By Naomi Lopez Bauman

Taxpayers on the hook for billions of dollars in unfunded liabilities

Louisiana Governor Bobby Jindal has received national accolades for the state’s fiscal discipline under his leadership. The libertarian Cato Institute, for example, ranked Jindal as the second-best governor in the nation in its fiscal policy report card for 2010. According to Jindal, the “Louisiana Way Forward,” unlike the Washington approach, is for the state government to live within its means even in economic downturns.

While Jindal’s attempts to make government do more with less get high marks on paper, the stark reality is that Louisiana is still on course for fiscal catastrophe. State officials are bracing for an estimated $2 billion shortfall in the next fiscal year, but this is the tip of the iceberg. We face a more alarming long-term problem: Louisiana’s underfunded pensions. This problem could dwarf the annual budget shortfall and it requires immediate attention from state policymakers.

Pension Deficit Disorder

The state is operating four public pension programs – Louisiana School Employees’ Retirement System (LSERS), Louisiana State Employees’ Retirement System (LASERS), Louisiana State Police Retirement System (LSPRS) and Teachers’ Retirement System of Louisiana (TRSL). Established in the 1930s and 1940s, these programs are state-sponsored retirement pension plans, or “defined benefit” plans, that manage retirement contributions from the state and the employees and then pay a specified benefit amount to qualified state employees in the future during their retirement. All four programs are severely underfunded.

According to the most recent actuarial estimates, the total unfunded liability of the four programs is over $18 billion. This is in addition to the state’s other post-employment benefits (OPEB), which are retiree health care and life insurance. These non-pension benefits are completely unfunded to the tune of $11.5 billion. In other words, the state of Louisiana has promised to pay state employees retirement and health benefits, but is short by almost $30 billion.

Given the magnitude of this situation, one has to wonder when Baton Rouge is going to acknowledge the problem and take the “Louisiana Way Forward” approach to this fiscal calamity in the making. If it remains unaddressed, this fiscal disaster could diminish the prospects of future generations in Louisiana. See Figure 1.

Figure 1. Louisiana’s Fiscal Challenge (in billions of dollars)

As shocking as these liabilities are, they are calculated using overly optimistic scenarios. For example, the estimates for Louisiana’s pension shortfall assume a generous rate of return on the pension funds’ investments. LASERS and TRSL assume investment returns of 8.25 percent per year. LSERS and LSPRS assume a more reasonable 7.5 percent. Yet, both assumptions are too optimistic in today’s economic climate. For example, LASERS had an investment yield (based on the actuarial value of assets) of 5.73 percent for the past 5 years, 3.77 percent for the past ten, and 7.54 percent for the past twenty – far lower than the plan’s anticipated 8.25 percent. If more realistic rates of return were used, the projected unfunded liabilities would be even higher.

Federal law requires that private sector employers hold assets of at least 80 percent of promised pension benefits. Unfortunately, Louisiana government employees and taxpayers receive no such protection because state government pension funds are exempt. For 2010, the state’s four pension plans had funding ratios between 54.4 percent and 61.0 percent. Not only do all the state’s plans fall below federal requirements for private businesses, the state’s funding ratio falls to 43.7 percent when including the state’s OPEB.

One wonders why state leaders allow the Louisiana pension and retirement benefit systems to operate with less than 50 cents in assets for every dollar in promised benefits. See Figure 2. While the economic downturn has heightened awareness and spurred some states to act, Louisiana lawmakers have not taken adequate steps to address this potential crisis.

Figure 2. Funded Ratios for State Pension and OPEB Programs

Reality Check

Louisiana taxpayers will foot the bill for the reckless and irresponsible financial decisions. “Kicking the can down the road” may be politically safe but lawmakers can no longer ignore their fiscal responsibilities. After all, the longer these programs go unreformed, the worse the problem becomes. Currently, the unfunded liability of these programs is the equivalent of more than $8,800 for every adult resident of the state.

The time has come for Louisiana lawmakers and citizens to hold honest and open discussions about the state’s fiscal future, including the best ways to meet the state’s obligations and deliver promised benefits to government workers in their retirement years. There is growing recognition across the country that the defined benefit approach to retirement is unsustainable.

Where Do We Go From Here?

Rather than continue this calamitous path, lawmakers should examine the conversion of current “defined benefit” plans into “defined contribution” plans, similar to a 401(k) or IRA account. This approach, already available to the state’s Louisiana Lottery Corporation employees, is an option in several state pension programs, including those in Nebraska, Michigan, Florida and West Virginia.

In this scenario, current employees could choose between staying under the current program and switching to a new plan. New employees would automatically be enrolled in the new plan, where the state contributes a specified dollar amount to the employee’s retirement account. This defined contribution system would make the long-term costs far more predictable and prevents the creation of “Ponzi schemes” which place a growing burden on taxpayers to keep them going. State retirees would have legal ownership over their retirement accounts and could will these accounts to their heirs.

Transitioning away from defined benefit plans would also end the practice of incentivizing employees to remain at a job simply to collect a generous pension down the road. As is the case in the private sector, workers could move more freely from job to job without fear of losing their retirement savings.

Louisiana’s unhealthy pension program poses a threat to everyone who relies on the state’s ability to perform essential services. This threat is particularly grave for current and future taxpayers, who will see a larger and larger share of their payments directed to funding generous retirement benefits. While pension reform may not make scintillating national headlines, it should be lawmakers’ top priority.

Update: On February 2 Garland Robinette, host of The Think Tank radio show, interviewed Kevin Kane, president of the Pelican Institute, regarding the ramifications of this report. Click below to listen (nine minutes).
[audio:] Naomi Lopez Bauman is a public policy consultant and a Pelican Institute adjunct fellow. She holds a B.A. in economics from Trinity University and a M.A. in government from The Johns Hopkins University. She lives in Shreveport with her husband and two children.