Goldman Weighs In On America's Pension Ponzi: Contributions Must Rise $100 Billion Per Year

Over the past several months, we’ve taken a keen interest in the deteriorating condition of state and local government finances in America. 

Moody’s move to downgrade the city of Chicago to junk in May put fiscal mismanagement in the national spotlight and indeed, the Illinois Supreme Court ruling that triggered the downgrade (in combination with a subsequent ruling by a Cook County court which struck down a bid to reform the city’s pensions), effectively set a precedent for other states and localities, meaning that now, solving the growing underfunded pension liability problem will be that much more difficult. 

Just how big of a problem is this you ask? Well, pretty big, according to Moody’s which, as we noted last month, contends that the largest 25 public pensions are underfunded by some $2 trillion. 

It’s against that backdrop that we present the following graphic and color from Goldman which together demonstrate the amount by which state and local governments would need to raise contributions to "bring plans into balance over time."

From Goldman:

Unfunded pension liabilities have grown substantially. There are several factors behind this, led by

- Lower than expected investment returns and

- Insufficient contributions from state and local governments to the plans.

The two issues are related. The assumed investment return is used as a discount rate to determine the present value of liabilities. The higher the discount rate, the lower the estimated liability, and the lower the periodic payment into the fund a state or local employer is expected to make. There is, of course, no clear answer about what the discount rate ought to be, though the fact that the average assumption used by private plans has continuously declined for more than a decade suggests that the rates have probably been too high and that the current average assumption of 7.7% may come down further.

Contributions have also generally been lower than necessary to stabilize or reduce unfunded liabilities because of the rules around how those unfunded liabilities are amortized. Payments into pension plans are generally meant to account for the future cost of benefits accrued during the current year, as well as catch-up payments equal to some fraction of the unfunded liability left from prior years. Many plans target payment amounts that would work off this underfunding over 30 years, though some use shorter periods. However, the amounts of these payments are often backloaded, with the result that even if the “required” payment is made in full the unfunded liability often grows.

A separate but related issue is that some states have simply declined to make even the “required” contribution, which is probably lower than it should be in any case due to the factors just noted. For example, over the last few years New Jersey has made on average only around 40% of the expected payment. New accounting rules promulgated by the Government Accounting Standards Board (GASB) will penalize underfunded plans with a lower discount rate, but the change is fairly minor and, in any case, affects only the accounting; it will not impose any new legal requirements to make the contributions.

If state and local governments are ultimately forced to devote more resources to these obligations, the effect on state and local spending would be noticeable. Exhibit 8 shows the states’ pension contributions, as a share of gross state product, with two potential additions. The first is the level that would be required to simply meet the “actuarially required contribution.” To bring the plans back into balance over time, further contributions would be necessary. In aggregate this would raise government pension contributions by something like $100bn per year (0.6% of GDP), lowering spending in other areas (or raising taxes) by a similar amount. In theory, OPEB costs could push this adjustment a bit higher.

 

The Baby Boom Will Never Retire - Half Have No Retirement Savings At All

Some of you might remember the glossy highly produced advertisements back in the early 1980s when Wall Street decided it was time to turn American retirement plans into casinos.  The slow and agonizing death of the pension plan was supposed to be replaced by the beautiful and wonderful world of the 401(k) plan.  Save for 30 years and in the end, you will be a millionaire just like your friends on Wall Street that sincerely care about your financial future.  Of course since then, we have found out about junk bond scandals, mutual fund fees that make loan sharks look conservative, and of course the financial shenanigans of giving people toxic mortgages that were essentially ticking time bombs of destruction.  This was the industry that was put in charge of helping you plan for your future.  We are now a generation out from those slick ads and the results have been disastrous for most Americans.  A recent analysis found that half of US households 55 and older have no money stashed away for retirement.

The new retirement is no retirement

Planning for retirement takes time.  Saving money is a slow process.  There was a time when simply stashing money into CDs and savings bonds was enough to have a nice nest egg if you were diligent enough.  Yet for the last decade, most banks are paying close to zero percent on their savings accounts thanks to the Fed’s low rate policy to juice the markets.  Since the true inflation rate is much higher, you are essentially letting your money rot away.  So the only other option is for people to invest in the stock market or try to leverage into real estate.

The stock market is largely an arena for the wealthy.  Half of Americans own no stocks at all.  Now after a generation, we are finding out that most people did not follow in the footsteps of those glossy over produced retirement ads:

Source:  GAO

“(Raw Story) Are we all in denial or is it simply impossible to save enough for retirement? Is it some kind of toxic combination of the two? Whatever the reason, yet another study – this one from no less an authority than the non-partisan US government accountability office (GAO) – is here to remind us that we’re woefully unprepared, financially speaking, for retirement. While we may all have dreams about how we’d like to spend our retirement years – fishing, golfing, writing that great American novel – the truth is that as many as half of all households with Americans 55 and older have no retirement savings at all . Nothing. Zip. Nada. Not a dime.

And the news gets worse, the GAO reports. Because households headed by older Americans that don’t have retirement savings like 401(k) plans or IRA accounts also are less likely to have other sources of income that they can rely on when they retire, such as pensions or even plain old savings accounts. About 29% have absolutely nothing : no pension plan, no savings, no 401(k), nothing.”

The idea that all older Americans own their home free and clear is simply not true.  Only 35 percent own their home free and clear from debt (and this does not mean they don’t have expenses like taxes, insurance, and maintenance).  24 percent are still saddled with mortgage debt.  And 41 percent do not own a home meaning they have to pay rents that continue tooutpace any wage gains.

The median net worth of those 55 and older is $34,760.  This is basically one small illness from bankrupting this family.  The median annual income of those 55 and older is $18,932 which makes them part of the new low wage America cohort.

On the retirement side 48 percent have some retirement savings (not much).  29 percent have no pension or retirement savings.  And 23 percent have a pension but no retirement savings.  In the end, it is a tough situation for many older Americans.  And that is why older Americans rely heavily on Social Security as their primary source of income into old age:

If it were not for Social Security, half of retirees would be out in the street bringing back another Great Depression like atmosphere.  This is in stark contrast to that 401(k) dreams pushed by Wall Street investment banks of endless Margaritas and walks on nameless sunny beaches.

The sad reality is that retirement is no longer what people think.  And keep in mind this is happening to the baby boomer generation that lived through some mega US prosperity and stock market bull runs.  What about young Americans today that are starting in an even more precarious position thanks to the insane cost of going to college and the mountain of student debt?  

Many people are realizing that retirement is a luxury only a few can afford.

Submitted by Tyler Durden on 08/18/2015 07:53

Indonesia Impaled: Currency Crashes To 1998 Asian Crisis Low As Exports Crater

On Monday we laid out the rather dire road ahead for the world’s emerging economies in the face of China’s entry into the global currency wars. The path ahead is riddled with exported deflation and decreased trade competitiveness for a whole host of emerging economies [and] all of this is set against a backdrop of declining global growth and trade, a trend which many had assumed was merely cyclical, but which in fact may prove to be structural and endemic."

Well don’t look now, but trade just collapsed for Indonesia as exports and imports plunged 19.2% and 28.4% (more than double to consensus estimate), respectively in July.

Imports of raw materials dove 24%. Manufacturing and palm oil exports fell 7.1% and 2.4%, respectively, nearly tripling June’s declines. Oil and gas exports fell nearly 8%.

Meanwhile, Bank of Indonesia kept its policy rate on hold at 7.5% and indeed the bank looks to be stuck in a dilemma similar to what we described earlier this month when we noted that "EM central bankers are grappling with slumping exports and FX-pass through inflation or, more simply, bankers are caught between a 'can’t cut to boost the economy' rock and a 'can’t hike to tame inflation' hard place. The rupiah, like the Malaysian ringgit, is trading near multi-decade lows and hit its weakest level since August 1998 earlier in the session.Depressed commodity prices and slumping demand from China aren’t helping. 

And neither is Beijing's devaluation of the yuan which means that suddenly, Indonesia has lost export competitiveness to China while anything China imports from Indonesia will now cost more. 

"We believe there is a strong case for the central bank remaining on hold this year," Barclays notes, adding that "BI is visibly more reluctant to weaken the IDR in the near term, to avoid stoking imported price pressures[and] the commodity drag due to weaker demand from China has not subsided." Similarly, Toru Nishihama, EM economist at Dai-ichi Life Research Institute says the "hurdle is higher for BI to cut rate due to the rupiah’s move even though inflation will slow toward year-end due to base effect from last year’s fuel price increase." Of course cuts, even if they do come, are now less effective in terms of boosting exports as the yuan devaluation puts upward pressure on regional NEER. 

In other words, there are no right answers. Just more pain and further pressure on the beleaguered economy and severely battered currency and further evidence that between China's entry into the global currency wars, depressed global commodity prices, the threat of an imminent Fed hike, and a generally lackluster environment for global demand and trade, the world's emerging markets face a perfect storm with no end in sight.