Financial Crises

How states can buck Washington gridlock and take the lead on transformative, bipartisan reform

Nathan Benefield

As Washington stumbles over ObamaCare repeal and delays tax reform—and while seemingly endless scandals monopolize headlines—it’s all too easy to lose hope that transformative policy change is possible.

But those seeking a return to fiscal sanity should take heart: Significant reforms are advancing at the state level that could spur a bottom-up course correction across the country.

For proof, see Pennsylvania. As public pension crises nationwide near the tipping point, the Keystone State—even under divided government—offers a ray of hope in a fractious political environment. 

The Pew Charitable Trusts called Pennsylvania’s pension law enacted in June “one of the most—if not the most—comprehensive and impactful reforms any state has implemented.”

The reform, which contains major 401(k)-style components, garnered healthy bipartisan support in the Republican-dominated state Legislature. But why did Pennsylvania Governor Tom Wolf, a Democrat once rated the most liberal governor in America, sign the legislation after vetoing similar pension reform in 2015?

The answer is simple yet instructive: Budgetary pressures and political realities gave him no other choice.

Fifteen years ago, Pennsylvania’s pension plans for state employees and school teachers held a surplus. Yet, in the past ten years alone, the plans’ unfunded liabilities ballooned more than 800 percent to $71 billion last year.

That’s more than $6,000 of debt for every man, woman, and child in the state.

The debt surged because lawmakers boosted pension benefits in 2001, then for years pushed off required contributions. Their deliberate underfunding coupled with stock market losses transformed a pension debt ripple into a tsunami.

Pennsylvania is far from alone in suffering a politically-created pension crisis.  Moody’s Investors Service estimates unfunded liabilities for public pensions across the nation will reach $1.75 trillion this year.

Sadly, hardworking Americans bear the consequences of poor pension policy.

In Pennsylvania, rapidly rising pension costs caused property taxes to skyrocket—hitting retirees on fixed incomes hard—and strained school budgets. From 2009 to 2015, public school funding grew by $3.9 billion, yet nearly half of this increase went to pay pension debt. On top of that, 10 percent of the state budget is now consumed by pension payments.

Against this grim fiscal reality, government union leaders fought all reform efforts—succeeding even when Republicans controlled the legislature and governor’s office. And in 2015, Wolf vetoed pension reform legislation.

Reform looked hopeless, but below the surface, change was underway.

A grueling, nine-month impasse over Wolf’s first state budget drove down his approval numbers and derailed his agenda. In 2016, voters, most of whom wanted pension reform, handed pro-reform lawmakers their largest majorities in the state House and Senate in decades.

This year, facing yet another budget deficit driven by pension costs and needing a victory for an uphill reelection battle, Wolf was forced to muzzle his labor allies and sign a popular and responsible reform.

Beginning in 2019, new state employees and school teachers, plus newly elected lawmakers, will enroll in a side-by-side hybrid retirement plan. This plan couples a smaller pension with a new 401(k)-style component. New workers could also choose a straight 401(k)-style plan, and current employees and re-elected lawmakers can opt in to the new system.

The sixth-largest state in the nation has finally begun to transition from traditional defined benefit pensions to the 401(k)-style plans private sector adopted years ago.

While this reform is no panacea—it does little to reduce the $71 billion taxpayers owe—it will reduce the future risk to families by approximately two-thirds.

And unlike traditional pensions, the plan’s 401(k)-style components cannot be underfunded and can be taken from job to job. Today’s workforce needs such portable retirement plans.

This new system establishes a firm foundation that Pennsylvania can build upon.

States like Illinois, New Jersey, and Connecticut grappling with their own public pension crises—and lawmakers in Washington D.C., facing seemingly insurmountable roadblocks—should look to Pennsylvania for inspiration.

Even a state with a deep partisan divide can make monumental progress to address our biggest challenges. 

Nathan A. Benefield is vice president and COO of the Commonwealth Foundation, Pennsylvania’s free market think tank.