Pension reformers won a narrow victory this month in the California Supreme Court, but the justices dodged a decision on the “California Rule,” a restrictive provision cherished by public employee unions.
In a nationally watched case, the state high court upheld a pension reform initiated by then-Gov. Jerry Brown that stripped a retirement perk from public employees. The perk, known as air time, allowed public employees to purchase credits that boosted their pensions by up to five years as if they had worked that time.
The unanimous decision in CalFire Local 2881 vs. CalPERS found that these credits were not part of core pension benefits and therefore could be eliminated.
The court explicitly avoided a decision on the California Rule, which makes the pension an employee receives when hired a vested right that can’t be cut unless offset by a comparable new benefit.
“We have no occasion in this decision to address, let alone to alter, the continued application of the California Rule,” the court said.
The court did not tip its hand on what it might do in four other pending cases on which it has yet to schedule oral arguments.
The rigidity of the California Rule has long made it a target of pension reformers. In an interview with the Sacramento Bee last December before he left office, Brown called such rules a “one-way ratchet to fiscal oblivion.”
A dozen other states adopted the California Rule, according to the PublicCEO website, but nine of them have modified it. In California, the rule is embedded in the state Constitution.
The California Supreme Court cited the rule in overturning voter-approved pension cuts in San Diego and San José. San Diego appealed to the U.S. Supreme Court, which on March 18 declined to review the case.
The CalFire decision came as states, cities and school districts across the country come under increasing pressure from unfunded pension liabilities.
In Illinois, a perennial trouble spot, new Gov. J.B. Pritzker, a Democrat, has proposed selling $2 billion of bonds to inject cash into the state’s retirement system.
Pritzker said he won’t make the mistakes of past governors and use the money to cover annual payments, which pushed Illinois’s credit rating to near junk bond status. Instead, he proposes also to raise taxes and turn over some government assets, such as office buildings, to the retirement system.
In Kentucky, the Louisville Courier-Journal reports, $38 million in increased pension costs could shutter health departments serving 42 counties in the coming fiscal year.
Kentucky health leaders are pressing legislators for a one-year reprieve to allow time to overhaul a public health system facing a financial crisis. The higher pension costs could lead local health departments serving an additional 22 counties to run out of reserves and force them to close the following year, state officials said.
In Michigan, 250 public bodies have been flagged by the Michigan Treasury Department for carrying significant unfunded public debt. Small communities in the largely rural Upper Peninsula have been particularly hard hit.
Iron Mountain, a onetime mining community with a population of 7,400, typifies these small cities. It has 41 employees, down from 55 a decade ago, and nearly $1.5 million in retirement health care debt.
Jordan Stanchina, Iron Mountain’s city manager, told Bridge magazine that pension costs have diverted funds from basic functions such as road repair. He said he’s put off water and sewer projects and delayed replacing worn-out equipment.
Similar narratives have played out across the United States as thousands of local governments have trimmed services, delayed capital improvements or reduced staff because of pension pressures.
The City of Santa Barbara never fully recovered from the Great Recession of 2007-2009, city Finance Director Bob Samario says. The city of 92,000 had 662 full-time municipal positions in 2008; it now has 624.
Samario expects “unprecedented” pension costs and an uncertain economy from 2019 to 2025. He predicts that Santa Barbara will survive but says some cities would file for bankruptcy because of pension costs.
“This is the real deal for some cities that aren’t financially strong,” he told Noozhawk. “It will hit them hard.”
In the past decade, pension liabilities played a role in the bankruptcies of three California cities: San Bernardino, Stockton and Vallejo during or soon after the Great Recession.
That recession made the public aware of the strain put on state and city finances by generous retirement benefits and enabled Brown to win legislative approval of a package of reforms embodied in the Public Employee Pension Reform Act of 2012 (PEPRA).
One of these reforms, as upheld by the state Supreme Court in the CalFire decision, banned air time.
Both sides in the ongoing pension debate have attempted to put a positive spin on CalFire.
“This ruling offers hope that California can take reasonable steps to ensure that our pension systems can always pay all the benefits our employees have earned without driving cities, counties and school districts into insolvency,” said Chuck Reed, a former San José mayor and founder of Retirement Security Initiative.
Ted Toppin, chairman of the union-backed Californians for Retirement Security, said he was pleased that the court had left the California Rule in place, “holding that vested benefits cannot be impaired.”
Dan Pellissier, president of California Pension Reform, said the CalFire decision could become a “building block” in other cases. Next up before the court is a case known as Alameda, in which public unions in three California counties are attempting to overturn a provision of PEPRA that banned pension “spiking.”
This practice allowed employees to increase their pensions by adding the value of unused vacation, leave time and other benefits. Cities and counties have saved tens of millions of dollars in retirement obligations since spiking was banned.
Unfunded liabilities for the 50 states reached $1.6 trillion in fiscal year 2017, the last year for which full figures are available, according to Moody’s Investors Service.
Nonetheless, there are some reasons for optimism.
The first reason is that public awareness of the peril of unfunded liabilities that arose during the Great Recession has not abated. Pension issues are frequent discussion items on the agendas of governing bodies of cities and councils.
They’re on state legislative agendas, too. Colorado, Illinois, Kentucky and Minnesota took steps to mitigate their respective pension funding crises in 2018. Pension issues are front and center this year in Illinois, the state with the most unfunded liabilities.
Nine states now perform regular stress tests on their public retirement systems and report the results. These states are California, Colorado, Connecticut, Hawai’i, Kentucky, New Jersey, Vermont, Virginia and Washington.
Another reason for optimism is that some retirement systems have improved their investment practices, among them the California Public Employees Retirement System (CalPERS) and the California State Teachers’ Retirement System (CalSTRS).
CalPERS, the nation’s largest retirement system, had an 8.6 percent return on investments in the 2017-2018 fiscal year; CalSTRS had a 9 percent return.
Even more encouraging, CalSTRS and the Teachers Retirement System of Texas are investing directly in businesses, a practice known as co-investing that was pioneered by Canada.
Public pensions already put billions of dollars into buyout firms such as Blackstone LP, bringing a median annual return of nearly 12 percent. Co-investing, in which pension funds buy direct stakes in companies, promises even bigger gains but requires a highly sophisticated investment staff that smaller funds may be unable to afford.
All in all, states and their pension funds are facing up to the recurrent problem of unfunded liabilities to an unprecedented degree.
It’s imperative that they do since these liabilities pose a clear and growing danger to the fiscal health of state and local government.
— Lou Cannon, a Summerland resident, is a longtime national political writer and acclaimed presidential biographer. His most recent book — co-authored with his son, Carl — is Reagan’s Disciple: George W. Bush’s Troubled Quest for a Presidential Legacy. Cannon also is an editorial adviser to State Net Capitol Journal, which published this column originally. Click here to read previous columns. The opinions expressed are his own.
