The State Government Pension Crisis

The budget crisis many state governments are facing has received lots of publicity, and also produced lots of federal bailout money. Meanwhile, over the longer run state governments are facing a potentially more serious problem because of unfunded liabilities in their pension systems. This report is one of many that have pointed out the problem.

The cause of the problem is easy to see. Governments can pay workers less today in exchange for promising them earlier retirements and more generous retirement benefits in the future. Today’s cost of government is put off into the future, when the elected officials who take credit for today’s programs will likely be retired. Spend now, but pass the cost on to someone else. When the bill comes due, the result will be higher taxes, lower government services, reductions in promised pension benefits, or perhaps some combination of all three.

One elected official who wants to tackle this problem is Florida’s State Senator Mike Fasano. He has introduced a bill (SB 660) in Florida’s legislature to require all future state pensions to be defined contribution plans rather than defined benefit plans. Over a period of decades, as those with defined benefit pensions passed on, the unfunded pension liability problem would shrink and eventually disappear.

The pension problem is caused by defined benefit pensions, which promise a retiree a certain pension benefit at retirement. The state must then come up with the money, and if the pension plan is underfunded, as is the case in most states, the difference has to be made up out of current revenues. Defined contribution plans, in contrast, contribute now to the worker’s pension fund, and at retirement the retiree gets the return only from what has already been contributed. There is no unfunded liability.

It’s refreshing to find a state legislator who is interested in tackling the issue, and I will be interested to see how Senator Fasano’s bill fares this legislative session. Florida has a fiscally-conservative legislature dominated by Republicans, so my conjecture is that there are few states that would be as receptive to such a proposal as Florida.

Still, I’m sure this bill faces an uphill battle. There’s not that much reward for politicians to fight for a bill that may cost them political capital now in exchange for benefits that won’t fully materialize for decades. One reason Senator Fasano might be willing to take this on now is that he will be term limited out of office this year, so he’s more free to spend his political capital.

Randall G. Holcombe is a Research Fellow at the Independent Institute and DeVoe Moore Professor of Economics at Florida State University. His Independent books include Housing America (edited with Benjamin Powell); and Writing Off Ideas.
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