media buys this snake oil. And anyone who refuses to be a sucker is branded a reform enemy and labor union lackey.

Note to press: Donors to Nation's think tank include entities that make a lot of money when workers invest in 401(k)s: Goldman Sachs, Citigroup, Credit Suisse, Deutsche Bank and major accounting firms. The think tank's director has advocated using 401(k) accounts to privatize Social Security.

The investment return debate may seem esoteric, but it's crucial. The lower the number, the higher the unfunded liability. The higher the unfunded liability, the greater taxpayers' burden.

If Joe Nation and his allies carry the day, taxpayers will have to unnecessarily shell out billions and billions of dollars more than they now spend on public pensions. And our schools, public safety, health care and other vital public services will needlessly suffer further damage.

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Bill Lockyer is California's state treasurer.

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