PAR Releases Analysis of Governor’s Proposed Cash-Balance Plan for New State Employees
Contact: Robert Travis Scott
(225) 926-8414, ext. 221
The Public Affairs Research Council of Louisiana has released an analysis of the governor’s proposed cash-balance retirement plan for new hires in state government service. The report provides background on the state retirement systems’ unfunded liabilities and identifies the advantages and disadvantages of the proposed new system for employees, the state and taxpayers. Click here for the full report.
The report recommends that the state seek opportunities to lower taxpayer risks in the long run by considering new types of retirement plans for a new generation of state workers.
“A new retirement plan should be designed to lower the risk of generating further unfunded liabilities compared to the existing system,” said PAR President Robert Travis Scott. “A new retirement plan should be less volatile and more pragmatic from the taxpayer point of view while also being fair and offering greater flexibility to new employees.”
Although a new plan would not remedy the state’s existing unfunded accrued liability, it could provide a new retirement platform with less risk of repeating prior mistakes.
The governor’s cash-balance proposal has been presented as a candidate to fulfill this role. If passed, it would over time replace the existing defined benefit plan as the primary retirement program for most state workers.
It would be unique among public sector plans: Few other state or local governments have adopted cash-balance plans and the governor’s would appear to be the first to base employee interest credits on a rate of return tied to market performance. It has the advantage of providing at least a modest secure income base for retirees and an upside potential for them if investment markets cooperate. It is a less volatile but not riskless system for taxpayers.
The main benefit from the cash-balance plan potentially could come in the form of long-term cost savings by guaranteeing only the interest gained on employee retirement accounts. The state would not be promising a greater benefit than the gains achieved in the financial markets, thereby reducing the risk of accumulating unfunded liabilities.
However, under a cash-balance plan, employees would be protected in that their retirement accounts could not lose value. This protection runs a financial risk for the retirement systems. Actuarial estimates vary as to whether the plan would offer cost savings to the state. Tax dollars could be further protected if the plan were adjusted to allow the state to take more than a 1 percent buffer under certain highly favorable market conditions.
Decision-makers should design the program to provide employees a fair level of retirement benefits based on realistic expectations, especially considering the fact that Louisiana’s state government workers do not participate in the federal Social Security program and therefore lack that financial cushion in their later years.
The governor’s plan would not be structured to provide for cost-of-living adjustments, which are beneficial to retirees but costly under the current system. The cash-balance compensation method would abandon the current “final pay” formula that leads to spiking and other bad effects and it would be portable upon departure from government service. However, some believe this aspect of the plan raises some risk of higher costs and a more conservative investment portfolio due to higher employee turnover.
Proponents of a new plan should demonstrate that it would be cost-effective compared to the current plan: If retirement benefits for long-term workers are going to be lower under a cash-balance program, which appears to be the likely scenario, then the state’s long-term expense of financing the plan should be lower also.
Unfortunately, competing actuarial estimates offer wholly different views of the costs and impacts of the cash-balance program, so much so that the state might consider a third opinion. The administration needs to make a convincing argument that its plan is cost effective and that tax dollars will not continue to be spent at the same rate only to result in lower benefits to retirees.
Ultimately, the impact of the cash-balance plan will depend on what takes place in the future with regard to investments and other unknown factors, and so the anticipated advantages of adopting the plan will vary depending on assumptions about those future events. Under most sets of assumptions, the cash-balance plan carries less risk than the current system of inflating the unfunded liabilities in the retirement systems.
The state should be considering options for a new retirement system for new employees. If a new system is adopted, it should be designed in a way that encourages full funding, diminishes the prospect of unfunded liabilities and offers taxpayers some protections against the negative impacts of poor financial markets and overly optimistic investment projections.
If the cash-balance proposal is deemed inadequate as the debate continues and more information about its potential impact is released, the state should not give up looking for the right solution for a new type of Louisiana retirement plan.