House Judiciary Committee Hearing Discusses State Bankruptcy and Public Pensions

February 16, 2011

On February 14, The U.S. House Committee on the Judiciary held a hearing exploring “The Role of Public Employee Pensions in Contributing to State Insolvency and the Possibility of a State Bankruptcy Chapter.”

Rep. Howard Coble (R-NC) opened up the hearing saying that states are sovereign entities and should handle their own affairs.

Chairman Lamar Smith (R-TX) argued that many states have funded public employees with invisible pensions and that it is a serious federal concern. He stated:

In the private sector, employees generally contribute to their own retirement in IRAs and withdraw their savings later in life. In contrast, states, through collective bargaining with unions, have promised fixed payouts to their retired public employees without requiring any employee contribution. States are therefore on the hook to pay 100% of public employee pensions in addition to other retirement benefits like health insurance.

The problem with this is states don’t have the funds to commit to paying 100%.

Smith worries that states will eventually default on these invisible funds and file for bankruptcy. He finds this to be a problematic path; if states do it fact file for bankruptcy he worries that they will wrack up their debt knowingly then proceed to file. If this were to happen states that are economically well off would be forced to help out the states that have failed to spend recklessly and neglected to balance their budgets.

The Committee is considering H.R. 567 which aims to amend the Internal Revenue Code of 1986 leaving states obligated to address and reveal their state and local public employee pension plans. According to the bill, the “Journal of Economic Perspectives found that the present value of the already-promised pension liabilities of the 50 States amount to $5.17 trillion and that these pension plans are unfunded by $3.23 trillion.” This is because under the current system there is an apparent lack of disclosure due to obscurities in governmental accounting rules, particularly “as they relate to the valuation of plan assets and liabilities…resulting in a misstatement of value of the value of plan assets and an understatement of plan liabilities.”

Keith Brainard, Research Director of the National Association of State Retirement Administrators doesn’t find a “one-size-fits-all Federal regulation” like H.R. 567 necessary because “state and local government retirement systems do not require, nor are they seeking any Federal financial assistance, which is neither needed nor warranted and would only inhibit recovery efforts already underway at the state and local levels.”

Dr. Joshua Rauh, Associate Professor of Finance at Northwestern University testified in support of H.R 567 because “it is a very useful step in establishing an incentive for states: if they want federal subsidies, they may not engage in substantial amounts of off-balance sheet borrowing through improperly valued pension liabilities. The state pension system exposes the financial system to substantial risk that the federal government would be called for bailouts.” For example, Rauh stated that New Jersey has only contributed 5.4% of its “actuarially required contribution” to its Teachers’ Pensions and Annuity Fund.

Rep. Hank Johnson (D-GA) argued against H.R 567, calling it an attack on teachers and firefighters. He stated that state bankruptcy may be a positive solution for states to get them back on a fiscally favorable track.

If pension obligations aren’t made more transparent, states are much more likely to default and desire filing for bankruptcy. Holding states accountable and allowing public employees to realize the extent of how underfunded their pension plans actually are, is an undoubtedly positive step.

For more on state bankruptcy proposals, check out this article or read the testimonies here. You can also check out H.R 567 for yourself.

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