"We Track the Financial Collapse For You, so You'll Thrive and Profit, In Spite of It... "

Fortunes will soon be made (and saved). Subscribe for free now. Get our vital, dispatches on gold, silver and sound-money delivered to your email inbox daily.

This field is for validation purposes and should be left unchanged.

Safeguard your financial future. Get our crucial, daily updates.

"We Track the Financial Collapse For You,
so You'll Thrive and Profit, In Spite of It... "

Fortunes will soon be made (and saved). Subscribe for free now. Get our vital, dispatches on gold, silver and sound-money delivered to your email inbox daily.

This field is for validation purposes and should be left unchanged.

State Pensions: I’ll Buy Your Bonds if You Buy Mine

Here’s a study from Northwestern University’s Kellogg School of Management that ties in nicely with the muni bond collapse / federal bailout of the states thread.

State pension funds headed for crisis of national proportion
According to new research from the Kellogg School of Management, taxpayers, public workers and state and federal officials alike have cause for serious concern about an issue that often falls under the radar but poses serious risk to the future health of the national economy: state pension liabilities.

Data presented today in Washington, DC, at a conference called “New Retirement Realities: Pensions at a Crossroads” demonstrates that several state pension funds will not last the decade, a situation that will place tremendous pressure on the federal government to bail out financially insolvent states at a price tag likely to match or exceed the recent bailout of the U.S. financial system.

In his presentation, Joshua Rauh, associate professor of finance of the Kellogg School of Management at Northwestern University, predicts that without basic reform to the current pension system, many large state pension funds will run out, even if they achieve predicted 8 percent annual returns. As a result, Rauh warns that promised benefit payments would be so substantial that raising state taxes to make the payments would be infeasible, offering no other choice than to call on the federal government to bail out the failing states.

As an example, Rauh points to Illinois. If the state’s three main pension funds earn 8 percent returns and the state makes contributions accordingly, the funds will run out of money in 2018. In the following years, benefit payments owed to existing state workers would be an estimated $14 billion – more than half of the revenue Illinois is projected to receive in 2010 – and states are under legal obligation to make these payments.

“This is a problem of monumental proportion,” said Rauh. “Given that we see the same issue in many states, the total size of a federal rescue plan could exceed the seriousness of the recent economic crisis and potentially cost more than $1 trillion total. Plus, this scenario could happen sooner if taxpayers flee to other states with lower taxes and higher services, if contributions are deferred or not made, or if returns are lower than expected,” he said.While Illinois is currently at the highest risk, pension funds in other troubled states could dry up by the end of 2020: Louisiana, New Jersey, Connecticut, Indiana, Oklahoma, and Hawaii. And, by 2030, as many as 31 states could be affected.

To counter this problem, Rauh has outlined an innovative plan, issued today. It notes that fundamental state reform is essential, and underscores the urgent need for a federal program that offers incentives to stop the growth of unfunded liabilities. He recommends that states be allowed to issue tax-subsidized pension funding bonds for the next 15 years if they agree to a specific program of major pension reforms. To get the subsidy, states must agree to close defined benefit (DB) plans to the approximately one million new workers who take state jobs every year, and instead to offer the new hires a defined contribution plan (DC) similar to the federal Thrift Savings Program, as well as guaranteed access to Social Security.

“Right now only a quarter of all public workers contribute to Social Security,” said Rauh. “While the cost for the Pension Security Bonds over 15 years would be about $250 billion, under this plan the Social Security system would see a net gain of over $175 billion. All told, the cost to the federal government for such a program would be around $75 billion, far less than the minimum $1 trillion it could risk if the state pension fund system is left in disrepair.”

Rauh’s plan offers a cogent solution for the tens of millions of police officers, firefighters, teachers and other public service and state employees that will enter the workforce over the next decade, while maintaining consistency for workers already in the system.

“Existing pensions would become more secure and new workers would get more than an empty promise, while the country would avoid another massive taxpayer-financed bailout,” he concluded. “It is imperative that we act today to give states the incentives they need to put themselves back on a path to fiscal sustainability.”

Some thoughts:

  • The assumptions are, um, a tad optimistic: “As an example, Rauh points to Illinois. If the state’s three main pension funds earn 8 percent returns and the state makes contributions accordingly, the funds will run out of money in 2018.”  But how is a pension fund going to generate 8% returns with bonds yielding less than 5%? To make up the difference in a 50-50 stocks/bonds portfolio, stocks would have to average 11%. Since negative 11% is a lot more likely, it’s a very safe bet that Illinois’ pension fund runs out of money well before 2018.
  • Who exactly would buy these bonds? Somehow it seems unlikely that the Chinese or Saudis will find them compelling. But what about other state pension funds? The prospect of California and Illinois bailing each other out at least has some entertainment value.
  • For such a “monumental” problem, the proposed solution seems both tame (no cuts in existing benefits) and ultimately destructive (massive issuance of new debt). This kind of structural change might have worked back in the 1980s or 90s when the problem was relatively small, but is too little too late with the collapse of many systems imminent. A direct federal bailout would seem to be unavoidable.

15 thoughts on "State Pensions: I’ll Buy Your Bonds if You Buy Mine"

  1. Excellent point Duane to which I respectfully disagree. The short answer is that I don’t accept the reset notion because we aren’t resetting anything. We are merely relieving the private sector of its debt and transferring it to the public sector.

    This is not a reset. It’s a policy of privatizing profit and socializing loss. It’s freedom absent responsibility, which as you know is anarchy.

  2. Hi everybody. It struck me reading some articles lately that the gloom’n’doom scenarios that typically end in hyperinflation/currency collapse don’t typically include the corrections that purge the economy of the negative stuff. That is why Minsky’s Financial Instability theorem, and Steve Keen’s modeling of such, i.e. credit contractions and deflation, appeals to me. It sounds doomy and gloomy, too, but it in fact resets the economy. (Kondrattiev and Prechter also see this as a healthy reset.) Gordon T. Long’s and FOFOA’s scenarios, for instance, move in one direction with no accounting for resets to normalcy (at least this is true of the articles I read). Well, maybe there is a point of no return. I wonder how we can tell when we have passed the point of no return to inevitable currency collapse? That’s the bet we are making, consciously or by default, I guess. Is hedging 50-50, i.e. sitting on the fence, a reasonable way to proceed? Sitting on the fence, and investing accordingly, may be better than finding oneself on the wrong side.

  3. bob copeland,

    Your post is very provocative. Although there seems something unseemly about it, from a bookkeeping standpoint it’s valid. Basically, the hotel patron supplies the liquidity to break the long jamb and shifts every ones’ balance sheets from having both credits and liabilities to neither; no net change financially and yet so much better psychologically. That shows the importance of money “velocity”.

    If the hotel patron represents the FED then this also shows both the benefits and limits of “economic stimulus”. If the FED wired money to each person’s checking account equal to all of their non-collateralized debt, and that money was then used to pay off those debts, the sum total of all that was wired would ultimately be returned to the FED (The FED could force it via its myriad relationships with the banks.) However, that would not be a complete solution to the economic problems at hand, because that would not affect meaningful economic activity, i.e., the initiative to engage in further activity. One could simply be delivered from a state of owing and being-owed to the null state.

    Personally speaking, that’s about where I am. I don’t know if I care to carry the torch any more, at least for a while. I’m at peace, I guess, but it I can’t say I’m relaxed.

  4. Subject: Economics 101

    ——————————————————————————–

    It is a slow day in a small Florida town and streets are deserted. Times are tough, everybody is in debt, and everybody is living on credit. A rich tourist drives through town, stops at the motel, and lays a $100 bill on the desk saying he wants to inspect the rooms upstairs to pick one for the night.

    As soon as he walks upstairs, the motel owner grabs the bill and runs next door to pay his debt to the butcher.

    The butcher takes the $100 and runs down the street to retire his debt to the pig farmer.

    The pig farmer takes the $100 and heads off to pay his bill to his supplier, .the Farmer’s Co-op

    The guy at the Farmer’s Co-op takes the $100 and runs to pay his debt to the local prostitute, who has also been facing hard times and has had to offer her “services” on credit.

    The hooker rushes to the hotel and pays off her room bill with the hotel owner.
    The hotel proprietor then places the $100 back on the counter so the rich traveler will not suspect anything.

    At that moment the traveler comes down the stairs, states that the rooms are not satisfactory, picks up the $100 bill and leaves town.

    No one produced anything. No one earned anything. However, the whole town is now out of debt and now looks to the future with a lot more optimism.

    And that, ladies and gentlemen, is how the United States Government is conducting business today

  5. @ Bruce C, from the previous thread:

    FOFOA stands for Friend of Friend of Another, which refers to two guys (“Another” and “Friend of Another”) who used to post on gold forums back in the late 90’s. In FOFOA’s very first post there are links to archives of those original posts. “Another” talks a lot about gold and oil. E.g. he says deals were worked out between the West and oil states to allow the oil states to steadily purchase gold in such a way that it wouldn’t run up the price unduly (I believe using mining company hedging contracts). In return the West would get a steady flow of oil at reasonably stable prices. The posts are hard to understand but the hypotheses are interesting.

  6. The sad thing is that people with 401Ks are going to be bailing out these generous underfunded pensions. Anybody with a private retirement plan is going to see it destroyed by the higher taxes and inflation that will be needed to bail out pensions.

    The federal government will also means test Social Security. This means testing along with higher taxes and inflation will make saving for retirement useless.

  7. My son is a forester for NYS. A one day a week furlough plan for all state workers ( exempting police, teachers etc.) was rejected as a breach of contract Now he’s looking at a layoff.

  8. Why is it that “we” are supposed to care about state pension fund liabilities, or the general budget deficits of states or municipalities, etc.?

    I, quite frankly, don’t give a damn about them. Anyone with any common sense and who was not corrupted by the allure of government largesse knew that all of this was inevitable. As every lawyer knows, you go where the money is, and that usually means the state or federal government (along with large corporations and insurance companies). Union demands married with political favors created these arrangements and I say they should all go to “hell”, which is to say default and nonperformance. I’m sorry if that cramps some lifestyles. Any one who entered these agreements with more than a wait-and-see/better-not-count-on-it attitude deserves what they don’t get.

    I own a construction company and have my own 401k and I can assure you that no one cares about the viability of my company or my “pension”, or any of my employees’, except for me and a few others. I’m not complaining, but if the Federal gov. bails out the state pension plans then even I will declare the death of the US on that day. FEDERALISM WORKS BOTH WAYS!

    As one of my employees likes to say, “shit happens!” Deal with it.

  9. Unless existing pensions are cut, I would not even consider going to the table. Defined pension contributions is a better system than defined pension benfits.

  10. There seems to be no incentive for states to run lean and mean budgets. Of course, the most democratically controlled states have set up their welfare paradise for eventual failure. Will these states be bailed out if democrats no longer hold a majority after 2012? Once there is a bond default, the bond holders need to take their medicine for being crazy enough to give poorly managed welfare states their hard-earned money. If existing state workers are not willing to cut their own pensions and health care benefits, there will be no resolution other than default. The worst thing that could come of this is an attempt by the Federal government to cover the bond holders to bail out state workers. I do not believe existing pensions can be made more secure if state workers are expecting to keep all their benefits while those who have to provide productive labor to support them must contend with high unemployment along with increasing rates of taxation. The stock market will not take an Illinois or California default lightly. I feel like I’m watching a slow-motion train reck.

  11. There doesn’t seem to be anywhere near the level of leadership necessary to solve these problems. The political and economic structure probably is approaching a massive failure. It can be kept on computer generated central bank life support for a while by government decree, but then at some point all heck is going to break loose.

  12. please see this site conorix.com and you will see why we all lost so much money in the bond market and who still the money avram

    6468080476

Leave a Reply

Your email address will not be published. Required fields are marked *


Zero Fees Gold IRA

Contact Us

Send Us Your Video Links

Send us a message.
We value your feedback,
questions and advice.



Cut through the clutter and mainstream media noise. Get free, concise dispatches on vital news, videos and opinions. Delivered to Your email inbox daily. You’ll never miss a critical story, guaranteed.

This field is for validation purposes and should be left unchanged.