october 15, 2010 teacher pension reform by chad aldeman
TRANSCRIPT
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October 15, 2010
Teacher Pension Reform
By Chad Aldeman
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What Are Public-Sector Pensions?
• Formula-based benefit calculation
• Monthly payments guaranteed for life
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The Problems with Public-Sector Pensions
• The Underfunding Problem
• The Divergence Problem
• The Human Capital Problem
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The Underfunding Problem
• Heavy reliance on financial assumptions
• Stock market decline AND benefit enhancements contributed to current conditions
• 47 states underfunded by $500 million
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Status of Louisiana Teacher Pensions
• 88,000 active members, 62,000 retirees
• Unfunded liability of $9.3 billion (59.1% funded)
• 7.8% long-term return on investments (less than projected)
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The Divergence Problem
• Public-sector retirement is now different from private-sector retirement
• Private-sector workers bear more risk
• Public-sector workers retire earlier
• Public-sector retirement plans have not kept up with a changing workforce
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Defined Benefit Plans From the Employee’s Perspective
• Guaranteed payments for life, adjusted for inflation
• Strong rewards for longevity
• Little portability
• Few choices
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Defined Benefit Plans From the Employer’s Perspective
• Tricky assumptions
• Unpredictable contributions
• Rewards longevity, good and bad
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Louisiana’s Defined Benefit
• Formula based on years of experience, final average salary (highest 3 years), and 2 or 2.5% multiplier
• Guaranteed monthly payments from retirement until death, adjusted for inflation
• 25-year longevity reward
• Bad deal for early leavers
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Pension Wealth Accrual Under Louisiana Defined Benefit
0
200000
400000
600000
800000
1000000
1200000
1400000
25 26 27 28 29 30 31 32 33 34 35 36 37 38 39 40 41 42 43 44 45 46 47 48 49 51 52 53 54 55 56 57 58 59 60 61 62 63 64 65
Age
Pen
sio
n W
ealt
h
Defined Benefit
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Teachers Today Have Less Experience
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The Human Capital Problem
• Large-scale recruitment issues
• Retention issues
• Policies designed for a stable and localized workforce that is changing
• Few financial or non-financial incentives for quality
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Teacher Salaries Compared to Teacher Effectiveness
0
10000
20000
30000
40000
50000
60000
70000
80000
90000
100000
0-1 2-3 4-5 6-7 8-10 11-13 14-16 17-19 20-22 23-25
Years of Experience
Bas
e S
alar
y ($
)
-0.07
-0.06
-0.05
-0.04
-0.03
-0.02
-0.01
0
0.01
0.02
0.03
Tea
cher
Eff
ecti
vess
in
Mat
h (
s.d
.)
Bachelor's Degree Holders Master's Degree Holders Teacher Effectiveness
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Defined Benefit Pension Wealth Accrual Compared to Teacher Effectiveness Gains
0
50000
100000
150000
200000
250000
300000
350000
400000
450000
500000
0-1 2-3 4-5 6-7 8-10 11-13 14-16 17-19 20-22 23-25
Years of Experience
Pe
ns
ion
We
alt
h
-0.07
-0.06
-0.05
-0.04
-0.03
-0.02
-0.01
0
0.01
0.02
0.03
Av
era
ge
Te
ac
he
r E
ffe
cti
ve
ne
ss
Pension Wealth Teacher Effectiveness
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Teachers Time Their Retirement
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Do Other Pension Structures Address These Issues?
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Comparing Different Pension Structures
• 25-year old teacher
• Begins teaching in 1975
• Same contribution levels
• Real interest rates, stock market returns, plan assumptions
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Pension Wealth Accrual Under Louisiana Defined Benefit
0
200000
400000
600000
800000
1000000
1200000
1400000
25 26 27 28 29 30 31 32 33 34 35 36 37 38 39 40 41 42 43 44 45 46 47 48 49 51 52 53 54 55 56 57 58 59 60 61 62 63 64 65
Age
Pen
sio
n W
ealt
h
Defined Benefit
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Defined Contribution Plans
• 401k (or 403b)
• Employer sets contributions in advance
• Contributions are predictable
• Unpredictable outcomes
• Risk born by employee
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Pension Wealth Accrual Under Hypothetical Defined Contribution
0
200000
400000
600000
800000
1000000
1200000
1400000
25 26 27 28 29 30 31 32 33 34 35 36 37 38 39 40 41 42 43 44 45 46 47 48 49 51 52 53 54 55 56 57 58 59 60 61 62 63 64 65
Age
Pen
sio
n W
ealt
h
Defined Contribution
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As Plans Get Bigger, Earnings Matter More
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Cash Balance Plans
• Legally a defined benefit
• Employer sets contribution and investment credits
• Conservative investments yield steady accumulation
• No big leaps or dives
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Pension Wealth Accrual Under Hypothetical Cash Balance
0
200000
400000
600000
800000
1000000
1200000
1400000
25 26 27 28 29 30 31 32 33 34 35 36 37 38 39 40 41 42 43 44 45 46 47 48 49 51 52 53 54 55 56 57 58 59 60 61 62 63 64 65
Age
Pen
sio
n W
ealt
h
Cash Balance
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Pension Wealth Under 3 Options
0
200000
400000
600000
800000
1000000
1200000
1400000
25 27 29 31 33 35 37 39 41 43 45 47 49 52 54 56 58 60 62 64
Age
Pen
sio
n W
ealt
h
Defined Benefit Defined Contribution Cash Balance
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Barriers to Reform
• Legal restrictions bar changes for existing members
• Strong political forces
• Conversion costs
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What Should States Do?
• Make regular contributions
• Close loopholes
• Join Social Security
• Use phase-in periods
• Consider alternatives (cash balance, defined contribution, hybrid)
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Lessons for Reform
• Financial problems loom large
• Problems more than just financial
• Pensions have not kept up to changing teacher work force
• Minor tweaks not sufficient
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For more information, visit the Education Sector website at:
http://www.educationsector.org
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