Bad news coming for California cities as CalPERS staff nudges board to consider lower return rates

By Steven Greenhut | There’s bad news coming down the pike for California municipalities following several days of board meetings for the nation’s largest state-based pension fund. Although no action has been taken, it’s clear the California Public Employees’ Retirement System, or CalPERS, might again lower its expected rate of returns on investments. That means cities and other member agencies would have to pay more to make up the shortfall.

A key moment, buried amid nearly 13 hours of recorded meetings, came when CalPERS’ Chief Investment Officer Ted Eliopoulos played a short interview video with Wall Street experts, including famed investor Warren Buffett, opining on the expected investment returns in coming years. One investment guru thought a 4 percent or 5 percent rate of return would be the objective. Buffett pointed to very slow growth in the economy.

Eliopoulos used a diagram showing a 30-year decline in interest rates, even as discount rates used by pension funds remained steady. CalPERS currently calculates its pension liabilities based on an expected return rate of 7.5 percent. Based on the data provided by CalPERS staff, it’s clear the agency would need to ramp up its risk taking to have any chance to continually meet such goals. In the past year, CalPERS’ return rate was 0.6 percent.

Longtime pension-reform advocate Daniel Pellissier, president of California Pension Reform in Sacramento, praised the CalPERS staff for its bout of truth telling, given that such predictions are not what the current system’s defenders want to hear. “I’d like to think they actually have a conscience and they understand the role they play,” he said. “What do you do when you’re facing flat returns for years ahead and liabilities are rising?”

The staff is “pushing the board to do the right thing,” Pellissier added. “Some board members are essentially saying to staff: Make me do the right thing.” The “right thing,” in Pellissier’s view, is to further reduce the expected return rates to more closely match market performance. He compares the situation to 1999, when CalPERS officials did not sound the alarm bells about the looming costs that would follow SB400, the law that led to 15 years of statewide retroactive pension increases and that still plagues the system to this day.

At least one CalPERS board member complained about the cost of reducing the discount rate. There’s no doubt that doing so means that California cities will face costly spikes in their payments. But in reality, the costs are already there. State and local governments have already made pension promises to public employees. The courts have consistently enforced the so-called “California Rule,” which stops agencies from lowering benefits for current employees, even going forward.

The question, according to reformers like Pellissier, is how forthright state officials will be in accounting for the size of the pension-related debt. Few dispute the essential point: Governments have undercharged municipalities for the cost of pension benefits, possibly for decades. They have to keep those promises. The “unfunded pension liability” is essentially the debt – the difference between what’s promised and the available funds.

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