Because they work on the power of compounded interest, pension systems only work when all payments to them are made in full and on time. This is how small, regular payments create large amounts of wealth. While I cannot speak about other states and how their pensions got to be the way they are, virtually every honest observer notes that the Illinois General Assembly has not made its contributions to the Teachers’ Retirement System and to other public pensions.
The General Assembly has skipped close to $15 billion in payments over the last decades to TRS alone, $11.2 billion since 1990. By foregoing these payments, the General Assembly not only denied the value of the initial contribution to the fund, but forced the fund to forfeit the earnings that these contributions would have garnered over time had they been invested.
These gains would have been considerable: the Teachers’ Retirement System has averaged 9.83 percent annual returns since 1982. Arguments that pensions are set on unrealistic earnings is not accurate in Illinois’ case; actuarial studies show that the pension fund has made its projected earnings like clockwork. Therefore, the Illinois General Assembly did not skip payments based on over exaggerated rates of return. It did so simply because it was convenient and legal to do so.
In contrast, each teacher pays 9.4 percent of his or her income from each paycheck, supplemented by a .58 percent contribution from each school district. Both teachers and districts have made 100 percent of their contributions on time, every time. They have no choice, in fact.
This cannot be said for the Illinois General Assembly, however. It often balanced its budget by skipping pension payments, using the money for everything else – except the pensions for its public employees: roads, bridges, even building a now empty prison. In a bitter irony, some of the money even went to K-12 schools, forcing teachers to cannibalize their future pensions to secure the state’s commitment to school children.
We should note that taxpayers benefited from this diversion of funds – they got more government services than they paid for, since the money that should have gone into pension funds went to other expenditures. Essentially, public pension funds became an easily-used “credit card.” (It might also be noted that Illinois has among the lowest ratios of state employees to the general population; it has outsourced services for decades now, having been in the vanguard of privatization. One cannot argue that these expenditures simply went back to public employees in terms of salaries and benefits.)
Nor can one argue that the state simply could not afford to make its payments. If it were not for the pension debt, the State’s contribution would be about 6.3 percent to 8.6 percent. It is true that this is a bit more than the standard FICA/Social Security contribution employers make (6.2 percent), though it is less than the defined-contribution approach, which would involve the cost of FICA and maintaining thousands of individual 401(k) accounts and matching each individual employee’s contributions. In the private sector, this usually averages 4 percent of an employee's income. Hence, the average retirement costs for employers in the private sector are approximately 10-11 percent of employee salaries, much more than TRS.
Nor is the cost to taxpayers excessive: the “normal” cost (without the debt) of last year's contribution to TRS from the General Assembly would have only been $715 million, a mere $55 per Illinois resident each year – a cost similar to purchasing the Sunday newspaper each week. Even a teenager who spends $10 or $15 a week on bubble gum and video games will pay that much in sales taxes in year, as will a retiree who dines at a restaurant once a week.
The cost is not exorbitant for the taxpayer – that is simply a lie told by too many editorial writers, politicians and others who should know better. Hence, with the system running properly and with full contributions from both teachers and the State, the Illinois Teachers’ Retirement System would have had 16-18 percent of teachers’ salaries to invest at 9 percent at compound interest for 35 years – enough to pay the modest pensions promised to teachers. That is, if the Illinois General Assembly had done the right thing.
But instead of doing the right thing, the Illinois General Assembly skipped payments and enjoyed “pension holiday” after “pension holiday." ("Pension holiday" is the horrid euphemism used for skipping pension payments.) This created a gigantic debt of over $40 billion in unfunded liabilities for TRS, thus, driving up the cost of the state’s contribution to the retirement fund. Last year, the state's total contribution was $2.2 billion instead of $715 million, two-thirds of which is accumulated debt.
Granted, the recent economic crisis hurt TRS, as it did all investment funds across the world. Nevertheless, a recovery is underway. According to a recent press release from TRS, “the Teachers’ Retirement System Board of Trustees reported total assets of $37.3 billion at the end of March 2011, a 23 percent increase over the assets held by TRS in 2009 during the depths of the world financial crisis. During the first nine months of fiscal year 2011, the investment rate of return for TRS was 21.38 percent, besting the current target investment rate of 8.5 percent.”
Mr. Zakaria, you also seem uninformed about one simple reality as well: the Illinois General Assembly DID pass pension reform for all new public employees in March of 2010. This law applies to every new hire after January 2011 and is much less generous than the current system. Legislators wrote, passed and sent a bill to the Governor's desk in under twelve hours. (I'll leave it to you to decide how democratic such a process was.) The recent debate centers on benefits for current public employees, which have special status due to the "Pension Protection Clause" in the Illinois Constitution. For this and other reasons, teachers believe that pension “reform” is an injustice. Can you perhaps see why?
"Why We Need Pension Reform" by Fareed Zakaria: