Prop Zero
The Starting Point for Commentary and Coverage of California Politics

Both Sides In Pension Debate Use Logic of Madoff

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    NEWSLETTERS

    Critics of California's pension system for public workers rightly point out that the future retirement promises are based on guarantees of high returns. They're right: The pension funds essentially promise between 7.5 and 8 percent returns, the sort of guarantees offered by Bernie Madoff and other Ponzi schemers. No one should expect a particular return because no one knows the future.

    But some of these pension critics are making the same mistake as the pension funds: They are guaranteeing fiscal Armageddon, even though they don't know the future.

    Just this week, former Los Angeles Mayor Richard Riordan, in a Wall Street Journal op-ed co-authored by investment firm president Alexander Rubalcava (subscription required to read the entire story), predicted bankruptcy for his city by 2014.

    Riordan based this prediction on estimates that "the city's annual pension and post-retirement health-care costs will increase by about $2.5 billion if no action is taken by the government."

    That may be true, but Riordan embraces the logic of the pension funds when he makes the leap to bankruptcy. To know that bankruptcy is coming, one must know two unknowable things: that the city won't take actions to reduce these liabilities, and that the pension fund investments won't improve enough to cushion some of the blow.

    Memo to Mayor Riordan: If I'm wrong about this, and you really know for sure what the stock market is going to do between now and 2014, please call me (and no one else) immediately.

    Riordan isn't wrong to be concerned about pension costs. Every dollar cities and the state spend to cover these liabilities is a dollar we don't have to spend on education and other public services. But Riordan's method of argument is likely to undermine his credibility. Let's say there's a stock market surge between now and 2014, which pushes up pension fund returns. This would be the worst of both worlds: making his prediction of bankruptcy look silly while only masking (but not eliminating) the long-term risks to the government of pension promises.

    Better to say it straight: California governments have made billions and billions of dollars in promises of pensions and post-retirement health benefits to their employees -- without anyone knowing for sure whether those promises can be paid back. That ought to be scary enough.

    (/blogs/prop-zero)