Mayor Calls City’s Unfunded Liabilities Situation – Urgent

Mayor Robb Davis has reacted to an updated analysis by a city-contracted actuarial as “urgent.”  Despite cost-containment and other efforts by the city, an actuarial report shows a huge jump in the city’s unfunded liabilities for pensions, among other things.

For pensions, the unfunded liability has increased from $85.3 million up to $98.3 million in just a two-year period.

As Mayor Davis told the Vanguard on Thursday, “The most updated analysis by the City-contracted actuary indicates that even if employee salaries do not grow at all over the next five years, our required pension contributions across all employee groups (police, fire and miscellaneous) will grow by over $4.8 million per year compared to today.”

While the report on medical seems more optimistic, as the liability actually decreased by $5.5 million over the same period, Mayor Davis warns that “our retiree medical contributions will increase by over $700 thousand IF recent lower medical insurance growth rates hold. About 65% of this growth will hit our General Fund (unrestricted fund) but all of it finds its way into increased costs for the delivery of services such as water and sewer.”

The city had largely contained salaries until last year when they bumped up salaries slightly.  Mayor Davis warns, “If salaries grow by 3% (a level that CalPERS assumes cities’ salaries will grow at), the pension contributions will require an additional $5.3 million per year.”

Said Mayor Davis, “If the average annual General Fund revenue growth of the past 15 years continues for the next five (the 15-year trend is 4.8% per year), fully a quarter of the increases will be consumed uniquely by pension and retiree medical cost increases.”

Worst yet, that “is if salaries do not grow at all (no promotions, no longevity bonuses—which are already built into contracts). And, because the last 15 years included two sales tax increases, it is arguable whether these rates of growth will be maintained.”

These extra millions would only cover pension and retiree medical.  “They do not include non-employee cost increases related to City services, nor do they include the tens of millions of dollars we are underspending each year to maintain our parks, streets, and bike paths.  It is no exaggeration to say that over the coming 5 years (and beyond) we need an additional $15-29 million each year to cover all these costs combined,” the mayor explained.

In a recent article in the Enterprise, city staff downplayed the situation, acknowledging the urgency, but pointing to things like “lump sum” payments which have helped the city keep up with annual payments required into the pension and health benefit funds.

However, while the city may be currently managing the situation, the cost increases will increase burden on the city.

“There is no doubt that paying down OPEB (Other Post-Employment Benefits – retiree medical) with lump-sum payments helps mitigate the changes,” said Mayor Davis.  However bigger questions remain concerning “whether the more recent slowdown in medical care costs will continue, or whether there will be a return to more rapid inflation in these costs” as well as “whether the assumptions CalPERS is providing as the basis of the actuarial analysis will hold.”

The big concern here is that CalPERS (California Public Employees’ Retirement System) lost about $100 billion in the market crash in 2008 and the fund is at 68 percent funding levels.  As Ed Mendel reports, “Most experts are predicting a decade of weak investment returns, well below the annual average earnings of 7.5 percent that CalPERS and CalSTRS [California State Teachers’ Retirement System] expect to pay two-thirds of their future pension costs.”

In late October, Comstock’s reported that the fund will expect an average return of 6.21 percent, far below previous estimates.

“CalPERS dimmed its outlook after reporting a gain of 0.6 percent in the fiscal year (that) ended June 30, with losses in both stocks and forestland. That followed a 2.4 percent return in fiscal 2015.”

“The next two years, the next five years, and perhaps the next 10 years are shaping up to be the most challenging market environment for us, for institutional investors and for pension funds going forward,” said Chief Investment Officer Ted Eliopoulos.

Remember, as the Vanguard has previously discussed, CalPERS investments must return 7.5 percent over the next 30 years in order to meet obligations without assistance from taxpayers.  The Vanguard has consistently questioned the reasonableness of the 7.5 percent expectation and now we are seeing it is not even close.

Comstock’s reports, “CalPERS’ annualized returns were 6.9 percent for the last three years, 5.1 percent for the last 10 years and 7 percent over 20 years.”

Where does that leave the city?  Previous estimates were that for every quarter-percent reduction in the expected annual rate of return, the city will have to pay an additional million.

For Mayor Davis, “while it is true that we are ‘keeping up’ as things stand currently, the cost of ‘keeping up’ continues to grow and that crowds out funding for other projects our community needs to maintain the level of service citizens expect.”

“Something must give,” he says.  “Thus, I am less sanguine than our City staff.  In fact, it is not clear to me at this point how we are going to cover everything over the next five years, given that we are not even covering critical infrastructure backlogs now.”

He concludes, “I believe we must discuss cost containment—broadly writ—and put a revenue measure before the population in the next two years.”

The Vanguard will have more on this developing situation in the coming days.

—David M. Greenwald reporting