Now that Proposition 124 has passed, what happens now? The transparency-challenged organization that is PSPRS has deigned to give us this bit of information:
On May 17, 2016, the State of Arizona voters had an opportunity to cast their ballots on Prop 124, regarding a COLA (Cost-of-Living Adjustment) for the Public Safety members of the pension fund. The Proposition passed and the new law itself determines the payment schedule and defines the calculation of the new COLA payment. Please note that the passage of Proposition 124 does not affect the members of the Elected Officials’ Retirement Plan (EORP) or the Corrections Officer Retirement Plans (CORP). Here are some questions and answers as to the timeline and other information concerning the COLA:
The first payment will be made with the July 2018 benefit check.
Proposition 124 becomes law August 6, 2016. The law states that we must prefund this new COLA with a full year of contributions before any payment is made to the members.The contribution rates that will reflect this prefunding will not be published until mid-to-late fall 2016, effective for the fiscal year beginning July 1, 2017. One full year of these contributions ends June 30, 2018. So, the first time we are legally able to pay this COLA will be with the July 2018 benefit check.
The law states that the COLA is up to a 2% cap. For example, if the CPI is 1.8% for theyear, we will award the COLA at 1.8%. If the CPI is 5.2%, we will grant a COLA of only 2% due to that cap. Understand that this means that the percentage, or COLA, will fluctuate each year with the CPI results.
Jared A. Smout
My favorite part of this series of FAQ's is the last question, which amounts to Mr. Smout telling retirees that they are assured of becoming slowly poorer through their golden years. If we go to US Inflation Calculator, we can see that between 2001-2015 inflation has been over 2% nine out of the fifteen fiscal years with only one year showing deflation. In the ten years prior to 2001, inflation was over 2% nine out of the ten years.
Mr. Smout does not mention that COLA's will now be calculated on a retiree's individual benefit, not the average normal retirement benefit. This means that those retirees with smaller benefits will no longer see their checks increase at a higher percentage rate than those with higher benefits as the average normal retirement benefit increases over the years. A benefit check will never change in terms of purchasing power, except that everyone will see their spending power decrease at the same rate via the capped COLA.
We should also keep in mind that the Federal Reserve's official inflation goal is 2%. This is the Fed's rationale for this 2% target inflation:
While this seems justifiable in the macroeconomic sense, this will be of no comfort to those living in the most microeconomic of worlds: retirees on fixed incomes. So what happens if the Fed overshoots its target and inflation is 3%, instead of 2%? That extra 1% means that after 20 years an item that cost $100 the first year will be $122 in year 20. If inflation is 4%, the extra 2% will add over $48 to the cost of the item.
As we have discussed here before, inflation is great if you are a debtor like PSPRS, which owes billions of dollars to its members. Inflation will allow it to pay back retirees with cheaper dollars, while it reaps the benefits of higher returns on less risky investments. Inflation is the magic elixir that will cure all of PSPRS' underfunding. Of course, it will be on the backs of its retirees. The defunct excess earnings formula took into account the potential devastation of high inflation, but it was horribly designed and sat like a ticking time bomb that would (and did) eventually wreak havoc on PSPRS. Now we have another time bomb, only this one will blow up in the face of retirees.
I did not see the film version of Michael Lewis' excellent book The Big Short, but the book tells how one of the protagonists would refuse to commit to a trade until the salesman explained to him how he was going to f*** him in the deal. Well, the last FAQ in Mr. Smout's list should have been this same question. So how is PSPRS going to f*** retirees? The answer is with inflation and a capped COLA.
Finally, I have one last question for Mr. Smout and Chief Investment Officer (CIO) Ryan Parham. If you remember, Mr. Parham penned an editorial for the Arizona Capitol Times in December 2014 entitled, "The truth about PSPRS investment performance." It includes this revealing passage by the man in charge of PSPRS investments:
PSPRS wants its retirees to enjoy increases, but we are incentivized to seek lower returns in the range of 9 percent to maximize earnings that can be applied to cover – and hopefully reduce – unfunded liabilities.
It is this flawed mechanism that serves as the main contributor to PSPRS’ funding drop, and unless changed by a vote of the people or the Legislature and upheld by the courts, we are powerless to slow the decline.
The insistence on assigning blame on PSPRS investment performance – and by extension our employees – for diminishing funding ratios is inaccurate and misleading and a disservice to policymakers, our beneficiaries and the public alike.
Given the evident constraints they must operate under, our nationally and internationally recognized investment team deserves appreciation for its service to our state, not derision that has no basis in fact.Let us ignore the obvious questions about fiduciary duty contained within the CIO's admission that PSPRS was trying to lowball its own investment returns to circumvent the payment of COLA's under the old excess earnings formula. I think what every PSPRS stakeholder would like to know is: when will Mr. Parham and his crack investment staff begin to produce the higher returns he implies they are capable of achieving now that the excess earning formula is no longer holding them back?
Mr. Smout and Mr. Parham, we await your answer.