CHICAGO, August 4, 2013 — Detroit, once called the “arsenal of democracy” by President Roosevelt, now sits in shambles, bankrupt. The Detroit bankruptcy catapulted the important issue of public pension underfunding into the national consciousness by bringing the personal consequences to light.
When years of generous pensions came due for payment, the money was not there. As a result, the city filed for Chapter 9 bankruptcy, desperate to find a way out of the seemingly insurmountable crisis.
Though public pensions are not technically the city’s largest financial problem (health care burdens are greater), the Economist argues the pension payment structure is especially worrisome. If courts rule that pensions must be treated as contracts, states have very little flexibility in modifying them. This makes it very difficult to undo the irresponsible promises of past politicians.
The pension crisis wasn’t unexpected. Economists and politicians have been warning about it for years, but the alarms went unheeded. Public pensions are simply not an exciting subject for discussion.
Rafael Rivadeneira, an Illinois politician, has been trying to draw attention to the crisis for years. When he ran for DuPage County Board in 2012, he drew attention to the issue of overly generous public pensions for part-time positions in local government. “Voluntary public service shouldn’t be about receiving generous pay for unaccounted-for work with incredibly generous benefits unheard of in the private sector,” he said.
He has a long battle ahead; Illinois has the largest pension funding gap of any state. According to Moody’s, the funding gap is almost $133 billion. Moody’s calculates the median state’s funding gap at 45 percent of annual revenues. The funding gap in Illinois? A whopping 241 percent.
What does the pension funding gap mean in human terms? It translates to enormous tax increases or draconian spending cuts in the future. Both of these policies hurt middle-class Americans. If pensions cannot be legally reduced or modified, the required spending will crowd out financial needs in other important areas such as education or healthcare. This would result in devastating consequences for the state, businesses, and families.
Though Illinois is the worst case, other states are not far behind. Connecticut, Kentucky, and New Jersey all face large liabilities as well. Nebraska seems to be best-prepared, with a funding gap of only 6.8 percent of annual revenues.
Detroit is a real-life example of what can happen when politicians focus on short-term gain without considering the long-term financial consequences. States should learn from Detroit’s example and start reforming their pension systems now.
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