The Pension Crisis: State and Local Pension Challenges
Participants: Edward Glaeser (Harvard University), Byron Lutz (Board of Governors of the Federal Reserve System), Carol Portman (Taxpayers’ Federation of Illinois), Joshua Rauh (Stanford University), and C. Eugene Steuerle (Urban Institute)
The Macro Finance Research Program (MFR), Center for the Economics of Human Development (CEHD) hosted the second installment of the University of Chicago Policy Forum on November 8, 2019. This second forum focused on the topic of, “the Pension Crisis: State and Local Pension Challenges.”
This forum was intended to inform the debate on the state and local pension crisis, its dimensions, economic ramifications and potential solutions. We addressed various issues including the scope and magnitude of the fiscal challenges, the role of property taxes and their implications for property values, the continued need to encourage new businesses while addressing the necessity for more revenue in the future, and a better understanding of the political environment and process that gave rise to the challenges faced in the city of Chicago, the state of Illinois, as well as in other states and municipalities around the country.
- James J. Heckman, Henry Schultz Distinguished Service Professor of Economics Director of the Center for the Economics of Human Development, The University of Chicago
- C. Eugene Steuerle, Fellow and Chair, the Urban Institute, Resources: Download Slides, To be added to Steuerle's various Urban mailing lists, please contact him at ESteuerle@urban.org.
- Carol Portman, President, the Taxpayers’ Federation of Illinois, Resources: Download Slides.
- Byron Lutz, Assistant Director and Chief of Fiscal Analysis, Board of Governors of the Federal Reserve System, Resources: Download Slides.
- Moderated by Lars Peter Hansen, David Rockefeller Distinguished Professor, The University of Chicago
- Joshua Rauh, Ormond Family Professor of Finance at Stanford’s Graduate School of Business
- Edward Glaeser, Professor of Economics and Director of the Taubman Center for State and Local Government, Harvard University
- James Heckman, Henry Schultz Distinguished Service Professor and Director of the Center for the Economics of Human Development, The University of Chicago
Many states and municipalities, especially Illinois and Chicago, face huge public pension obligations and other spending commitments. The problem is all the more acute because the locales are already carrying a substantial debt. Against this backdrop, the University of Chicago Policy Forum: Building on the Chicago Approach to Economics, under the leadership of Lars Peter Hansen and James Heckman, brought together experts in the field to explore the pension crisis before a full house on November 8, 2019 at University of Chicago’s Swift Hall.
C. Eugene Steuerle (Urban Institute), Carol Portman (Taxpayers’ Federation of Illinois), and Byron Lutz (Board of Governors of the Federal Reserve System) gave opening presentations, setting the stage for an engaging dialogue and debate that included Edward Glaeser (Harvard University), Joshua Rauh (Stanford University), and Heckman, with Hansen serving as moderator. Steuerle led things off by documenting the rising fraction of committed expenditures at local and national levels. These commitments give future governments limited leeway to address important problems that will likely emerge in the future and will make it particularly difficult to initiate new productive investments in education, infrastructure, and health. Portman presented the stark situation in Illinois. Lutz gave a more optimistic account of the problem by working through some budgetary arithmetic. He noted that low interest rates make it easier to “roll-over-the-debt” into the future. This view was challenged by Rauh, who thought Lutz’s calculations were premised on an inaccurate depiction of the potential borrowing costs and rates of return on pension funds that state and local governments might experience in the future.
The panel explored a variety of hard questions. For instance, states and municipalities that seek to raise taxes in the future run the risk of losing current and new businesses and reducing job opportunities. While there are good reasons for governments to restructure or buy out existing pension contracts, the costs to the public are far from clear. While governments can, at least implicitly, default on nominal commitments through inflation, states and municipalities do not control monetary policy and pensions are often indexed, blunting this tool. The seductive impact of short-term interest rates can provide a misleading characterization of the long-term financing challenges in face of an uncertain future. Trimming back pension funds and moving from defined benefit plans to defined contribution plans has proved politically costly in many states—most notably in Kentucky where an incumbent governor was defeated in part because of the unpopularity of such reforms. Reducing the number of government units with tax and spending power could be a productive step forward, and as Portman noted, Illinois has the most independent governmental units in the country, even compared to Texas or California. Glaeser gave a blunt account of how local politics often prevent reform because of the inability of taxpayers to directly influence expenditure and tax decisions. Instead they rely on representatives who often have special interest considerations and lack incentives to take a long-term perspective. Promising pensions in the future is a seemingly cheap short-run response to intransigent public sector unions. But this approach imposes a crippling burden on the future generations in those localities.
The discussion at the forum explored a wide range of political and economic challenges facing cities and states limited by mandated social entitlement and pension commitments. The audience participated by proposing questions to panelists, along with extemporary remarks. All participants emerged with a deeper understanding of the problems and possibilities and an appreciation for the Chicago tradition of using rigorous thinking and hard evidence to probe important social problems.
Background Reading and Other Resources
The Sustainability of State and Local Government Pensions: A Public Finance Approach, by Jamie Lenney, Byron Lutz, and Louise Sheiner
Congress is supposed to decide how the U.S. spends money. Soon, it won’t be able to, by Eugene Steuerle.
Fiscal Democracy in the States: How Much Spending is on Autopilot?, by Tracy Gordon, Megan Randall, C. Eugene Steuerle, Aravind Boddupalli.
Evaluating Retirement Income Security for Illinois Public School Teachers, by Richard W. Johnson and Benjamin G. Southgate.