Simply converting the plans would ensure the employees get what has been paid in for them, without letting public employees hold the taxpayers hostage if investment returns are below par. Moreover, the cost of defined contribution plans is clearly visible each year, which would lead to better cost control and accountability to taxpayers.

The abuse of public sector defined benefit pensions by govt unions is a back door way of extracting above market compensation and hiding it from the public.

]]>For what it’s worth, Social Security projects a long-term GDP growth rate of around 2.2 percent and CBO is pretty similar. GDP growth will be slow just because labor force growth will be slow, mostly due to population aging. Given the size of the fiscal problems at the federal level, which these GDP projections ignore, I wouldn’t be too surprised if we were in the 2% range.

]]>I don’t see this assumption as particularly bearish – if current inflation forecasts hold, it implies realized returns of around 4.5%. The NYT graphic presents our calculations of the returns that would be needed to bail states out of their problems. The mean is about 13.5%. So assuming pension funds get lucky and earn a couple percentage points of additional return isn’t going to solve the problem either.

More to the point, it is irresponsible policy to assume that the pension funds will receive with certainty the same returns they earned in the past by betting on the stock market. The fact that most systems are attempting to target 8% returns in an environment where the 10-year bond is yielding 3.0% necessarily means that they are taking on even more substantial investment risk than in the past, exposing taxpayers to an even larger downside since the pensions have to be maintained regardless. Governments should not set policy by assuming that historically good stock market realizations will continue indefinitely and are risk-free.

]]>Thank you for your response.

Your study also assumes a real rate of investment return of 1.7 percent, far below the actual historic experience of public pension funds and other investors, What would be the effect of a more realistic real rate of return, say, of four percent?

]]>Our study assumes annual real GDP growth of 1.98%. Using the official BEA statistics, my calculation of average annual postwar real GDP growth is 2.99%. Increasing the assumed growth rate by one percentage point from 1.98% to 2.99% would cut $120 per household off of the $1,398, leaving each household’s tax increase at $1,278. This calculation is symmetric to our finding in the paper that $120 per household is added if GDP growth is 1% slower. So if the growth rate is the postwar average instead of the average over the past 10 years, only 10% of the problem would be solved.

Do we think we’ll see real GDP growth of 3% for the next 30 years? That implies that the real size of the US economy will be 2.4 times as high in 2040 as in 2010. A factor of 1.8 times, consistent with 2% real GDP growth, seems more likely. A real growth assumption of 2% isn’t particularly pessimistic. Indeed, to claim the next sixty years are going to be like the last sixty is basically saying there was no luck involved in the postwar era economic performance, i.e. that we are going to have the best performing economy in the developed world once again, because the US just grows faster.

Regardless, we can see from the calculations that economic growth is not going to bail the state and local governments out of the joint problems of legacy liabilities and the fact that government accounting standards distort the economic cost of ongoing benefit promises.

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