Another rocket scientist

[doctorwho]

Mar 29, 2010 19:57:34 GMT -6 southsidesignmaker said:

“Moral Imperative” – Public Pension Tax Relief for All Illinois Families

By Bill Zettler

Recently the Champion received an email from Assistant Professor at the University of Virginia’s School of Finance. In his email he questioned the assumptions made in some of the projections of Illinois Taxpayers Pension Liability for the Teachers Retirement System (TRS) as calculated in some of my spreadsheets.

Without getting too esoteric in our math I think it is fair to say that the professor and I mainly disagree on the rate of return on investment that Illinois pensions should assume going forward. The Virginia professor suggests 9.3%, the TRS says 8.5%; Warren Buffet says to expect no more than 6.5% over the next 20 years; I say 6%; and Stephen Johnson makes a good argument for 5%, and there is the historical 2.5% from the Dow Jones Industrial Average for the 40-year period 1929-1968. That 2.5% was in spite of the 23-year economic boom following WW II.

Reasonable men can differ reasonably on that issue. But the question that matters is: which reasonable men end up paying the tab if the return estimated by the professor and TRS is lower than estimated?

Something that appears to be a small difference can end up being enormous when compounded over many years. And since we are talking about Public Act 88-0593 which has a 50-year payment schedule (with 40 years left) and a newly hired 21-year old teacher that has a 62-year life expectancy, these differences can be very large.

For example, if you have a 9.3% return per year (the professor’s assumption) for 40 years on $10 billion worth of pension assets (Illinois has about $40 billion) you end up with $350 billion. If you have a 6.5% return (Warren Buffet’s assumption) you end up with $125 billion. As former Illinois Senator Everett Dirksen once said “A billion here a billion there – pretty soon you’re talking real money.”

In this particular example, if the professor is wrong and Warren Buffet is right Illinois taxpayers are stuck with the extra $225 billion difference because guaranteeing an annual pension amount is the same as guaranteeing a rate of return. This means that families with likely decreasing wealth and retirement assets (private sector workers with no guaranteed pension) have to come up with cash via taxes, to guarantee that public employees’ wealth and retirement assets do not decrease. That is unfair to say the least.

Keep in mind that state actuaries have already projected taxpayers contributions of $320 billion over the next 40 years assuming 8.5% returns. They have not made any projections based on an assumption of 6.5% returns.

I don’t want to get between Warren Buffet and a Professor of Finance, but I do know that if I asked the professor to guarantee a 9.3% return on my retirement funds he would say something like “You are nuts, I am not guaranteeing you anything. Your retirement investments are your problem.” My sentiments exactly – no one should be the guarantor of anyone else’s retirement including Illinois taxpayers guaranteeing Illinois Public Employees’ retirement funds.

Buffet has said “Pension managers continue to make investment decisions with their eyes firmly in the rearview mirror” meaning that past performance does not guarantee future performance.

John Maynard Keynes, the famous economist said it another way: “It is dangerous to apply to future arguments based upon past experience unless one can distinguish the reasons for the past experience.”

Let me outline some reasons why future returns may not match past returns:

1. The human population will never double again.

This has never been true before but demographers say the world’s population will level off at about 11 billion in 2100 from 6+ billion now. This is important because new workers are an important part of economic growth as they work, earn, consume and invest. By contrast, the population doubled between 1960 and 2000 the era of highest economic growth in history.



2. Major economic powers have birth rates below replacement rate.

Economic powerhouses China, Japan and Europe will all have decreasing populations in the next decades, another historical first. Economic growth will almost certainly slow from past decades.



3. Life expectancy is growing.

Related to number 1 and 2 above, this means more senior citizens supported by fewer workers. For example China’s life expectancy has gone from 45 to 80 in just the last 50 years. This means current actuarial assumptions for life expectancy are almost certainly too low, resulting in future pension obligations that will be larger than currently assumed.



4. People are retiring at an earlier age.

Earlier retirement age plus longer life expectancy means slower economic growth and more taxes on fewer workers. See 1, 2 and 3 above.



5. All of the above.

All of the above means more income/wealth will need to be transferred via taxes from fewer working/productive people to more non-working/non-productive people thus greatly decreasing investment and economic growth. A given dollar cannot go two places, investment and tax, at the same time.



6. Oil prices since 1973 have actually gone down.

During the greatest economic growth period in history, oil prices were decreasing in real inflation adjusted prices from $80/barrel in 1973 to about $65 with most of that period below $25. This has enabled economic growth because there is a direct correlation between BTU per capita and GDP per capita. If the cost of BTU’s go up the rate of GDP growth will go down. In 1998, during the greatest stock market boom in history, oil hit $10 per barrel. In the coming years, is it more likely that we will hit $10 or $110?



7. Economic engines China and India will slow over the next couple of decades.

As the middle class grows in India and China, the demand for more government services and subsequent taxes will have those economies reverting towards the mean for the growth rate of western countries, which is 0-4%. That leaves only the Muslim crescent from Bangladesh to Morocco and sub-Saharan Africa as potential economic growth engines. I rate the chances of those 2 areas becoming the next China and India as extremely low.



8. The terrorist risk premium.

A dozen terrorists with dirty bombs (let alone nuclear weapons) could simultaneously shut down Manhattan, Toronto, London, Paris, Amsterdam and Berlin causing complete financial chaos and bringing the world economy to a halt. I do not know whether that risk premium is one percent, two percent or more but I do know it is greater than zero.

Having said all that, the real argument is not investment return rates. It is the inherent unfairness of one group of people having to guarantee that rate for another politically connected group of people, i.e. public employees. Common sense fairness dictates all citizens should share the risk of economic benefit or detriment equally.

The professor suggested a 10.75% employer contribution rate (including Social Security) would be adequate for public employees and I would agree with that, no problem. But as we make that transfer to the retirement system with each paycheck our liability ends. From that point forward it is the employee’s responsibility. If he gets a 9.3% return, good for him. If he doesn’t it should not be our problem.

Tenure for public employees salaries while they are working is bad enough but pension tenure guaranteeing them an investment return is unfair, unacceptable and financially impossible long term. Social Security and 401K’s for all employees, public and private, is what’s fair and necessary.


Posted June 3, 2007.


^^^^^^^^^^^^^^^^^^^^^^^^^^^^^^^^^^^^^^^^^^^^^^^^^^^^^^^^^^^^^^^

Mr. Zettler has become a bit goofy (especially considering his newest video on Utube).

Of course after reading the article above he has a good argument on many levels. After noticing the date of the article (pre crash), it should make more stand up and take notice.

" but pension tenure guaranteeing them an investment return is unfair, unacceptable and financially impossible long term. Social Security and 401K’s for all employees, public and private, is what’s fair and necessary.
"

he makes a lot of sense - and a few years before anyone else decided to actually pay attention

[jimbob]

Retirement at 67 (Still working on the other calculation)

State is shifting costs of later retirement back to local districts and property taxes.

To keep this easy, make some assumptions:

1) at age 21, 100 teachers start next year in the IPSD masters column (50,480) = total salary cost of 5,048,000

(See the IPEA contract on the SD's web site)

Regardless what DW proposes a salary schedule is in place and likely to be for a long time.

2) The 100 teachers stay employed for 23 years, nobody leaves -- actually people will move, for demonstration purposes, and to show maximum costs, all stay.

On current schedule, teachers at that level are making 85,084. Total salary cost 8,508,400 -- a 69% increase in salary costs, 2.4% each year. All teachers stay and make 85,084 after 23 years.

3) If the costs actually increase 1% a year over the schedule, that salary will be $105,905 -- a 209% increase or a total salary cost of 10,590,500 -- 3.4% a year

4) If those same 100 teachers stay another 23 years, until age 67 and a 1% salary increase, the salary cost after that time is $13,314,000. That is nearly double (1.7x) the cost of 100 teachers at the beginning step in the Masters column where the salary is 78,210 with a 1% increase over 47 years.

5) In reality, teachers will leave, but they will not be replaced in equal numbers because the district cannot afford the head count. To keep costs down, against the rising the 3-4% increase that veteran teachers will eat up in salary, teacher head count goes down, class size goes up. In the worst case 2x. OR the district asks for more money. Either way the district taxpayers pay more money or pay in less quality with much larger class sizes. So currently, districts offer "retirement incentives" to shift the cost to the state side of the ledger. The tax payer is squeezed either way. The state's latest play is to shift the cost back to the local property taxpayer. DW is hot because money is money and he's correct. He doesn't care the recipient of his tax dollars. He sees his green disppearing and he's red about it.

I am working on the $300k statement made earlier -- likely finish it tomorrow.

[doctorwho]

Mar 29, 2010 20:46:45 GMT -6 jimbob said:

Retirement at 67 (Still working on the other calculation)

State is shifting costs of later retirement back to local districts and property taxes.

To keep this easy, make some assumptions:

1) at age 21, 100 teachers start next year in the IPSD masters column (50,480) = total salary cost of 5,048,000

(See the IPEA contract on the SD's web site)

Regardless what DW proposes a salary schedule is in place and likely to be for a long time.

2) The 100 teachers stay employed for 23 years, nobody leaves -- actually people will move, for demonstration purposes, and to show maximum costs, all stay.

On current schedule, teachers at that level are making 85,084. Total salary cost 8,508,400 -- a 69% increase in salary costs, 2.4% each year. All teachers stay and make 85,084 after 23 years.

3) If the costs actually increase 1% a year over the schedule, that salary will be $105,905 -- a 209% increase or a total salary cost of 10,590,500 -- 3.4% a year

4) If those same 100 teachers stay another 23 years, until age 67 and a 1% salary increase, the salary cost after that time is $13,314,000. That is nearly double (1.7x) the cost of 100 teachers at the beginning step in the Masters column where the salary is 78,210 with a 1% increase over 47 years.

5) In reality, teachers will leave, but they will not be replaced in equal numbers because the district cannot afford the head count. To keep costs down, against the rising the 3-4% increase that veteran teachers will eat up in salary, teacher head count goes down, class size goes up. In the worst case 2x. OR the district asks for more money. Either way the district taxpayers pay more money or pay in less quality with much larger class sizes. So currently, districts offer "retirement incentives" to shift the cost to the state side of the ledger. The tax payer is squeezed either way. The state's latest play is to shift the cost back to the local property taxpayer. DW is hot because money is money and he's correct. He doesn't care the recipient of his tax dollars. He sees his green disppearing and he's red about it.

I am working on the $300k statement made earlier -- likely finish it tomorrow.

" So currently, districts offer "retirement incentives" to shift the cost to the state side of the ledger. The tax payer is squeezed either way. The state's latest play is to shift the cost back to the local property taxpayer. DW is hot because money is money and he's correct. He doesn't care the recipient of his tax dollars. He sees his green disppearing and he's red about it."


Yes, that is it exactly. The Supers can't pretend like they're saving anyone any money - they're not. It's like keeping 2 sets of books and one doesn't matter to them, but all of us as taxpayers pay both bookkeepers.


The more they add to the pension payroll ( and quicker they do so) - the more 'fixed' cost that we can do nothing about increases. It's the overhead that's killing us today, far more than the salaries we are paying..which especially for teachers ( as opposed to admin) are not the main issue. They only become a factor when we are bumping them up at %'s far outstripping the private sector rate and revenue in take growth during priods like this.

[doctorwho]

Mar 29, 2010 20:46:45 GMT -6 jimbob said:

Retirement at 67 (Still working on the other calculation)

State is shifting costs of later retirement back to local districts and property taxes.

To keep this easy, make some assumptions:

1) at age 21, 100 teachers start next year in the IPSD masters column (50,480) = total salary cost of 5,048,000

(See the IPEA contract on the SD's web site)

Regardless what DW proposes a salary schedule is in place and likely to be for a long time.

2) The 100 teachers stay employed for 23 years, nobody leaves -- actually people will move, for demonstration purposes, and to show maximum costs, all stay.

On current schedule, teachers at that level are making 85,084. Total salary cost 8,508,400 -- a 69% increase in salary costs, 2.4% each year. All teachers stay and make 85,084 after 23 years.

3) If the costs actually increase 1% a year over the schedule, that salary will be $105,905 -- a 209% increase or a total salary cost of 10,590,500 -- 3.4% a year

4) If those same 100 teachers stay another 23 years, until age 67 and a 1% salary increase, the salary cost after that time is $13,314,000. That is nearly double (1.7x) the cost of 100 teachers at the beginning step in the Masters column where the salary is 78,210 with a 1% increase over 47 years.

5) In reality, teachers will leave, but they will not be replaced in equal numbers because the district cannot afford the head count. To keep costs down, against the rising the 3-4% increase that veteran teachers will eat up in salary, teacher head count goes down, class size goes up. In the worst case 2x. OR the district asks for more money. Either way the district taxpayers pay more money or pay in less quality with much larger class sizes. So currently, districts offer "retirement incentives" to shift the cost to the state side of the ledger. The tax payer is squeezed either way. The state's latest play is to shift the cost back to the local property taxpayer. DW is hot because money is money and he's correct. He doesn't care the recipient of his tax dollars. He sees his green disppearing and he's red about it.

I am working on the $300k statement made earlier -- likely finish it tomorrow.

in item 4 where do you factor in the second set of benefit costs - the compensation package is far more than salary. Also starting the lock on an entirely new set of these, guaranteed after tenuring continues to add to that 'overhead' budget

[jimbob]

Mar 29, 2010 17:44:40 GMT -6 doctorwho said:

Mar 29, 2010 17:03:47 GMT -6 jimbob said:

I'll recalculate it and share it on google docs. Also trying to answer DW's question about the cost to the state. My early calculation is that the state's pension cost is about $4,200 per year per household -- that's on a 2 billion contribution per year. Not sure about this amount. Have to dig some more first.

I'll have to look up the distict's salary schedule again to redo the calculation.

Thanks for asking

$4200 per year per household for pensions alone ? This is a structure that can continue- and raise exponentially each year?

If that math is correct and the median family income is $56,230 then the "TAX' on each household- just for pensions and nothing else is 7.5% per year. And anyone can make a case that this is affordable?

Ok, looked at this again. DW is correct -- too much, missed a place in the quick calculation.

In fiscal year 2008-2009, state contributed (gave) Teachers Retirement $1.45 billion. That's $309 per household (4.69 million households in IL so the search engine said). The other figure was based on another figure I saw ($2 billion) at another time and my mistake.

More on the $300k calculation later

[jimbob]

spreadsheets.google.com/ccc?key=0AhlAAka35u6UdHZhNHE0VTFxVk1SMi1HblkwRHJHdGc&hl=en

Is where the "logic" originates that shows that a district "saves" money by encouraging veteran teachers to retire and replacing the teacher will a teacher starting at the lowest salary on the scale.

The calculation makes some basic assumptions about a ten year period -- such as holding salaries constant for a few years as well as adding 1% to the beginning salary for the balance of the decade.

A figure that "surprised" me is that having the teacher stay an additional 7 years actually raises their retirement pay as well.

All issues can be argued, but any freezes and reductions will be proportional because the salary schedule is indexed -- every salary is a factor of the starting bachelor's degree, first year experience.

This example shows a "savings" of $400k -- can range down to $250k depending on the assumptions and subsequent calculations.

My final point before I go back to my bottle and lurk for another year -- The pension bill is located at www.ilga.gov/legislation/96/SB/PDF/09600SB1946lv.pdf

It's clear that this has been in progress for a long time. This bill was complete and waiting for the reduction in force period so that the legislators could demonstrate that they heard "the people." It is a clear step to move "pension costs," salaries from ages 55-67 back to the districts, where local tax payers can then blame local school boards for reduced services, axed programs, and increased class sizes. This will begin with the retirement "class" of 2058 that begins to work in 2011. Local districts will start to see the results of this "pension reform" in 15-20 years and it'll be really bloody leading up to 2050. By then, those who wrote this legislation and pushed it through the general assembly in one day will be drinking their boxed wine overlooking the ocean in Boca Raton while being cared for by their nurses.

Back to lurking. . .

[macrockett]

Unfortunately, I don't have a lot of time right now to delve into this but one thing I think you have to do jimbob, is do a valid "alternative analysis".

Alternative A would be what would happen if the tenured teacher did not retire early under some incentive, i.e., what are all the costs incurred. Here all costs incurred would relate to the tenured teacher only.

Alternative B would entail the tenured teacher retiring early and being replaced by the new teacher. Here, costs would be twofold, those of the tenured teacher, including incentives and costs in retirement during the period they would not otherwise have had under alternative A plus all costs of the new teacher during the same period.

So in alternative B you would have to select an "early retirement period", i.e., they retired 5 years early. So there would be 5 more years of retirement for the tenured teacher and 5 years of new teacher costs.

There are also present value costs in this analysis, since the new teacher would have started 5 years earlier than they might otherwise, due to the early retirement of the tenured teacher. This impacts the new teachers entire career and retirement! In essence, all costs of the new teacher are moved forward by the 5 year period.

Then you compare alternative A to alternative B. By no means is this a simple analysis. Only by looking at this issue as a whole, meaning District and State responsibility for the costs, is this really valid, as some taxpayer is paying for these costs. If you ignored the State's portion of costs the analysis would be meaningless imo.

[EagleDad]

Mar 30, 2010 18:50:40 GMT -6 jimbob said:

The calculation makes some basic assumptions about a ten year period -- such as holding salaries constant for a few years as well as adding 1% to the beginning salary for the balance of the decade.

and the last time in recorded history salaries were held constant, and 1% raises occurred with our liberal union friends was what, during the roman empire?

[doctorwho]

Mar 30, 2010 20:51:28 GMT -6 EagleDad said:

Mar 30, 2010 18:50:40 GMT -6 jimbob said:

The calculation makes some basic assumptions about a ten year period -- such as holding salaries constant for a few years as well as adding 1% to the beginning salary for the balance of the decade.

and the last time in recorded history salaries were held constant, and 1% raises occurred with our liberal union friends was what, during the roman empire?

nope I checked-- 40 A.D. union head Octavius Ramit Upyoursus decreed, " a 3 % step increase' or we walk,

[EagleDad]

Mar 31, 2010 8:01:43 GMT -6 doctorwho said:

nope I checked-- 40 A.D. union head Octavius Ramit Upyoursus decreed, " a 3 % step increase' or we walk,

dammit, I always sucked at union history.