Hostname: page-component-78c5997874-mlc7c Total loading time: 0 Render date: 2024-11-10T12:18:16.207Z Has data issue: false hasContentIssue false
  • English
  • Français

Accounting for the rise in unfunded public pension liabilities: faulty counterfactuals and the allure of simple gain/loss summations*

Published online by Cambridge University Press:  03 October 2016

ROBERT M. COSTRELL
ROBERT M. COSTRELL*
Affiliation:
Department of Education Reform, University of Arkansas, 201 Graduate Education Bldg, Fayetteville, Arkansas, 72701, USA (e-mail: costrell@uark.edu)
Get access Rights & Permissions [Opens in a new window]

Abstract

This paper provides a methodological critique of an influential method for assessing the impact on the Unfunded Accrued Liabilities (UAL) of the gap between assumed and actual investment returns over extended periods, and offers a sound replacement. The method in question simply sums over time the components of the annual actuarial gain/loss report. This implicitly assumes that in the counterfactual exercise, the interest on the additional UAL is covered dollar-for-dollar by amortization. But under actual funding formulas amortization usually varies less than interest. This means there are large intertemporal interactions between the gap in investment returns and subsequent shortfalls between contributions and interest. Using the actual funding formula in the counterfactual can lead to much higher estimates of the UAL impact of the gap in investment returns because it does not assume away these interactions. This method can more accurately inform policy-makers, regarding the importance of cutting the assumed rate of return.

Keywords

H75Public pensionsunfunded liabilities
Type
Articles
Information
Journal of Pension Economics & Finance , Volume 17 , Issue 1 , January 2018 , pp. 23 - 45
Copyright
Copyright © Cambridge University Press 2016 

Access options

Get access to the full version of this content by using one of the access options below. (Log in options will check for institutional or personal access. Content may require purchase if you do not have access.)

Footnotes

*

An earlier version of this paper was presented at the Fall Research Conference of the Association for Public Policy and Management, November 12, 2015, Miami, FL. I have received particularly helpful comments from Andrew Biggs, Josh McGee, and Martin West. I would like to acknowledge the early support of StudentsFirst and EdBuild for my work on Connecticut.

References

Aubry, J-P. and Munnell, A. H. (2015) Final report on Connecticut's state employees retirement system and teachers’ retirement system. Center for Retirement Research at Boston College, November 2015.Google Scholar
Biggs, A. G. (2015) The state of public pension funding: are government employee plans back on track? American Enterprise Institute, Economic Perspectives, September 2015.Google Scholar
Brown, J. and Wilcox, D. (2009) Discounting state and local pension liabilities. American Economic Review, 99(2): 538–542.Google Scholar
Connecticut State Teachers’ Retirement System, various years, Actuarial Valuation.Google Scholar
Costrell, R. M. (2016) The 80 percent pension funding target, high assumed returns, and generational inequity. Contemporary Economic Policy, forthcoming, special issue on aging and pensions.Google Scholar
Dobbs, R., Koller, T., Lund, S., Ramaswamy, S., Harris, J., Krishnan, M. and Kauffman, D. (2016) Why Investors May Need to Lower their Sights. McKinsey Global Institute, Brussels, San Francisco, and Shanghai.Google Scholar
Malloy, D. (Governor of Connecticut) (2015) Connecticut's Economic and Budgetary Reality, PowerPoint presentation, Hartford, CT, 28 October 2015.Google Scholar
Munnell, A. H., Calabrese, T., Monk, A. and Aubry, J-P. (2010) Pension Obligation Bonds: Financial Crisis Exposes Risks, Center for Retirement Research at Boston College, Number 9, January 2010.Google Scholar
Munnell, A. H., Aubry, J-P. and Cafarelli, M. (2015) How Did State/Local Plans Become Underfunded? Center for Retirement Research at Boston College, Number 42, January 2015.Google Scholar
Novy-Marx, R. and Rauh, J. D. (2009) The liabilities and risks of state-sponsored pension plans. Journal of Economic Perspectives 23(4): 191–210.Google Scholar
Novy-Marx, R. and Rauh, J. D. (2011) Public pension promises: how big are they and what are they worth? Journal of Finance 66(4): 1211–1249.Google Scholar
State of Connecticut (2008) New Issue. $2,276,578,270.55 State of Connecticut, Taxable General Obligation Bonds, 16 April 2008.Google Scholar
State of Connecticut (2014) Annual Information Statement, February 28, 2014, revised 8 December 2014.Google Scholar