If you are a school teacher, a firefighter, a police officer, a municipality worker, or another type of government worker, the chances are high that over the next decade or two, your benefits are going to be slashed.
The reason is simple. There are only two ways to maintain the retirement pensions and other benefits that have been promised by the government to its workers when the plans are underfunded:
- Increase the population base so that there are more workers supporting each retiree. You can do this either by having more children through so-called “natural” growth where the birth rate exceeds the death rate or by opening the borders and increasing legal immigration.
- Drastically increase taxes on the younger generations that are still working are effectively forced to “donate” an enormous portion of the paycheck they work for each week to pay taxes to support the elderly, who didn’t save themselves, or go to prison..
That is it. If you can’t do those things, the benefits must be reduced. To ignore these realities is no different than corporate executives who demanded investors value their firms based upon EBITDA during the dot-com bubble of the late 1990’s, which stripped out capital expenditures (as if the tooth fairy were going to show up and pay for broken down equipment in a factory that needed to be replaced)! Self-delusion is not a viable method to dealing with financial matters.
To make it more difficult, people can easily move out of a municipality to avoid taxes, making raising tax rates far, far more difficult than on, say, the national or even state level.
Municipal Bankruptcies Would Make Raising Funds for Bridges, Schools, and Hospitals Far More Expensive
Factor in that municipalities declaring bankruptcy on any meaningful scale would be disastrous, making raising money for things such as new school bonds or raising cash to build a bridge almost impossible, meaning that has to be thrown out of the equation.
[mainbodyad]It is detestable that we aren’t dealing with this problem. There is something wicked about an older population who thinks that the young men and women of the nation are a commodity to be consumed, whether for taxation or war. Often, this is shrouded in talk of “duty” and “compassion”. But let’s call it what it is: extortion. If the 18-year-old worker doesn’t keep ponying up more and more of his earnings, he is thrown in jail for refusal to pay his taxes. I don’t understand how any older person can use a younger person like that. In my family, you respect your elders but it is the job of each generation to make sure the youngest generation has every opportunity to make a better go of it. The book of Proverbs got it right: “A righteous man leaves an inheritance for his children’s children.” In the United States, the theory seems to be, “Go ahead and stick your children’s children with the bill because you can’t live within your means.”
Who is to blame? The accountants and lawmakers. Pension promises should never have been allowed unless they were fully funded at the time. We have to stop kicking the can down the road. Pensions can be a great way to reward loyal employees, but only if you make sure the money is put aside at the time the promise is made.
We could always inflate our way out of the problem, but then that hurts savers who did everything right.
I’m just thinking at my desk, going through the economic analysis stories and the whole system is ridiculously. This is a mess that never should have happened. Everyone wants more government than they are willing to pay for and then refuses to allow immigrants into the country, which is the only countervailing force that could offset the demographic dangers! It’s as if they think pixie dust and story time is going to make these problems fade into the ether.
[mainbodyad]
Reader Comments (9)
Comments are presented chronologically, with replies indented beneath the comments to which they respond.
AC
August 27, 2012
"There are only two ways to maintain the retirement pensions and other benefits that have been promised by the government to its workers when the plans are underfunded:"
Not entirely true. There is a third (read: California) way. Cut other programs and skip payments on muni bonds in order to keep funding pensions. MBIA and Assured Guaranty are currently suing the city of Stockton for doing so. This is going to spread to other municipalities and last a decade or two.
UK Finance Hound
August 27, 2012
More and more people are upset with what Public Sector workers receive. Their pension benefits and the little they contribute are so attractive.
Myles Ussher.
August 28, 2012
There's a third way: Inflation.
Joshua Kennon
August 28, 2012
Replying to Myles Ussher.
Municipalities don't have the power of the metaphorical printing press. That is an option vested solely with the Federal government, assigned to the Federal Reserve under current law, meaning it isn't a viable option on the table if you are overseeing the budgetary problems of a town, county, or state.
Myles Ussher.
August 28, 2012
Replying to Joshua Kennon
Do you really believe the Feds won't respond to the political pressure to "save" the plans once they start falling like dominos?
Joshua Kennon
August 28, 2012
Replying to Myles Ussher.
The Feds are so removed from the individual municipality problems, which will be blamed on the workers and the individual politicians overseeing Podunk, USA that it won't factor into the bigger political pressures the Federal Reserve faces, which are namely managing the money supply of the nation and working to achieve full employment.
If inflating our way out of this mess, which has always been a very real possibility due to the problems with the Federal budget, comes to pass, the small town municipalities serendipitous beneficiaries of that action, not the intended targets.
History can be a decent guide here. The Feds didn't give a damn when New York City was on the brink of bankruptcy 40 years ago, and New York had to solve the problem itself (which it did). They have bigger things to worry about.
FratMan
July 19, 2013
Thoughts on Detroit's bankruptcy?
(P.S. A judge just ruled it unconstitutional for public pension reasons).
Joshua Kennon
July 19, 2013
Replying to FratMan
If permitted, it would be the best possible situation for Detroit, but potentially devastating for other municipalities, especially in non-intended ways. For the past century, municipalities have enjoyed rock-bottom borrowing costs, making it possible to fund infrastructure, education, and other projects at very affordable rates, extended out the repayment over the lifetime of service of those who get to enjoy the facilities or improvements. If investors suddenly think a municipal bankruptcy is a possibility, they are going to demand a higher risk premium, which means higher taxes and / or less improvements in the future to the detriment of most communities as a greater portion of cash flows are devoted to interest servicing.
Given our aging infrastructure and need for investment, this is not an ideal situation. You'd probably see richer communities continue to thrive and poorer communities fall even further apart, already exasperating a bad situation. It wouldn't show up over night, but it would happen. Why would a rational person risk money to try and upgrade or turn around an area that has fallen into disrepair in Cleveland if he can get the same return and less risk in the gated suburbs of Dallas? There will be consequences for the nation if it goes through, albeit mostly hidden in the form of opportunity cost and incentive shifts.
For the sake of the 3.7 million people in the Detroit metro area, I hope it goes through. For the sake of the other 310.2 million people in the nation, I hope it is stopped.
Ang
March 29, 2016
Chicago's bond was just downgraded recently. California is considering inplementing a portable retirement plan: http://www.latimes.com/business/la-fi-mandatory-401k-20160329-story.html and other states appear to be looking at the same thing.
Baby steps in the right direction? I think having the structure there is a good first step. The execution will still always be tough. Will the munis and states who employ this tactic appoint the right people to manage the funds? Perhaps they will resort to indexing, pushing the balance between the weighing machine and blind asset price inflation further out of whack into the future. Will be interesting to see