ence. Because the perceptions just aren’t our reality. But I want to look at historically what impact pensions and pension funds have had on the economy. If we look at the period between 1990 and 2002, pension funds supplied about 44 percent of the new venture capital, endowments and foundations were the second largest with about 17 percent, and then insurance companies and financial companies at about 16 percent. So if you look at that investment in venture capital, you have to look at the fact that pension funds fueled the growth and development of small companies and new products and technologies for over a decade. That’s the contribution that these pension funds have done for our economy. Now the economy is a mess. Pension funds are part of the economy, and obviously they are affected. But that doesn’t mean that the pension funds are the problem. The reform [we need] is broader than pensions; it has to be a broader financial reform. BORENSTEIN: Jon, how do you see that? COUPAL: As it relates to the pension funds, you know the major pension funds have invested a lot – PERS [Public Employees’ Retirement System], STRS [State Teachers Retirement System] and the counties – but the question is: Have they invested wisely? Have they made the decisions based on the interests of their members? Oftentimes some of these investments are made with political motivations, and some of the investments of STRS have been horrible. Part of the problem that taxpayers see is that when bad decisions are made, the pension system knows that the taxpayers are there to make up the shortfall. You always have the taxpayers in a defined benefit program, constitutionally mandated to make up the difference if PERS and STRS goes belly-up. And that’s what were seeing right now. By the way, we’re all for public employees getting a really good pension, but we believe that the ultimate answer is to have those pension benefits granted in the form of defined contribution like 401(k)s and not in these defined benefits. Now, people say 401(k)s are risky. If each individual employee owns their own 401(k), they could accept whatever investments and accept whatever risk tolerance they wanted. For example, you could have a 401(k) that invested in nothing but Treasury bills, that
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would be absolutely guaranteed not to lose money. Would you get the 12 percent return? No, but perhaps you shouldn’t. Here’s the question: Why have taxpayers assumed the risk of not only the losses of their own retirement funds but also the potential losses of the public employees that are guaranteed a rate of return? That is the disparity, and we believe that the ultimate answer is the shift to very generous defined-contribution plans that would take away some of the political master machinations of these public employee pension funds that oftentimes have not acted in the best interest of either their members or the taxpaying public. BORENSTEIN: What are some of the options to fix this system in California? NATION: The first thing that is really critical is the pension fund managers and actuaries need to change the assumptions they employ. Currently, according to [Governmental Accounting Standards Board] rules, pension fund managers say, “If we’re going to earn 7.75 percent, then we’re going to discount our liability at 7.75 percent.” The math works out really nicely if they do that. But the problem is that, because these are guaranteed payments, you really have to value these liabilities at something other than 7.75 percent. You have to value them at something probably much higher. It’s a somewhat esoteric argument among economists and actuaries, but if you were to do that and change the way they account for this – truly value those liabilities at what you should value them – then pension funds would be horribly underfunded. The work that we’ve done suggested that they are not 70 or 80 percent funded but closer to 40 or 50 percent funded. They’ve got a dollar for every two dollars they owe. BORENSTEIN: People should know that the work that Joe has done on this is somewhat controversial. There is a debate as to what the proper rate of return is. NATION: Not among economists; among economists and actuaries there is. So that’s one thing. BORENSTEIN: Let’s take that option before we confuse people with other things. If you reduce the assumed rate of returns, that would mean that both the employee and employer would have to kick in more going into this system. Roxanne, how are your members going to react if they’re asked to kick in more if the assumed rate of returns
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is reduced? SANCHEZ: Like all working people that are strapped for money. Let’s look at the San Leandro school workers who get between $11.55 and $29 an hour and contribute about 7 percent of their total wages to their pension. Let’s look at the jurisdictions where they’re already paying $800 a month for their pensions. Look at how we’re talking about significant problems and significant issues, but the most significant problem is the drop in investment return, which means our most significant problem is that our economy, our economic system, is in shambles. It’s in total disarray. The real reform has to be much broader. You can tweak reform and take more out of our pockets and we’ll buy less and will suffer more, but that’s not fixing our economy. Millions of Americans have already lost their retirements, but has that fixed our economy and society? This is not the way to look at fixing a problem that’s facing all Americans. We need to look at a retirement system, whether our system or Social Security, that gives us what we require and have worked for all our lives, which is financial protection. BORENSTEIN: I want to let Jon respond to that and address the rate of return issue. COUPAL: I’ll just talk about the rate of return issue; it’s a huge problem. There are a number of bright economists and investors that think we’ll experience a huge doubledip recession and plunge right back into another depression. They’re looking at all the debt load. We’ve got other economists that think we’re on the verge of another recovery. They’re all brilliant people, but the thing is, we just don’t know. That is why, when you try to determine rate of returns, it’s so difficult. The problem is when we’re in a boom cycle, you have a horrible situation, that is, a public employee fund that is a ton of cash within arm’s reach of politians. What happens is the public employee labor unions figure out a way to say, “It’s so overfunded right now, we can bump up benefits.” There were people back when Senate Bill 400 came up that said we couldn’t do this; it’s one-time money. But a lot of them voted [for it], including Republicans, and they shouldn’t have. Everyone thought it was a free lunch. That’s the problem with trying to determine rates of return.