California State and Local Government Debt Now Stands at Nearly $1.6 Trillion
Gov. Gavin Newsom and California lawmakers continue to trot out their state’s “massive budget surplus” dog-and-pony show, ignoring the inconvenient truth that a budget surplus cannot independently exist alongside the fact that California is wildly in debt.
The latest California Policy Center (CPC) analysis shows that California state and local government debt now stands at nearly $1.6 trillion, or about half the state’s GDP. That’s $40,000 of debt per capita.
The total includes $145 billion in state long-term debt, $361 billion in total local debt, and $184 billion in cumulative OPEB (“Other Post-Employment Benefits”) liabilities owed by state and local agencies, mostly for health insurance, for current and future retirees. Add that to the Office of Legislative Analyst’s estimate that the state owes $67 billion in deferred infrastructure maintenance—the sort of capital improvements the state has ignored in its race to spend money elsewhere.
Pension Obligations: The Fiscal Elephant in the Room
But that still doesn’t include the fiscal elephant in the room: pension obligations. CPC estimates that state and local governments owe the state pension system a staggering $882 billion.
California’s State Controller officially calculates the state’s unfunded pension liability at $298 billion. “But we believe that’s overly optimistic,” says study author Edward Ring.
In 2012, Moody’s Investors Service revised its method of valuing pension liabilities, adjusting the discount rate it uses when calculating the present value of projected future pension payments. Moody’s now recommends using the high-grade long-term corporate bond index discount rate, today pegged at 3.15 percent. In contrast, California’s pension systems use the annual-rate-of-return at which they expect their assets to appreciate.
For CalPERS, California’s largest pension system, that rate is currently set at 6.8 percent.
The difference between CalPERS’ 6.8 percent and Moody’s 3.15 percent is $584 billion. Given the size of this difference and the dire consequences of getting the projections wrong, the controversy over which percentage to use is probably the most consequential public debate that California is not bothering to have.
California's Pension Obligations Are Not Sustainable
So did CalPERS management use accounting “gimmicks” to enable financially unsustainable pensions? They did, egged on by government union leaders, using optimistic projections that bet on the success of tech stocks—and the rest of California’s government pension systems quickly followed suit.
The State’s Pension Systems Acknowledge They’re Only 71 Percent Funded
Yet even after a remarkable 10-year technology-driven bull market, the state’s pension systems acknowledge they’re only 71 percent funded today. And that number is based on tax revenues that are dependent on high-wage earners reaping windfalls during tech booms. But when the boom busts, tax revenues will plummet, tech-driven investment returns of the pension funds will falter, and state and local governments will face unprecedented budget deficits.
California taxpayers are in for a shock when those chickens finally come home to roost. In order to make legally required contributions to the pension system, California governments will boost taxes and cut services. California cities have already cut services—furloughing staff, closing on Fridays, closing parks, raising fees. In the not-too-distant future, California could face the far more extreme service level bankruptcy we’ve seen in Greece, Italy, Spain and Portugal.
For now, California continues to play the dangerous game of treating pension obligations like a money transfer: paying their obligations to retirees with the income from workers paying into the system today. That “solution” is not sustainable, especially when inflation is factored in.
So what can be done? To restore stability, pension reform must be a part of a broader package of essential policy shifts. The hard choices California’s lawmakers and pension boards must make will determine if government balance sheets can weather the storm of economic turbulence or if Californians will face a devastating financial crisis in the years ahead.
Read the full California Policy Center (CPC) analysis and other pension news at: https://californiapolicycenter.org/category/retirement-benefits/
Image courtesy of California Legislative Analyst’s Office (LAO) and their The 2021-22 Budget: California Fiscal Report is at: https://lao.ca.gov/Publications/Report/4297.