With the stock market in the tank, many individuals yearn for the security of a government-funded retirement plans compared to private, individual investments in stocks and bonds. However, public pensions may not be so safe after all.
An NBER working paper by Novy-Marx and Rauh finds that public pension funds run by the states in the U.S. are significantly underfunded.
“We conservatively predict a 50% chance of aggregate underfunding greater than $750 billion and a 25% chance of at least $1.75 trillion (in 2005 dollars). Adjusting for risk, the true intergenerational transfer is substantially larger. Insuring both taxpayers against funding deficits and plan participants against benefit reductions would cost almost $2 trillion today, even though governments portray state pensions as almost fully funded.”
As a San Diego resident, I know first hand how the government can mess up public pensions. San Diego was named “Enron by the Sea” because underfunding the public pension system has created an enormous deficit. City attorney Mike Aguirre is considering having San Diego declare bankruptcy because of the huge shortfall.
- Novy-Marx R, Rauh R (2008) “The Intergenerational Transfer of Public Pension Promises” NBER WP #14343.