California cities facing growing pension costs in new year

After two years of miniscule investment returns, the nation’s largest state pension fund – the California Public Employees’ Retirement System – has once again lowered its expected rates of return. Even some CalPERS officials and consultants argue the lowered financial expectations don’t go far enough to shore up the fund’s financial position, as it now only has 68 percent of the assets needed to pay all its future retirement promises.

This end-of-year board vote to reduce expected investment returns from 7.5 percent to 7 percent portends difficulties for local agencies that provide pensions to their public employees through the CalPERS system. Lowered earnings estimates mean these agencies will have to contribute significantly higher payments to the pension fund to defray the costs of these benefit packages. In 2012, CalPERS dropped its expectations from 7.75 percent to 7.5 percent.

“The three-year reduction of the discount rate will result in average employer rate increases of about 1 percent to 3 percent of normal cost as a percent of payroll for most miscellaneous retirement plans, and a 2 percent to 5 percent increase for most safety plans,” according to a CalPERS statement following the vote. The “normal” cost doesn’t address the growing size of the fund’s unfunded liabilities (i.e., debt), so local governments will also have to boost their “unfunded accrued liability payments” by as much as 30 percent to 40 percent.

California local governments already have faced 50-percent hikes in their CalPERS payments over the past several years, which has led local officials and pension reformers to increasingly fear a continuing cycle of service cut-backs and tax increases. Indeed, there was some pressure at CalPERS to push the expected return rates down to the 6 percent range, but some officials expressed concern about what this would mean, cost wise, for member agencies.

“The reduction in the rate of return is not as big as was discussed last month,” according to a Dec. 21 report in Pensions & Investments. “Chief Investment Officer Theodore Eliopoulos said at last month’s finance and administration committee meeting that given diminished investment return assumptions over the next decade, 6 percent was a more realistic return for the coming 10 years. Andrew Junkin, president of Wilshire Consulting, which serves as CalPERS’ general consultant, said at the November meeting that Wilshire was predicting an annual return of 6.21 percent for the next decade, down from its estimates of 7.1 percent a year earlier.”

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