ANALYSIS/OPINION:

Ongoing economic stagnation has hit state budgets hard. The pain inflicted by the market’s downward spiral has been made more acute by mounting deficits in state pension plans. Five years ago, 40 percent of these government-run retirement systems were underfunded. Now only four states are fully funded. The problem is so serious that Rhode Island was forced to call a special legislative session to address the crisis.

Closer to home, both Maryland and Virginia are facing about $17 billion in unfunded pension liabilities. It’s a story repeated through the country. Without significant reform, municipalities, counties and state governments will be forced into bankruptcy by the crushing obligations.

For years, the problem of underfunding has been carefully concealed from public view. States have borrowed cash to paper over the shortfalls. They’ve preserved benefits for retirees while cutting benefits for new hires in an attempt to limit the future damage. They’ve even resorted to bookkeeping gimmicks. State pension plans have broad leeway over the accounting methods they use, and, unsurprisingly, they take advantage of wildly optimistic projections of market earnings while downplaying life expectancy.

Most public pension funds, for example, assume their investments will grow between 7.5 and 8.5 percent annually. The Dow Jones Industrial Average grew at an average annual rate of 5.3 percent over the 20th century; any long-term predicted return above that rate is unrealistic, to say the least. At the same time, cost pressures mount because we are living longer, and health care expenses are on the rise. A California study predicted that its retiree health costs would jump from $4 billion in 2008 to $27 billion in 2019.

The problem is obvious. Pension funds get their money from three sources: employee contributions, government payments and the returns from investing this money. These funds are supposed to pay annual pensions and health benefits to retirees for their lifetimes. But generous terms allow employees to retire young - sometimes after showing up at the office for as little as 28 years, as is the case in Rhode Island. Pensions can even exceed the amount of a full salary. In one Ocean State town, retired firefighters were actually paid more than those doing the hard work of putting out fires.

Municipalities and states are rapidly realizing the mess they’ve made. Faced with tax-weary residents, Rhode Island is already contemplating what was previously unthinkable - reducing benefits for retirees. Courts in Colorado and Minnesota have already upheld benefit cuts implemented in those states. Other states might well follow.

Other reforms, such as requiring state pension plans to adhere to the same accounting standards as private plans, must be adopted immediately. This will clarify the true extent of the problem. Above all, the states must stop the gravy train and switch to defined contribution plans - just like the ones that private-sector employers offer.

Nita Ghei is a contributing Opinion writer for The Washington Times.

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