Q & A

Kil Huh: State Pensions and Retiree Benefits

QA Header 5 Questions

Kil Huh, Director, Research

  Kil HuhJune 20, 2011 — Pension and retiree health care costs are rising sharply in the states, adding to budget pressures and threatening to crowd out resources for other priorities like education, health care and infrastructure. Pew’s latest research, reported in The Widening Gap, shows that, at the end of fiscal year 2009, the 50 states were $1.26 trillion short of the amount needed to cover their retirement costs over the next 30 years. That’s a 26 percent increase since the end of fiscal year 2008, when Pew’s initial analysis of almost 400 pension and retiree benefit plans, reported in The Trillion Dollar Gap, revealed a $1 trillion shortfall in states’ retirement systems.

Research Director Kil Huh answers five questions about what governors and legislators are doing to meet the challenges of pensions and retiree health care costs:

Q: Why is it in states’ interest to fix this problem?

Most states’ pension and retiree health care costs are rising sharply, adding to budget pressures and threatening to crowd out resources for other priorities like education, health care and infrastructure.

But this is more than just a fiscal issue. Retirement benefits are an important tool for states to recruit and retain a workforce that can deliver public services efficiently and effectively. And ensuring retirement security for all workers is a critical challenge for the entire nation.

Across the country, state policy makers are seeking a new balance between costs and incentives—one that improves states’ fiscal health and attracts talented employees.

Q: What is causing states’ retirement costs to escalate?

A: Poor policy decisions and the Great Recession have each played a part.

Many policy makers have had a habit of skipping or shortchanging annual contributions to public pension and retiree health care funds, even in good economic times. That means taxpayers get a bigger bill in future years. Also, some states increased employees’ benefits, which added to the amount they must save each year, without necessarily understanding how they were going to pay for them. Finally, states’ annual payments are larger today because they must make up for investment losses caused by the recession.

Q: How widespread is this problem? Does it affect every state and retirement plan?

A: Some states’ systems and many public-sector retirement plans are well funded. But overall, the problem has worsened. A pension plan is generally considered healthy if its long-term liabilities are at least 80 percent funded. Between 2008 and 2009, the number of states with less than 80 percent of their pension liabilities covered rose from 22 to 31. For retiree health care, only seven states have set aside more than 25 percent of their long-term bill. Notably, within a state, pension costs can be well managed while retiree health care expenses are not, and vice versa. New York, for example, has a fully funded pension system, but has nothing saved toward its $56 billion in retiree health care promises.

Q: Are growing pension and retiree health care costs the source of states’ current budget shortfalls?

A: Historic drops in revenue and rising costs in education, Medicaid and other areas have been the big drivers of states’ budget gaps in the last several years. Growing annual costs for pensions and retiree health care are an added challenge today, but the larger danger is over the long term. If a state continues to manage these costs poorly, it can worsen and prolong its fiscal troubles.

Q: What are governors and legislatures doing about these problems?

A: Momentum for reform is building. In 2009 and 2010, 27 states reduced pension benefits, required current and future employees to contribute more toward their retirement, or did both. Only 15 states made such changes in 2007 and 2008. These reforms likely will have an impact. But states will realize only modest savings in the short term because the vast majority of changes apply to new workers. Most of the savings will arrive years from now, as newer employees earning smaller benefits become the majority of the workforce.

Q: Haven’t recent investment gains fixed the problem for many states?

A: A number of states have seen their pension plans improve because of investment gains over the last nine months or so. But because they took such an enormous hit in the Great Recession, investment gains alone will not fix the problem in many states. And virtually all states need to pay more attention to funding retiree health care liabilities. For states with significant health care promises and no savings, failing to set money aside or control costs means they could face enormous expenses down the line.

June 20, 2011
Public Sector Retirement Systems
Pensions, Retiree Health Care, Retiree Health Care Costs, Pensions