The political economy of unfunded public pension liabilities

Abstract

This paper applies a public choice approach to the problem of unfunded pension liabilities and adopts the methodology of Congleton and Shughart (1990) to model underfunding of state-level public pension plans using the median voter theorem, along with the theory of “capture” by special interest groups, and a combined model of the two. With panel data from 2001 to 2009, the paper finds that the combined model provides the strongest explanation for the current levels of unfunded liabilities; hence, both median voter preferences and special interest group influence are affecting political outcomes. The special interest group model slightly outperforms the median voter model in direct comparisons.

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Notes

  1. 1.

    Whitney currently is working on a book due out in June 2013 (Whitney forthcoming).

  2. 2.

    The constitutionality of the application of the law to state and local government workers was in question when the law was created; some public sector employers never chose to participate after the constitutionality of issue was clarified.

  3. 3.

    See Munnell et al. (2011b) for further reading on the new GASB guidelines.

  4. 4.

    For a survey of the public sector labor market literature, see Ehrenberg and Schwarz (1983).

  5. 5.

    Wilshire Consulting (2011) projects that average long-term returns will be 6.5 % annually for the median plan. Initial returns for the fiscal year ending in June 2012 are around 2 %.

  6. 6.

    Cowen and Parfit (1992) present a philosophical argument against the standard practice of discounting the values of future government promises.

  7. 7.

    This has been a strategy of Illinois and California, both of which have opted to issue pension obligation bonds in an attempt to capitalize on this gap between borrowing rates and rates of return.

  8. 8.

    Munnell et al. (2010) find that state and local governments are more likely to issue pension obligation bonds when facing budgetary stress and when large outstanding debt levels already exist.

  9. 9.

    Life expectancy is 20.4 years for someone 65 years of age according to the Society of Actuaries Simple Life Expectancy Calculator.

  10. 10.

    The observation for 2006 is an average of 2004 and 2008; 2005 and 2007 are calculated the same way using the estimated values for 2006.

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Acknowledgements

The author would like to thank Roger Congleton, William Shughart, and Russell Sobel for helpful suggestions, and thank Keith Brainard for providing data.

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Correspondence to Dashle G. Kelley.

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Kelley, D.G. The political economy of unfunded public pension liabilities. Public Choice 158, 21–38 (2014). https://doi.org/10.1007/s11127-012-0049-3

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Keywords

  • Public pensions
  • Median voter theorem
  • Special interest group theory
  • Unfunded liabilities