California Public Employee Pension System Sustained A $30B Loss So Far In 2022

The already unbearable burden California’s taxpayers are staggering under in defraying the pension costs of retired public sector employees has grown heavier still as the California Public Employees’ Retirement System has sustained investment losses approaching $30 billion through the first ten months of 2022.
The California Public Employees Retirement System is the pension system for all of state government’s employees, the employees of 427 of the its 482 cities, 36 of its 58 counties, and more than 900 other public agencies, including trial courts, special districts, transportation and transit districts, sanitation districts, library districts, fire districts, water districts, housing authorities, flood control districts, pest control districts, air quality districts, community college districts, park & recreation districts, hospital districts, utility districts, port authorities and cemetery districts.Cities, counties and other public agencies that are participants in the California Public Employee Retirement System, which is known by its acronym, CalPERS, contribute a given amount of money to CalPERS for each employee. CalPERS then invests that money in a variety of financial instruments, including the stock market and real estate ventures. The return on, or earnings from, those investments is utilized to pay out the pensions to the retired employees.
The two most common types of pension systems are either a defined-contribution plan or a defined-benefit plan.
In a defined-contribution plan, the employer and employee make matching contributions on a regular basis toward the retirement fund set up for each employee. That money is either put into an interest-bearing account or invested. Upon the employee’s retirement, money drawn from that particular retiree’s account is dispensed on a regular basis, monthly, quarterly, every six months or yearly, to that employee as his or her pension. In a defined-contribution plan, the amount of the employee’s pension is not guaranteed, but instead controlled by how much money is in that particular employee’s retirement account and the earnings from the interest or investments made by the money in that account. If the value of the investments go up, the amount of the pension goes up. If the investments fare poorly, the retiree’s pension goes down.
In a defined-benefit plan, the retiree is provided with a guaranteed pension based on the number of years of employment, the highest salary that retiree earned while employed multiplied by an agreed-upon percentage, usually between 2 percent and 3 percent, times the number of years the employee was employed in California’s public sector.
In a defined-benefit plan, the employer accepts all of the investment risk relating to the retirement fund, such that if the investments over a given year fail to achieve the returns needed to meet the amount of the yearly payout guaranteed to the retired employee, the employer, such as a city or county, must then make up for the degree to which those earnings have fallen short.
The California Public Employees Retirement System is a defined-benefit plan, meaning all of the participants in it have guaranteed that those who have retired as city employees will receive the full pensions offered them when they were employed with the city.
During the strong economy of the late 1990s and early 2000s, the California Public Employee Retirement System was heavily invested in the booming stock market, which was advancing on the basis of rapidly prospering start-up technology companies. At that point, CalPERS was superfunded, and its investment earnings had created a circumstance where it reportedly had 140 percent of the money it needed to meet its obligations to all of its then-current pensioners. This exuberance led to the mistaken belief that the state’s public employee retirement fund would remain shipshape perpetually. Along with the overall bright financial picture at that time, many municipal governments throughout California provided their employees with substantial salary and benefit increases.
In the years since, the ebb and flow of the economy, which included the so-called Great Recession which lasted from 2007 until 2013, has shown that the ebullience that led to the provision of those inflated benefits was unjustified. In order to keep up with the financial demands of those commitments, cities up and down the state find themselves reducing the level of services they provide and even reducing their current workforces so they can ensure that past employees are paid their pension stipends.
The sheer number of new retirees in California on a daily, weekly, monthly and yearly basis overmatches the number of pensioners leaving the system as the result of death, straining the system further. The California Public Employee Retirement System a few years ago set an investment earnings goal of 7.5 percent annually. Under that standard, cities, counties and other public agencies participating in the system needed to make their standard annual contribution and no more in those circumstances when the 7.5 percent return on CalPERS investments was met. When CalPERS investments fell below 7.5 percent, the state, participating cities, counties and agencies had to make up the difference.
Drops in stock values and any sort of sustained economic downturn or financial slump generally mean that the California Public Employees’ Retirement System’s fiscal position deteriorates as its return on its investments do not net the returns needed to keep the pension plan fully funded, resulting in cities and counties throughout the state along with the state government itself having to step up and make substantial payments beyond what they normally make to CalPERS. For cities, this means money that otherwise is used for basic operations, paying salaries and providing services to residents is in short supply. That translates into layoffs and resultant manpower shortages and service reductions, along with delays in constructing new infrastructure, the deterioration of existing infrastructure and the deferring of purchasing new equipment and vehicles and the neglect of maintenance and servicing to city assets.
The difference between the total amount of benefits owed to all of a city’s current employees & retirees and the value of the financial assets devoted to that city’s pension plan is referred to, in municipal parlance, as an unfunded pension liability, what is more commonly understood by the public to be pension debt.
In recent years, several cities in San Bernardino County have seen their unfunded pension liabilities zoom to in excess of $100 million.
A significant factor in the pension debt crisis consists of the very generous terms contained in the formulas for those pensions. Generally speaking, employees are eligible to retire at the age of 55 to 60 and begin to draw a yearly pension equal to two percent of their highest annual pay, including salary and overtime, multiplied by the number of years they were employed in the public sector in California, while law enforcement and management echelon employees are generally eligible to draw pensions equal to 2.5 percent or 3 percent of their highest annual pay times the number of years they were public employee. Thus, lifelong city, county or public agency employees are eligible to draw anywhere from 50 percent of their highest salary to 100 percent of their highest salary or more. In this way, there are now over 27,000 governmental retirees in California who collect a pension of more than $100,000 per year.
After years of missing its 7.5 percent earnings goal, CalPERS reduced it to 7 percent and more recently reduced it to 6.8 percent. Last year, CalPERS administrators, city officials, employees and retirees were heartened over the performance of the CalPERS investment pool, when it reached a whopping 21.3 percent. There was confidence that the trend would continue and, with the public retirement system no longer under a strain, the economy in general would continue to rebound. Confidence returned that cities, counties and public agencies would resume spending well in excess of 90 percent of their revenues on present day and ongoing operations rather than devoting upwards of 20 percent and approaching or in some cases exceeding 30 percent of that revenue on paying pensions to employees who were no longer working.
This year, however, the performance of CalPERS investments has been atrocious, nowhere near the minimal 6.8 percent. Indeed, those returns were not gains at all but losses, in the neighborhood of -6.1 percent, calculated through June. That meant CalPERS had lost, in the first six months of 2022, a staggering $28.8 billion. In the most recent four months, from July through October, that loss, calculated over the entire year, has been closer to -7.5% for its fiscal year, a steepening decline from the abysmal returns reported at mid-year.
Even if things stabilize through November and into December, it appears that the best CalPERS will do in 2022 is lose $29.6 billion.
The already astronomical unfunded pension liabilities cities are running will intensify. Put in stark, mind-numbing terms, the unfunded pension liability across the entire system has now zoomed to somewhere in the neighborhood of $166 billion, give or take a billion or two. If the citizenry of California – all 39,995,077 residents of the state – were called upon to simply make square with what they owe to their governmental pensioners to date, excluding what they are to be paid in the future along with the financing costs of that debt, meaning interest, everyone – men, women and children – would each have to cough up $4,150.51.
CalPERS reserves – to the extent that CalPERS can be said to have reserves – are tied up in its investments. Every penny and more of its operating capital is utilized in paying pensions and its 2,843 employees. In fact, doing just that – operating – costs more money than CalPERS has. For every dollar CalPERS pays out, it only brings in 72 cents.
Unless, governmental officials, meaning the California Legislature and the governor and the collective boards of supervisors of the 36 counties, the city councils of the 427 cities and the governing boards of the more than 900 agencies, districts and authorities that are participating in the California Public Employees’ System develop the will to force the system to reform itself and reduce the generous pensions promised to those former governmental workers now receiving those pensions and the current governmental employees who will receive those pensions in the future, the state’s taxpayers and the state’s cities and counties and public agencies will need to up their contributions to the system to make up the difference between the expected 6.8 percent rate of return and current -7.5 percent investment performance, meaning there will be even fewer police patrolling local streets, fewer firemen and paramedics aboard fire trucks and in medical response units, fewer streets being repaved, fewer cracked sidewalks being repaired, more rather than fewer weeks between the grass being mowed in municipal parks, fewer trees in parkways and medians being trimmed, and a diminution in municipal services generally.
It is increasingly apparent that lower annual investment return means that CalPERS is becoming a liability to the state and its government administrative and managerial systems and processes that cannot be maintained unless some balancing of the cost of pension payments and income into the pension system can be achieved. With the current prognostication of a recession, economic and fiscal sluggishness and an anticipated $24 billion state budget deficit in 2023-24, something has to give.
It remains to be seen as to whether the state’s politicians have the will to confront the public employee unions, which will invest heavily in political campaigns to oust current officeholders from their elected positions if those officeholders displease them, and nevertheless seek meaningful public pension reform.
Such reform could involve one or more components, including a call for public employees to devote a significant – meaning 25 percent to 33 percent – of their income to maintaining the pension system; that the system’s managers otherwise impose on those pensioners some rational cap – say in the neighborhood of $100,000 annually – on the benefits they receive; or that CalPERS transition from being a defined-benefit plan, in which the retirees are provided with guaranteed pensions to a defined-contribution plan, such that if the CalPERS investments pool fares poorly, the retirees’ pensions go down.
-Mark Gutglueck

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