Dan Walters

Two decisions could make big changes in California’s public pension system

CalPERS investment committee urged to divest tobacco holdings

The CalPERS investment committee heard from the public, including Sandy Emerson, a representative of Fossil Free California, on May 16, 2016 before deciding to speed up a study on divesting from tobacco and other forbidden investments.
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The CalPERS investment committee heard from the public, including Sandy Emerson, a representative of Fossil Free California, on May 16, 2016 before deciding to speed up a study on divesting from tobacco and other forbidden investments.

For decades, California’s powerful public employee unions have staved off major changes in pension finances.

Proposed state ballot measures have been starved for funds, local pension reforms have faced ruinous litigation, and the union-controlled California Public Employees’ Retirement System has fiercely opposed pension cuts in bankrupt cities and imposed large penalties on governments attempting to withdraw.

However, economic reality – huge shortfalls in pension fund earnings assumptions – and a tactical error by union officials may create immense changes next year in how California’s public pensions are calculated and financed.

Despite sharp increases in mandatory “contributions” from state and local government employers, CalPERS’ trust fund has scarcely two-thirds of what it needs to cover present and future pension payments – and that assumes it will earn 7.5 percent on its investments.

For the past two years, those earnings have been near zero. CalPERS’ own investment adviser says they are unlikely to average more than 6.2 percent.

It’s forcing the CalPERS board to consider lowering its “discount rate,” which would drop its funding level even lower and probably require even heavier injections of taxpayer money.

The unions don’t like it, because it could adversely affect their nonstop efforts to gain higher salaries, and local governments are nervous because pension costs already have hammered their budgets and contributed to the bankruptcy of three cities.

Gov. Jerry Brown, however, has been urging action, saying that delay would worsen the inevitable day of reckoning.

“If you care about this system, if you’re concerned about the payment of benefits to members, the most important thing we can do is shore up the funding,” Brown’s CalPERS board member, Richard Gillihan, said when the issue arose. “And we can’t wait to do that. It’s pay now or pay more later.”

It’s unlikely that the board will drop the rate below 7 percent, which means that if earnings continued to lag, the system’s unfunded liability would continue to rise as it sells off assets to make payouts that already outstrip income from employers and employees.

Four years ago, Brown persuaded the Legislature to enact a very mild pension reform, aimed at ending some abuses such as “spiking” and creating a second, lower tier of benefits for future employees.

Rather than accept the reforms, however, several local unions – those of police and firefighters, especially – have gone to court, alleging that the anti-spiking provisions violate the “California rule” – legal rulings that pension benefits, once granted, cannot be involuntarily changed.

Fighting the reforms, however, may turn out to be a huge blunder, because one state appellate court, in a case out of Marin County, already has punched a hole in the California rule, and another is to soon decide another, similar case.

The state Supreme Court had accepted the Marin case and is awaiting a ruling in the other before deciding whether the California rule, first enunciated in a state Supreme Court case 61 years ago, is still valid.

Were it to be junked, it would allow public employers to offset their rising costs with pension changes, such as preserving benefits already earned by current workers, but lowering benefits tied to their future work.

Those two decisions, one by CalPERS itself and another by the Supreme Court, will likely make 2017 a landmark year in the perpetual pension debate, with consequences that last decades.

Ted Eliopoulos, CalPERS chief investment officer, is featured on this CalPERS video explaining how the fund can exploit the Brexit impact on the stock market.

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