Letter to the Public Pension Working Group

By Jason Bailey
January 16, 2019

Dear Member of the Public Pension Working Group,

Thank you for the opportunity to provide input to the Public Pension Working Group on this vital issue facing the commonwealth. I am encouraged by the creation of this group as an important step in opening up the conversation to the public. I hope the working group will take the additional steps necessary to involve those directly affected by the issue, and invite comment from a wide variety of perspectives as you consider the best path forward. As an organization that has conducted regular analyses of Kentucky’s pension systems since 2012, we would be happy to provide input.

As you know, the conversation that began in 2017 is not the first one Kentucky has had about this issue, nor has the state failed to take action on our pension funding challenges. Here are a few important considerations about where things stand:

  • The legislature has already made multiple rounds of cuts to benefits for new workers and required them to contribute more for their retirement benefits, including in 2004, 2008, 2010 and 2013. We have also eroded benefits for many workers through a lack of public employee raises — including no raises in 8 of the last 10 years for state employees.
  • Benefits remaining are modest in cost (with normal costs of just 2.5 percent of pay for state employees in the KERS non-hazardous hybrid cash balance plan and 5.7 percent for teachers, for whom the state does not contribute to Social Security). Further reductions on the backs of new employees will not result in meaningful savings, but will harm our ability to attract and retain qualified employees for important public services.
  • Liabilities are largely owed to people already retired. For example, approximately 71 percent of accrued liabilities in the KERS non-hazardous plan are for retirees, and 98.6 percent are for people hired before 2008. The benefits of both retirees and current workers are protected by the inviolable contract to a very large degree, in addition to being morally obligated based on the promises given at the time of hire and retirement.
  • Additional funding the General Assembly provided beginning in 2015 for the state KRS systems and 2017 for TRS is making a real difference. KERS non-hazardous has stabilized and is seeing substantial positive cash flow starting this year based on contributions alone, meaning it no longer has to liquidate assets to pay benefits. The TRS funded ratio has climbed from 54.6% in 2016 to 57.7% in 2018 thanks in large part to the additional funding.

Traditional defined benefit plans remain the standard in the public sector, with an estimated 89 percent of state and local employees nationwide covered under such plans. That’s because they are sensible way for large, permanent organizations like governments to efficiently provide competitive benefits that are deeply valued by employees. Of course plans must be funded and managed properly, including assumptions adjusted gradually over time when needed to reflect changing economic and demographic conditions (KRS assumptions were dropped suddenly to the most cautious in the country). At the same time, plans do not have to be 100 percent pre-funded to be healthy, and we have time to gradually rebuild the plans given that existing liabilities are owed over the next 50+ years.

Given this context, what the legislature largely faces is a funding problem. There are two aspects of a solution to that problem:

  • First, what revenue streams can help secure sustained pension funding while also allowing Kentucky to reinvest in the public services that have been painfully cut in the recent past to make pension contributions? We recently released a report with a number of revenue options and are happy to discuss those and other options with the committee. For the pension systems, revenue is needed both to provide direct cash to the plans as well as to resume payroll growth in state government.
  • Second, what funding schedule will allow the plans to improve their health over time while fairly distributing the costs of doing so? The relief the legislature appropriately provided to CERS and to quasi-governmental entities suggests a shared understanding that costs are currently unnecessarily front-loaded in some cases. Kentucky could explore a more targeted, reasonable funding schedule for some of the plans that could make funding pensions overall more affordable even while being fiscally responsible and fully protecting benefits.

Finally, I would like to share analyses we have conducted of the most recent proposals under consideration:

Thank you for your consideration of this information. I look forward to the opportunity for further discussion.

Sincerely,

Jason Bailey

Executive Director
Kentucky Center for Economic Policy (KCEP)