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Tuesday, October 30, 2012

A lesson for PSPRS members from Illinois' teachers

The following are current interest rates from several popular online bankers:

              Discover Online Savings Account             0.80% (APY)
              ING Orange Savings Account                    0.75% (APY)
              Ally Online Savings Account                     0.95% (APY)
              CIT Bank Online Savings Account            0.90% (APY)

These rates are not being given to advertise online banks but for some perspective. The State of Illinois Teachers' Retirement System (TRS), the pension for many of the states' teachers, announced that its 2012 fiscal year (FY) return was 0.73% (TRS earned less than one percent on its investments last year).  This rate was earned on a fund that has an assumed rate of return of 8.25% and during a year in which the stock market had positive returns (per the article, the S&P 500 grew 7.39% in FY 2012).  It would be interesting to know how much TRS paid in fees to its investment advisors and fund managers to get a rate of return that underperformed risk-free savings accounts.   If those fees are not already included in the 0.73% rate, TRS almost certainly lost money in FY 2012 once those fees are figured in. 

Illinois probably has the worst funded pension systems in the United States.  Illinois governor Pat Quinn has even brought up the idea that the federal government could bail them out by guaranteeing state bonds sold to cover current pension deficits.  This audaciously selfish plan would be a hard sell in the best of times and will never happen while trillion dollar annual deficits are being run up by the federal government.  However, this is a perfect window into the standard method of problem-solving used by politicians.

Governor Quinn seems to believe that Illinois can fall back on the "solution" that politicians have always used in the past: deferral and diffusion of current costs.  In this case, he believes he can defer TRS' liabilities even further into the future by selling bonds and diffuse the costs over an even greater number of taxpayers by using the federal government as the bonds' ultimate guarantors.  While this has always worked in the past, he now wants to push the problem up to the next level of government.   The problem is that the cavalry he is counting on to ride to the rescue of his state can not and will not help him.

An underfunded pension system that promises too much, saves too little, and can not even competently invest its meager funds to achieve risk-free returns has only two options: finding greater sources of funding or bankruptcy.  Illinois already has the largest budget deficit in the country, despite raising personal and corporate income tax rates in 2011, so we can see which option is more likely.  The reckoning due TRS will be ugly, with the wailing and gnashing of teeth by teachers' unions and retirees, who will see that all their political influence is impotent against financial reality.  The situation in Greece is a powerful cautionary tale for all Americans, and the ultimate fate of TRS stands as a powerful one for PSPRS members.

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