Charles Chieppo is a research fellow at the Ash Center of the Harvard Kennedy School.E-mail: Charlie_Chieppo@hks.harvard.edu
Regular Better, Faster, Cheaper readers are well aware of the challenge that unfunded pension liabilities pose for state and local government budgets. But a new study from California Common Sense reminds us that there is yet another retirement-related tidal wave on the horizon.
In "California's Neglected Promise," author Adam Tatum estimates that the besieged Golden State is facing more than $62 billion in unfunded liabilities for other post-employment benefits (OPEB), which mostly consist of health-care costs for retired public workers.
California's OPEB burden is just a small part of the picture. In 2004, the Governmental Accounting Standards Board (GASB) announced that beginning in 2008 cities and states would be required to calculate and make public their OPEB liabilities. Now, one estimate puts unfunded state and local OPEB liabilities at more than $2 trillion, while a survey of 126 state and local pension plans (representing 85 percent of public-pension assets) found unfunded pension liabilities of roughly $700 billion — and that was two years ago.
While many of us would like to change the way public pensions work, those systems do deduct money from current employee salaries to fund at least a portion of future costs. OPEB expenses, on the other hand, are generally funded on a pay-as-you-go basis from operating budgets.
The combination of through-the-roof health-care costs, people living longer and baby boomers beginning to retire has OPEB liability skyrocketing. In California, OPEB costs have doubled every five years since 1999. At the current rate, within 35 years they would consume the state's entire budget — if other health care costs don't consume it first.
The most efficient way to address the looming OPEB liability is for states and localities to establish and begin to pay into funds similar to pension funds. Instead of paying ever-higher interest costs, pre-funding would use the funds' investment returns to reduce OPEB's burden on future generations.
Of course, finding the money to pay into such a fund is easier said than done in the current fiscal climate. But the difference between paying less now or paying more later is a stark one. In California, one year of potential inaction could cost $1.7 billion in foregone savings over 15 years. The California Common Sense study suggests that pre-funding could save the state as much as $21 billion over 30 years. A 2006 Pioneer Institute study of Massachusetts' OPEB liability came to a similar conclusion.
Grappling with massive OPEB liabilities is no fun for public officials already dealing with tight operating budgets, huge infrastructure needs and other daunting fiscal challenges. But the GASB requirement does allow taxpayers to gauge the promises their representatives have made to public employees, and that knowledge should be used to inform collective bargaining and other policy decisions going forward.
The difficulty of finding the money to begin paying down OPEB liabilities pales in comparison with the wall of debt future taxpayers will face if leaders fail to act. Like so many policy issues, it boils down to whether elected officials are willing to incur pain on their watch so that far greater pain can be avoided and benefits realized on somebody else's.