New Pension Reform Bill

Today’s Union Leader is reporting that New Hampshire Senate Republicans are planning to unveil a new pension reform package.  According to the article:

The bill raises mandatory contributions by employees, increases retirement ages and required years of service, cuts the number of workers serving on the New Hampshire Retirement System and reduces the compensation that can be considered in pension formulas.

The bill also calls for a study that could lead to creation of a plan like the 401(k) plans that have come to dominate retirement planning in the private sector.

This is an encouraging step forward in the discussion, but more aggressive steps will be necessary in the future.  As we pointed out previously, the current New Hampshire pension liabilities are being dramatically underestimated.  A more detailed study on this issue is forthcoming.

Overall, the article hits the nail on the head in terms of the primary concern of the bill:

For the most part, the changes will apply to people who are hired after June 30, 2011. Others apply to those with less than 10 years of service, including the changes in retirement age.

The fact that most conditions won’t change for more experienced workers means the reforms would have a slow-motion effect on righting a serious funding shortfall.

Repeal New Hampshire’s “Evergreen” Law

The Union Leader is reporting that the Senate Public and Municipal Affairs Committee has voted 4-1 to repeal the state’s “evergreen” law (Senate Bill 1).  The evergreen law automatically extends public employee contracts regarding compensation packages in the event that the contract is allowed to expire without a new one to take effect.

The evergreen law deserves to be repealed because, first and foremost, it effectively puts the will of public employees ahead of the will of taxpayers.  Public employees work on behalf of the taxpayer not vice-versa.

Additionally, the public employee union has little incentive to come to the negotiating table if the circumstances don’t favor them.  For instance, suppose a town is facing a budget crisis and needs to cut spending.  The unions, realizing their compensation is on the block, could simply let the existing contract expire without negotiating a new one knowing the evergreen law mandates the provisions of the old contract.

This point was raised in the article:

Municipal and school officials from Bedford, North Hampton, Milford and Portsmouth testified in support of the repeal, saying it makes it difficult to get unions to negotiate new contracts, especially in difficult economic times.

Not discussed in the article, but really important, is that the repeal of the evergreen law, if enacted, would be the first small step of many big ones required to get New Hampshire’s pension crisis under control.

New Hampshire’s Pension Burden

According to a recent report by the Pew Center on the States, in 2008, New Hampshire’s unfunded pension liability was $2.5 billion. Put simply, this means that the pension obligations owed ($7.8 billion) exceed the assets set aside ($5.3 billion) to pay them by $2.5 billion.  To pay for these obligations, New Hampshire’s state government was required to pay $252 million but only managed to contribute $189 million.  Not meeting these minimum payments only worsens the situation.

However, economists Robert Novy-Marx and Joshua Rauh have found that official pension and liabilities are being dramatically underestimated based on current actuarial methods. The problem revolves around the “discount rate” or “interest rate” used.  For example, a 5 percent interest rate means that a $100 today grows to $105 a year from now ($100 time 5 percent) while a 5 percent discount rate means that $105 a year from now is worth $100 today.  In effect, the discount rate is the opposite of the interest rate.

As shown in the table below, they found that New Hampshire’s $7.8billion unfunded pension liability increases to somewhere in the range of $9 billion to $14.2 billion.   More disturbingly, the maximum pension liability ($14.2 billion) is 24.6 percent of Gross Domestic Product ($57.8 billion).  Not that this offers much comfort, but at least that level of liability is only the 46th highest percentage in the country.  In number 1 ranked Ohio, pension liabilities exceed 71 percent of GDP!

As bad as that news is to policy-makers, new information paints an even more disturbing picture.  Since the reported pension liabilities are being dramatically understated, the current payments to the pension system are insufficient to fully-fund the pension system.  Not paying their full contribution (as the state did in 2008) only compounds that problem.  As a result, the pension system will at some have to start cashing-in the pension’s assets in order to pay benefits.

According to their calculations (pdf), New Hampshire’s pension system will run out of money in 2022—only twelve years from today. This is the 8th earliest (tied with Colorado, Kansas and Kentucky) date for insolvency in the country.  The earliest date is held by Illinois when they are projected to run out of money by 2018.

As we near the end of campaigning for this election cycle, the next Legislature and Governor will have to spend time reforming New Hampshire’s pension system.  If they do not, New Hampshire’s credit rating will begin to suffer and the cost of all debt will rise–and taxes along with it.