Study: State Public Pension Funding Shortfall Hit $1.1 Trillion

U.S. state public pension systems unfunded liabilities increased by 17 percent in fiscal 2015 to $1.1 trillion, largely due to the failure of investment returns meeting expectations, a study by the Pew Charitable Trusts showed on Thursday.

"In aggregate, the funded ratio of these plans dropped to 72 percent in 2015, down from 75 percent in 2014," the study said, noting that median overall returns of 3.6 percent were less than half the long-run investment return assumption of 7.6 percent.

Poor investment performance was the largest contributor - $125 billion - to pension plans bearing a $157 billion increase in the net pension liability. This is the difference between the value of pension benefits owed to current and retired employees or dependents and the plan assets on hand.

"Even if investments had yielded the expected returns, however, overall state pension debt still would have grown by about $30 billion," the study said.

Pew noted that the $30 billion figure comes mainly from three factors.

First, state and local governments did not set aside enough in 2015 to pay down principal on their pension debt. So even if investments performed as expected, the funding gap would still have grown by $8 billion, David Draine, a senior researcher, told reporters on a conference call.

Second, an Oregon court restored retirees' cost-of-living adjustments, adding $5 billion to the pension debt.

About $19 billion was added to reported liabilities, much of it attributable to New Jersey lowering its rate-of-return assumption to comply with accounting standards for deeply distressed pension plans.

New Jersey's funded ratio of 37 percent in fiscal 2015 was the worst in the nation, compared with South Dakota, the best, at 104 percent, according to the study, which included data from over 230 public pension plans.

Nationally, plans are starting to adjust downward their return expectations. California's largest public pension plans, industry bellwethers, recently cut their return expectations.

A long-term policy challenge for pension plan managers is increased volatility reflected in the portfolios because of updated accounting standards that use "market values rather than calculations that smooth gains and losses over time, as had been common," the report said.

Pew cautioned that data for 2016, while not complete, is indicating a net pension liability increase of $200 billion to $1.3 trillion based on returns averaging 1.0 percent.

This funding gap could increase by $350 billion over the next two years primarily because of lower-than-forecast investment returns.