I thought an article this morning on California’s CALPERS public pension plan was of special interest. The plan is the nation’s largest non-Federal pension plan, with $260 billion in assets.
The article’s central point is that, assuming CALPERS’ 7.5% assumption about investment returns is correct, the plan is underfunded by over $80 billion. If that assumption is wrong, and returns come in at 6%, it is underfunded by $290 billion — more than half. (Since CALPERS has historically earned 7.7%, even the claimed modest under-funding suggests insufficient contributions by the state and its municipalities.)
I’ve written before about the mechanism we use to estimate prospective market returns, which suggests to us that future U. S. equity returns will be 5% per year or less, with fixed-income lower still. Consider how truly massive future pension deficits would be if our lower-return projections are accurate.
As I’ve said before, I believe that managing the gap between the promises of social democracy and the resources available to meet those obligations is one of the central challenges of our time. Whether defined-benefit plans remain a realistic option, especially with the perverse incentives for over-promising in the public sector, is open to debate.