Did you know that Oklahoma is ranked 28th in population but in 2011 had one of the nation’s largest unfunded pension liabilities? The Reason Foundation’s Pension Reform Newletter carries an interview with Oklahoma state legislator Randy McDaniel, who explains:
OPERS is the state’s second largest retirement system. In 2010, the system had a $3.3 billion unfunded liability, … The big picture is the state had over $16 billion in total unfunded liabilities.
In a reform process entering its fifth year, Rep. McDaniel has succeeded in requiring new COLAs to be fully funded up front and, more significantly, converting the state plan from defined benefit to defined contribution, a phase out that will begin with new state hires as of November. This nicely illustrates the point that an institutional change can improve the incentives of both political and economic decision makers — that is, both the governors and the governed.
Gilroy: How will HB 2630 benefit taxpayers and reduce the state’s financial risk? What were the most effective arguments in favor of reform?
McDaniel: When you have a defined contribution plan, there are no new unfunded liabilities created from that point forward. The argument becomes what happens to the existing plan, and we were able to overcome that concern with data illustrating the financial commitment to the existing defined benefit plan, as well as the new retirement system.
An issue that is overlooked in the mathematical data is the issue of political incentives to harm the system by making unsustainable financial promises. Unfortunately, those incentives are real, and they greatly impact the situation we face today. It’s easy to make promises when someone else is going to have to pay for those promises at some point in the future.
So the two great benefits to the taxpayers are: (1) we know what the costs of the new system are going to be and we can plan for it; and (2) it greatly reduces the political situation that has led to the condition we’re in today. [my emphasis]
The interview continues on the process of reform, which was gradual. Beginning in 2010, Rep. McDaniel saw that the state’s unfunded pension liabilities would cause major fiscal and public relations problems in a few years. In a process that he described as “hard work,” McDaniel first began drawing attention of his fellow legislators to the mounting problem, then he built a consensus within the prevailing political context, and finally he sustained the “tenacity” to follow through on the administrative implementation of the reform.
Rep. McDaniel is in good company, as several other states have begun a trend of reforming public pension plans. As Wayne wrote here on PE back in January 2013.
A report by the National Conference of State Legislatures focuses only on pension reforms for public workers and teachers, covering the brief period of 2009-2011. It turns out that 43 states took at least some steps at pension reform. Of particular note are the reforms put in place in Michigan, Rhode Island and Utah.
In these three states and elsewhere, the common element is a move to replace a defined benefit pension with something approaching a defined contribution plan. The employee chooses a contribution level and the employer (the state) also makes a contribution up to a certain percentage of the employee’s salary. Of course, many private-sector employers made this move long ago (see, e.g., 401Ks and employer matching).
Our framework helps to grasp the forces behind these reforms. First of all, where are the academic scribblers? Good question. In fact, for a long time scholars have been working on the problem of state pensions and honing reform ideas. Joshua Rauh is a great example. Also, in their 1977 book, Democracy in Deficit, James Buchanan and Richard Wagner scrutinize the very political incentives that Rep. McDaniel refers to. Academic work has been a key intellectual input to politicians and bureaucrats who in turn work to implement pension reforms.
As for the intellectuals who adapt and amplify academic ideas? The best example in this case is the Reason Foundation’s Pension Reform project whose newsletter published the McDaniel interview. Other think tanks and policy experts have chipped away at this issue for a long time. Grant making foundations also have supported efforts, such as the Pew Charitable Trusts ongoing study, “The Widening Gap” .
All these different players have a role in bringing about significant reform. We need the madmen in authority because it is often their hands that grip the levers of institutional change. Granted, it is often the courts and private groups that bring about change. The top-down, from-the-ivory-tower is one way it can work. But when it does, and when political change happens through government, at some point every good idea needs a good politician behind it.