Underfunded pension systems pose significant challenges to many state and local governments. For a few, it’s an immediate problem. But as my colleague Joe Rosenblum explains, for most municipalities, pension troubles aren’t really the proverbial last straw.
However, while the problem is longer term, state and local governments with the greatest shortfalls need to address their pension funding shortfalls soon. Rules recently adopted by the Government Accounting Standards Board (GASB) require state and local governments to disclose a “truer” level of their pension funding. As a result, the magnitude of reported unfunded pension liabilities will jump for many states and localities.
Unfortunately, GASB does not have the power to force state and local governments to fully fund their pensions. While GASB’s new rules will put political pressure on certain states and localities to increase their annual pension contributions, we don’t believe they will increase municipal bankruptcies. Instead, we believe the new GASB rules will push states and localities to take a tough stance in ongoing collective bargaining negotiations.
Most state constitutions prohibit promised pension benefits from being taken away, but the same guarantees do not apply to many other benefits won during far better economic times in collective bargaining agreements.
These benefits—as well as the threat of layoffs—will be used as leverage to require employees to increase their pension contributions, extend their retirement age, eliminate cost-of-living increases in pension benefits and make other changes that will significantly reduce unfunded pension liabilities going forward.
Indeed, just the threat of using bankruptcy to completely restructure pension and other benefits should bring municipal employee unions to the bargaining table in hopes that a less radical approach can be found.
The questions we’re asking regarding all municipal issuers that are underfunded are: how big is the shortfall, and how will the shortfall be remedied? We’ll delve into how states are taking corrective actions around these issues in our second post on this topic next week. Stay tuned.
The views expressed herein do not constitute research, investment advice or trade recommendations and do not necessarily represent the views of all AllianceBernstein portfolio-management teams.
Douglas J. Peebles is Chief Investment Officer and Head of Fixed Income, and Joe Rosenblum is Director of Municipal Credit Research, both at AllianceBernstein.