House Ways and Means Committee Hearing
On May 5, 2011, the Oversight Subcommittee of the House Ways and Means Committee held a hearing on “The Transparency and Funding of State and Local Pension Plans.” A stated purpose of the hearing was to explore whether “enhanced transparency in the reporting of the financial health” of public plans was warranted, and to review H.R. 567, the Nunes PEPTA bill.
Subcommittee Chairman Charles W. Boustany, Jr. (R-LA), began by saying that whether the underfunding of State and local pension plans is $700 billion or over $3 trillion, “it is a serious concern for workers and retirees, for State and local governments, and for taxpayers in general.” Boustany charged that “There is growing consensus that accounting standards for public sector pensions encourage state and local governments to overpromise, underfund, and take on risky investments by discounting guaranteed future benefits against unrealistic rates of return.“ He also stressed that since some have raised the specter of a Federal taxpayer bailout to cover the unfunded liabilities of public pension plans, “it is important for the Subcommittee to review this issue and to consider possible approaches to ensure that no such Federal taxpayer bailout is ever needed.”
Congresswoman Lynn Jenkins (R-KS) was much more candid, saying that she found it “a bit ironic that Congress, which doesn’t have the political will to take action to fix Social Security, is here today talking about our great concern with state and local government pensions.” She said that she wasn’t sure “if any of us have great credibility on the issue.”
Democrats on the Subcommittee raised strong objections to the hearing. The Ranking Member, Congressman John Lewis (D-GA), asserted that “Republicans have set their sights on the teachers who educate our children, police officers who keep our communities safe, and first responders in moments of crisis.” “They are not the cause of the current economic situation” Mr. Lewis said. “They are simply hard-working Americans trying to retire with dignity and escape poverty as they age,” he stressed.
Congressman Jim McDermott (D-WA) agreed. “Let’s be clear,” he said, “there is no problem with most state-run pensions.” Although Mr. Boustany claimed that public plans are legitimate reasons for federal concern because the Internal Revenue Code “subsidizes retirement savings and gives preferential tax treatment to state and local debt,” Mr. McDermott said that there is “no federal role in state-run pensions.” McDermott charged that Republicans were using the hearing simply as a “political tool to attack the middle-class workers who teach the children of wealthy people, and the cops and firefighters who keep them safe, and the workers who pick their trash.” There is no pension problem, he said; the Republicans just “want to attack unions.”
Congressman Ron Kind (D-WI) picked up on this anti-union theme, discussing the recent events in Wisconsin involving collective bargaining. He also chided Republicans for their support of the Nunes legislation, saying “You know, for the party that claims to be the party of less government in Washington and more responsibility at the state, proposing this one-size-fits-all approach is contrary to even, I think, your principles.”
Mr. Kind also entered into the record a letter opposing the Nunes bill from Dave Stella, Secretary of the Wisconsin Department of Employee Trust Funds (ETF). Congressman Kind specifically quoted from Mr. Stella’s letter, in which the Wisconsin retirement system director warned that "contrary to what the proponents of the legislation suggest, the issue is not a current lack of transparency and disclosure. It's simply an effort to justify a federal takeover of areas that are the financial and regulatory responsibility of state and local governments."
Finally, Congressman Javier Becerra (D-CA) underscored what he called a “disconnect between what we're doing here in Washington” and what the American public feels. Mr. Becerra pointed out that a recent public survey by the National Institute on Retirement Security (NIRS) found that the vast majority of Americans believe that the disappearance of pensions has made it harder for them to achieve the American dream. He noted that 81 percent said that they think Congress should make it a higher priority to ensure that more Americans -- not less -- can have a secure retirement. Congressman Becerra’s questioning of witnesses also helped to clarify that the state of Illinois was not seeking a federal bailout of its pensions.
Witnesses in favor of the Nunes legislation included the Treasurer of Colorado, Walker Stapleton, who is also a trustee of the Public Employees’ Retirement Association (PERA) of Colorado; Josh Barrow, a Fellow with the Manhattan Institute for Policy Research; Jeremy Gold, an actuary and one of the most vocal advocates of financial economics and MVL (who goes so far as to insist that public pensions should not invest in equities); and Robert Kurtter, Managing Director, U.S. Public Finance, for Moody’s Investors Service. The sole witness who spoke against the need for the Nunes bill was Iris Lav, Senior Advisor with the Center on Budget and Policy Priorities (CBPP).
Treasurer Stapleton, stressing that he was the only elected official on the COPERA board, was very critical of COPERA’s assumed 8 per cent rate of return, calling it “unrealistic and unachievable.” He also argued that since approximately 25 percent of COPERA’s portfolio is currently invested in fixed-income products (yielding about 4 per cent), this means that the rest of the portfolio must return closer to 10 percent in order to average an overall return of 8 percent. “The only way to achieve this unrealistic return is to take outsized market risk, further exposing our public pension plans to more volatility,” Stapleton argued.
Treasurer Stapleton said that the Nunes legislation “makes a lot of sense.” In addition, in response to a question from Congresswoman Jenkins asking if Stapleton, as an elected state official, thought it was fair that the Nunes bill conditioned a state’s continued ability to issue tax- exempt bonds upon the filing of certain information about state and local pension plans to the Internal Revenue Service, Stapleton answered “Absolutely.”
Josh Barrow of the Manhattan Institute for Policy Research agreed that that the discount rates used by public pension plans are “unreasonably high,” and supported what he called the “enhanced transparency” that he said would be provided by the Nunes legislation. He also recommended that pension plans should annually issue five-year projections of employer contribution rates.
Jeremy Gold, not surprisingly, testified in favor of the use of MVL to measure liabilities and generally endorsed the Nunes bill. However, he suggested several changes to the legislation, including substituting the use of unadjusted Treasury rates to measure MVL in lieu of the bill’s 24-month averaging and segmenting of Treasury rates. He also said that some of the required restatements of 20 year projections would be expensive and the disclosures they provided would be “uninformative at best and may actually be misleading and counterproductive in the decision-making context.”
Robert Kurtter of Moody’s Investors Service said that the Nunes legislation would increase access to, and comparability of, public pension plan data. However, he also said that by “requiring an employer to make multiple disclosures, using different calculation methods and in different places, about the same set of assets and liabilities could increase the complexity of disclosures and the time required to analyze the information.” Finally, he said that Moody's comments “should be not be taken as an endorsement” of the legislation.
Ms. Lav, with the CBPP, called the Nunes legislation “a solution in search of a problem.” She said that the bill “would be likely to increase public confusion, could spook bond markets, and could lead states and localities to cut spending for education and other key areas — or raise taxes — more than necessary.” She said that the Nunes legislation “also would create a new federal bureaucracy to regulate something that should be ‘regulated’ by market forces.”
Ms. Lav underscored that “underfunding problems of most state pension systems can be addressed with relatively modest increases in state and local contributions from employers and employees, along with a set of sensible, moderate changes in benefits.” She also warned that moving state and local employees from defined benefit to defined contribution plans — which she called “an objective that some of the sponsors of H.R. 567 have said they would like to accomplish” — would not address the funding problems public pension systems currently face. “On the contrary,” she testified, “it generally would raise annual costs by making it harder for a state to pay down the existing liabilities for employees still in the defined benefit plan, because that plan would include fewer employees and fewer contributions going forward, while requiring additional contributions for the employees in the defined contribution plan.”
Congressman Nunes, while not a member of the Oversight Subcommittee, also attended the hearing as a member of the full Ways and Means Committee. Afterwards, he said that the hearing made a “powerful case” for Congressional action. Mr. Nunes also claimed that there “is near unanimity among financial economists that public pension accounting reforms are needed.” Furthermore, he claimed that “No compelling arguments against the bill were made” during the hearing.
New CBO Report On Public Pension Plans
The day before the Ways and Means Committee hearing, the Congressional Budget Office (CBO) released a new issue brief entitled “The Underfunding of State and Local Pension Plans.” The brief discusses the chief alternative approaches to assessing the size of pension funding shortfalls – (1) the guidelines issued by the Government Accounting Standards Board (GASB), which compute liabilities by discounting future benefit payments using a discount rate based on the expected rate of return on the plans’ assets; and (2) what CBO unfortunately refers to as the “fair-value method,” which claims to measure the market value of the liability, often known as MVL.
(The CBO was founded and is funded by Congress. Its purpose is to provide objective, nonpartisan, and timely analyses to Congress to aid in economic and budgetary decisions. By law, CBO is also required to produce a cost estimate and mandate statement for every bill reported by a Congressional committee. As such, it is a well-respected organization both on and off the Hill, and its staff of economists and public policy analysts are highly regarded.)
The CBO report was the proverbial “mixed bag.” It did not directly endorse the use of a particular approach to assessing governmental pension liabilities, and it noted that the market-value approach would likely increase volatility, making budgeting for the required contributions more difficult. Finally, CBO found that “most state and local pension plans probably will have sufficient assets, earnings, and contributions to pay scheduled benefits for a number of years and thus will not need to address their funding shortfalls immediately.”
However, CBO also found that the MVL approach “more fully accounts for the costs that pension obligations pose for taxpayers.” Furthermore, the brief said “Most of the additional funding needed to cover pension liabilities is likely to take the form of higher government contributions and therefore will require higher taxes or reduced government services for residents.’
Not surprisingly, Congressman Nunes quickly claimed that the CBO report “supported the conclusions and testimony” presented by Republican witnesses at the Ways and Means hearing. He also said that “According to CBO, fair valuation (such as the reforms included in the Nunes bill) offers a more complete picture and transparent measure of the cost of pension obligations.”
Many in the media also seized on the CBO report as an endorsement of the MVL method of measuring unfunded pension liabilities as well as the Nunes bill. For example, Pensions and Investments ran a story entitled “CBO: Public Pension Plans Should Change Reporting, Contribution Methods,” while Governing magazine announced “CBO Endorses GOP’s Methods for Pension Projections.”
The CBO issue brief will clearly be used to support any effort to have the Nunes legislation adopted. It is therefore important that opponents of this legislation have something with which to rebut such efforts. NCTR is therefore in the process of finalizing a letter to the CBO raising a number of concerns with the issue brief:
• The brief lacks context critical to evaluating the suitability of each approach for the financial statements of state and local governments. For example, the paper describes market-based valuation as “what a private insurance company operating in a competitive market would charge to assume responsibility for those obligations.” However, the brief does not clarify that public pension liabilities are not for sale, state and local governments do not go out of business and are not acquired, and state and local governments can reasonably be expected to outlive any private business that would take over a public trust for profit.
• The CBO statement that market value “more fully accounts for the costs that pension obligations pose for taxpayers,” is purely subjective. One could say with equal or greater validity that the current GASB approach more accurately accounts for the cost of the pension obligation, as it reflects the expected government contributions to state and local pension funds, not what a theoretical insurance company would charge to assume them.
• The brief suggests that market-values are always going to produce a higher liability number. This is not correct. The same market-based measures that inflate pension liabilities in times when interest rates are low, such as now, would mask them during inflationary times. Furthermore, empirical studies of funding patterns under both approaches find that only rather recently, when 30-year Treasury bond yields fell below 6 percent and then declined to nearly 4 percent, did the market-based approach produce a higher liability than existing governmental plan methodologies. In the 1980s, when 30-year Treasury yields were high (almost at 14%), the market-based approach produced a dramatically smaller liability.
• Conjecture contained in the issue brief that public pension underfunding will “likely” lead to increased taxes or reduced government services, and that the federal government might be asked to assist with funding, is completely subjective, inappropriate for a CBO analysis, and at a minimum should have been qualified. For example, State and local governments, their plans and their employees, working through their legislative and regulatory structures, have responded to public pension underfunding by making an unprecedented number of changes to benefit levels, employee contributions, or both, in an effort to avoid increased taxes or cuts in service. Also, NCTR and other national organizations have gone on record numerous times, including in recent testimony before Congress, that state and local government retirement systems do not require, nor are they seeking, Federal financial assistance.
The Senate companion measure to the Nunes bill, introduced by Senator Richard Burr (R-NC) as S. 347, has yet to be the subject of any Senate hearings, either in the Senate Finance Committee to which it was referred, or elsewhere. Furthermore, according to meetings with Senate Democratic staff, none are planned.
Nevertheless, of the bill’s seven GOP cosponsors, five were members of the Finance Committee when the bill was originally introduced: Senators Grassley (R-IA), Kyl (R-AZ), Coburn (R-OK), Ensign (R-NV) and Thune(R-SD). Furthermore, Senator Burr has just recently been named to the Finance Committee as well, meaning that a majority of the Republicans (6 of 11) are now cosponsors. Reportedly, they are pressuring the Committee’s Ranking GOP member, Senator Orrin Hatch (R-UT), to obtain a commitment for a hearing from the Finance Committee’s Chairman, Senator Max Baucus (D-MT).
Senator Baucus does not appear to be so inclined. However, it is difficult to imagine, given the wide range of issues that he and Senator Hatch will be working on together in the days ahead, such as the deficit reduction package to be made a part of the debt ceiling hike, that Senator Baucus would refuse a hearing on the bill if Senator Hatch seriously pressed him for one. Also, while Senator Hatch has not indicated support for the Burr legislation, he has previously stated on the Senate floor that it is his intention, “as Ranking Member of the Finance Committee, to find a way to address the public pension crisis.”
Therefore, a hearing on the legislation in the Senate is not entirely out of the question.
The House Ways and Means Committee hearing on the subject of the Nunes legislation was significant for a number of reasons. First, it was held before the Oversight Subcommittee, which does not have legislative authority to consider legislation. Some believe that this is a clear sign that senior Ways and Means Committee Republicans such as Congressman Pat Tiberi (R-OH), the Chairman of the Select Revenues Subcommittee which is technically the Subcommittee with legislative jurisdiction over the Nunes bill, are not interested in seeing the legislation advance.
However, others point out that the fact that the hearing was held anyway – over the objections of Subcommittee Democrats who called for “regular order” – demonstrates the strong support for the legislation among the House leadership. The fact that Ways and Means has now arguably held a hearing on the legislation could also make it much easier for the bill to be brought up before the full House on its own, or as an amendment to another piece of legislation.
Some think that this other piece of legislation to which the Nunes bill could be attached might be the deficit reduction package which Republicans insist be agreed upon before they will vote for an increase in the debt ceiling. Such a package is now the subject of top level negotiations between President Obama, Senate Majority Leader Harry Reid (D-NV), and Senate Minority Leader Mitch McConnell (R-KY).
This idea of using the deficit reduction package as a vehicle for the Nunes legislation was floated as early as April by none other than Grover Norquist, president of Americans for Tax Reform and a big supporter of the Nunes bill. In an interview in Time, Norquist said that “There should be a requirement that structural reform takes place before Republicans give Obama more money to spend and borrow” by increasing the debt ceiling. When asked what such structural reform would look like, Norquist responded:
“One reform that people have talked about is, at the lowest level, a vote on a constitutional amendment to require a balanced budget, and require a two-thirds vote to raise taxes. Another would require local and state governments to have complete transparency in their pension obligations, so the city of Chicago, for example, would have to tell the people they borrow money from what obligations they have on pensions.”
More recently, a number of pension-related issues have become the focus of the deficit reduction package. For example, in May, the Washington Post reported that Republicans had proposed saving more than $120 billion over the next decade by requiring the Federal civilian workforce to contribute six percent of their salary toward their pensions, or more than seven times the 0.8 percent they contribute currently. President Obama’s bipartisan fiscal commission had also endorsed the idea, calling the Federal system “out of line” with the private sector, and reportedly, Federal pension reform seemed to have support from both the right and the left in these earlier negotiations.
There are also reports that the Pension Benefit Guarantee Corporation (PBGC) could see its premiums increased as part of the deal. One proposal is to determine a company's premium by its overall financial condition, but the Chamber of Commerce and other business interests are expressing "serious concern" with the proposals.
Finally, there now appears to be a proposal on the table to eliminate indexing in the tax code related to retirement savings, which would raise revenue without obvious tax increases. According to Brian Graff, executive director of the American Society of Pension Professionals and Actuaries (ASPPA), ideas that are being considered are to decrease the Section 415 annual contribution limits to defined contribution plans from $49,000 a year to $20,000 a year or 20 percent of pay, whichever is lower. Another idea is to change the Section 402(g) limits) to eliminate catch-up contributions and to cap Section 401(k) annual contributions at from $10,000 to $14,000.
If pension “reforms” remain a focus of the deficit reduction “side-bar” legislation, this could provide the perfect opportunity to also slip in the Nunes bill, as Norquist has suggested. An agreement on the debt ceiling must be reached by August 2, 2011, in order to avoid a Federal default. Negotiations on the debt limit being led by Vice President Biden fell apart recently when the GOP insisted that higher taxes could not be allowed as part of the deal.
• Ways and Means Committee Hearing Statements and Transcript
• CBO Issue Brief on Public Pension Underfunding