Public Sector Pensions: Economic Stimulators and a Workforce Management Tool
In an increasingly competitive environment for talent, governments need to focus on branding themselves as employers of choice.
There have been several well publicized studies addressing the unfunded liability of public sector pension plans and the increasing amounts of contributions that are needed to properly fund these plans. For example, the Pew Charitable Trusts found that in 2016, state pension funds cumulatively reported a $1.4 trillion deficit—representing a $295 billion jump from 2015 and the 15th annual increase in pension debt since 2000. Overall, state plans disclosed assets of $2.6 trillion to cover total pension liabilities of $4 trillion. At the same time, it is important to remember that based on 2016 data from the Pension Rights Center, the median annual pension of state and local government pension plans was a very modest $17,576.
The public sector has a far higher percentage of employees who receive a traditional or defined benefit pension in which employees are promised payments if they meet age + years of service requirements. For other sectors in the United States, the majority of employees participate in defined contribution plans, the most common being the 401K. These plans are essentially cash accumulation plans, since there is no guarantee of a specific benefit. The plans are funded usually through some combination of employee contributions plus a match by the employer of part or all of the contribution of employees. When employees in these plans retire, they have a sum of money that they then need to manage. The employer does not have any liability after retirement of employees. There are also hybrid plans which combine features of defined benefit and defined contribution plans. This is the current federal employee retirement system.
We also need to remember the positive economic impact that state and local pension plans has on the economy. Public employees live in every city and county with more than 90 percent retiring in the same jurisdiction where they worked. According to the National Institute on Retirement Security, in 2014, $253 billion in pension benefits were paid to retired state and local government employees. This is estimated to have generated almost $560 billion in total economic output attributed to pension benefit expenditures. The total number of jobs attributed to these expenditures is estimated at over 3.4 million.
Often lost in this debate is the important workforce management role played by public sector pensions, especially during an era of low unemployment and increased competition for employees. The 2018 Workforce Trends survey, which is based on survey responses from members of both the International Public Management Association for Human Resources (IPMA-HR) and the National Association of State Personnel Executives (NASPE) found that the recruitment and retention of qualified personnel with needed skills for public service was the most important workforce issue.
As a result of the recent recession, most state and local government pension plans have made reforms to their pensions that included increasing both the number of years of employment required to vest and increasing the retirement age, adjusting the final-average salary period, eliminating or modifying cost-of-living adjustments, changing the benefit multiplier, and increasing employee contributions. These changes tended to impact new hires more frequently than current employees.
A 2018 study by the Center for State and Local Government Excellence titled “How Have Pension Cuts Affected Public Sector Competitiveness” concluded that “pension cuts hurt governments’ ability to recruit workers when competing with the private sector, since the workers hired after benefit cuts had earned less in the private sector than similar workers hired before the cuts.”
There is data showing that younger employees are less likely to spend their careers with one employer such as a government. In the IPMA-HR 2018 employment outlook survey, almost 50% of the respondents indicated that those leaving employment voluntarily had less than 3 years of tenure. While pensions may not be motivating factors for young employees, they can become increasingly important retention tool as employees’ age.
The City of Palm Beach presents an interesting case study. In 2012, the town closed its existing pension systems for all employees, including public safety. Going forward, employees were offered dramatically lower defined benefit pensions and new individual defined contribution accounts. The result was a mass exodus of public safety officers. Twenty percent retired after the change, while 109 other protective officers out of a staff of 120 employees left over the next four years. Nearby towns were the beneficiaries, since they hired trained police officers who had left the town. In 2016, the town abandoned the defined contribution plans and improved the defined benefit plan for police officers and firefighters.
The sustainability of public pensions is a challenge for governments. The League of California Cities recently issued a report that said most California cities can expect their spending on public employee pensions to climb by at least 50% over the next 7 years. State/local governments need balanced budgets so will they have to cut services to fund employee pensions and how will taxpayers respond? Benefits like pensions have always been the competitive advantage for governments, since pay tends to lag the private sector.
In an increasingly competitive environment for talent, governments need to focus on branding themselves as employers of choice. An advantage that governments have is their missions. They make a difference in the lives of their citizens and this can be attractive especially to millennials. Also, governments offer a myriad of occupations and they need to market themselves as offering multiple career opportunities to their employees. Governments also need to offer professional development and growth opportunities to their employees. This can be a good recruitment and retention tool. Finally, they need to embrace technology when recruiting employees in an increasingly competitive environment.