BY BARRY RASCOVAR / July 31, 2013
A funny thing happened to the Maryland state pension fund on the way to fiscal perdition: It recovered lost ground, reformed itself and came up with a 10-year plan to put its retirement programs on solid, long-term footing.
The pension fund topped $40 billion in assets this summer, regaining all its losses (plus $800 million) since the Great Recession swoon that saw a 20 percent drop in just one year. Since the recession’s trough in 2009, the state fund has added a whopping $11.75 billion in earnings, an average of 10 percent a year.
That won’t please the naysayers and conservatives who have been predicting doom and gloom for the retirement program. Thanks to changes that require more local government and employee contributions, lower annual cost-of-living adjustments and longer years of service to qualify for benefits, the future is beginning to look brighter for Maryland’s fund.
A slowly recovering national economy — and stock market — certainly helped.
In bad times like the Great Recession it is easy to forget that the economic cycle, similar to a roller coaster, eventually ends its gut-wrenching plunge and starts climbing upward once again. Signs now point to a lengthy period of slow growth, which could give the Maryland pension fund a string of good-news stories in the years ahead.
Blame It On Glendening And Ehrlich
Not that everything is rosy. Some wretchedly poor decisions in the early part of this century guaranteed deep pension trouble. The worst move came from former Gov. Parris Glendening, who sacrificed the retirement fund’s future so he could spend more during his final years in office.
When Glendening intentionally underfunded the retirement system, the General Assembly — over the vigorous objections of the pension board and Comptroller William Donald Schaefer — adopted a fatally flawed methodology to shrink required state contributions and thus sanction Glendening’s action. Politics triumphed over sound actuarial policy.
This dubious plan, the “corridor funding method,” worked fine when Wall Street was hitting new highs and the pension fund earned double-digit profits. But the scheme collapsed like a house of cards when the stock market’s “technology bubble” burst and then the Great Recession hit. Each year, it seemed, the pension fund was digging a bigger financial hole.
This was compounded by a terrible political decision from former Gov. Bob Ehrlich to curry favor with state teachers by giving them extra pension benefits. He figured that with a few good years of stock market investments the pension board could afford these political goodies that might help him get reelected.
Neither happened. Teachers didn’t support the governor in 2006 and the more generous pensions dragged the retirement programs deeper into a giant pit of unfunded pension obligations.
At Last, Pension Reforms
That precipitated much-needed legislative reforms, which add more local and employee contributions to the system while slowing the growth in the fund’s annual payouts. Then finally this past legislative session, the General Assembly agreed to phase-out the ill-conceived (and illegitimate) corridor funding method
Combined with surging stock prices, what had been a bleak outlook today is a whole lot brighter.
Of course, debates over the viability of pension funds can distort reality if the funds are held to impossible standards. Those bemoaning the condition of Maryland’s state pension program make it sound as if it’s about to go broke. They want the retirement programs 100 percent fully funded.
While that’s not impossible — Maryland’s pensions were at 106 percent of full funding before Glendening messed things up — insistence on such a high standard can mislead the public.
Even in its lean years, the state’s retirement programs remained in good shape. It’s annual earnings and contributions from 244,000 teachers and state workers (and now local governments) are usually enough to come close to offsetting annual payouts to 132,000 retirees. it all depends on the fund manager’s investment success.
For the pension fund to go broke, it would take decades of poor investment results. History tells us that’s quite unlikely.
In the past quarter-century, even with recessions and bursting financial bubbles, the Maryland state pension fund’s annual investment return averages around eight percent — in line with historic Wall Street rates.
And while the state spends too much on Wall Street professionals to guide its investments (a whopping $225 million last year), these advisers do earn their pay. The actively managed portion of the state’s portfolio added $800 million more than it would have in passively managed index funds favored by conservatives — even after deducting for the hefty consultant fees.
Taking Out A Mortgage
Ten years from today, Maryland’s pension plans should be nearing 100 percent funding. When that happens, trustees are committed to amortizing the state’s future retirement obligations — taking out a long-term loan similar to a 30-year, fixed-rate mortgage. That would take much of the uncertainty and volatility out of the equation.
Trustees also have agreed to lessen the pension fund’s reliance on the unpredictable stock market. Investments are gradually being shifted to private equity placements, which aren’t affected by the emotions and manipulations of Wall Street, and to other alternative investments that are safer and more diversified income producers.
Of course, the next governor could wreck this carefully constructed approach by promising big retirement raises to state workers and teachers in the gubernatorial campaign. Unexpected market upheavals could mean large equity losses for the fund’s managers, too.
Then again, maybe state leaders have learned some painful lessons. Pension giveaways have long-term, negative consequences. Investing too much of the pension fund’s capital in the stock market is a high-risk step that’s not worth taking.
The state retirement board, led by Treasurer Nancy Kopp, seems rejuvenated and headed in the right direction. It rode out the roughest storm in the retirement system’s history and came away the better for it.
(NOTE: This is a revised version that corrects the historical record on how the corridor funding method was adopted a decade ago.)
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