1. Pension Tsunami: Looming Pension Liquidity Crisis Threatens Municipal Markets The Belle State Fund: Illusionary Returns and Unfunded ARCs
Dr. Kathleen Connell
University of California
Retirement Security Institute

2. “New Normal” Economy Impacts Public Pensions
Lower than projected returns on investment portfolios
Weak public sector labor markets
Unexpected growth in early retirement and layoffs
Failure to fully fund employer pension contributions

3. Pension “Bubble” Municipal defaults and bankruptcies
Erosion of investor confidence in municipal markets
Reduced budgetary support for other public programs – education, infrastructure
Derails national recovery
Upends commitment to public sector defined benefit programs

4. Legacy Gap Problems
Joshua Rauh, Northwestern University Kellogg School of Management
Alicia Munnell, Boston College Center for Retirement Research
NASRA
Center for State and Local Government Excellence

5. Liquidity Crisis Dire cash shortfalls reduced tax receipts
Lower than targeted 8% investment returns
Defined employer contributions
Record baby boomer retirements
Lump sum payment policies
Reduced contributions as pension membership drops

6. Belle State Fund
Test relationships of variables impacting pension solvency
Review financial impacts of aging pension fund demographics
Measure the likelihood of achieving targeted investment returns
Explore full funding assumptions
Propose needed reforms

7. History of Belle State Fund
1960
Founded in 1960, average pay $10,000, 4% annual increase
Reviewed 60 year history
All participants enter at 22; retire at 61; die 83
Employer 8.7% contribution
2% x yrs. service x average pay final 3 yrs.
2010
Average age: 44 years
32% within 5 yrs. Retirement
Salary of $71,000
2010 – 2020
27% reduction in active staff

8. Solvency Status at Constant 8% Level
Contributions make significant impact: 1960 – 1990 – no distributions until yr. 19 (1989)
Maximum yrs. service contribute solvency fund
Belle State Fund grows an average 14% – 16% yrs. with 8% constant returns
Asset Growth 6.7% – 1990 – 2020 due to distributions to retirees
By 2020: 80% money derived from returns on investments at 8%

9. Impact of Volatile Investment Returns
10 year cycle of returns
20% spike in IRR/Decennial Census Year
20% decline in IRR following year
20% increase – 3rd year
8% for all remaining 7 years
In only 5 of 60 yrs. does fund suffer decline in investment returns
For 55 yrs., fund achieves returns of of 8% or higher
Total Fund Assets: 54% base scenario

10. Level of Investment Return Required to net 8
Level of Investment Return Required to net 8.0% in volatile environment
9.3%

11. Deferred Employer Contribution Not Harmful – Unless Correlated with Volatility
Correlation certain to occur
Full funding is assumed with high IRR’s
Underfunding in market decline, reduced tax revenues
Double Whammy
Less than fully funded ARC
Volatile investment markets
Fund assets at 46% base scenario

12. Belle State Fund Employee Contributions (ARC) & Volatility Analysis
Baseline
Alternative 2
Alternative 3
Alternative 4
Volatility
None
ARC Contribution
100%
88%
Assets Remaining 2020
54% Base Scenario
90% Base Scenario
46% Base Scenario

13. Public Pension Fund Fallacies
Unrealistic return rates
Excessive income replacements levels
Lump sum policies while declining membership base
“Full Funding” – not valid measure of pension solvency
Oct – Market Peak 14,000
Feb – Cyclical Low 7,000

14. Open Membership in Public Pension Funds
Solicit new civilian employee contributions bolstering investment dollars/reducing liquidity pressures
Facilitate necessary State & Federal legislation
Provide access to 50% working Americans without employer based plan
Target self-employed and small business employees

15. Benefits of Civilian Accounts: Public Pension Plan
Highly Diversified Investment Pool – Professionally Managed
Reduced Management Fee – drop from 150 Basis Pts. To 50 Basis Pts.
Buffer Market Volatility – Larger Fund and Hedges
Financial Literacy Programs
* Result in savings that increases nest egg by 20% - 20 yrs. – 5 to additional yrs. retirement security

16. Municipal Resources Facility “Too Big to Fail”
Lend credit support to weakened municipalities to access market
Additional supplemental stimulus funds – fungible for other services, freeing general fund dollars to support pensions
“Moral hazard” standard applicants must reform pension systems
Reforms include:
FRTIB menu choices
Best Practices

17. Other Reforms Reduce Income Replacement to 50%
Return 3 Leg Retirement Stool – Support Social Security
Pension Governance Reforms
Financial Credentials Pension Trustees
Annual Employer Contribution Commitment
Transparent Actuarial Models, Reduced Discount Rates
Reasonable 6.5% IRR targets
(Buffet and Blackstone)