Public Pensions Cook the Books

Public Pensions Cook the Books. By Andrew G Biggs
Some plans want to hide the truth from taxpayers.
The Wall Street Journal, Jul 06, 2009, p A13

Here's a dilemma: You manage a public employee pension plan and your actuary tells you it is significantly underfunded. You don't want to raise contributions. Cutting benefits is out of the question. To be honest, you'd really rather not even admit there's a problem, lest taxpayers get upset.

What to do? For the administrators of two Montana pension plans, the answer is obvious: Get a new actuary. Or at least that's the essence of the managers' recent solicitations for actuarial services, which warn that actuaries who favor reporting the full market value of pension liabilities probably shouldn't bother applying.

Public employee pension plans are plagued by overgenerous benefits, chronic underfunding, and now trillion dollar stock-market losses. Based on their preferred accounting methods -- which discount future liabilities based on high but uncertain returns projected for investments -- these plans are underfunded nationally by around $310 billion.

The numbers are worse using market valuation methods (the methods private-sector plans must use), which discount benefit liabilities at lower interest rates to reflect the chance that the expected returns won't be realized. Using that method, University of Chicago economists Robert Novy-Marx and Joshua Rauh calculate that, even prior to the market collapse, public pensions were actually short by nearly $2 trillion. That's nearly $87,000 per plan participant. With employee benefits guaranteed by law and sometimes even by state constitutions, it's likely these gargantuan shortfalls will have to be borne by unsuspecting taxpayers.

Some public pension administrators have a strategy, though: Keep taxpayers unsuspecting. The Montana Public Employees' Retirement Board and the Montana Teachers' Retirement System declare in a recent solicitation for actuarial services that "If the Primary Actuary or the Actuarial Firm supports [market valuation] for public pension plans, their proposal may be disqualified from further consideration."

Scott Miller, legal counsel of the Montana Public Employees Board, was more straightforward: "The point is we aren't interested in bringing in an actuary to pressure the board to adopt market value of liabilities theory."

While corporate pension funds are required by law to use low, risk-adjusted discount rates to calculate the market value of their liabilities, public employee pensions are not. However, financial economists are united in believing that market-based techniques for valuing private sector investments should also be applied to public pensions.

Because the power of compound interest is so strong, discounting future benefit costs using a pension plan's high expected return rather than a low riskless return can significantly reduce the plan's measured funding shortfall. But it does so only by ignoring risk. The expected return implies only the "expectation" -- meaning, at least a 50% chance, not a guarantee -- that the plan's assets will be sufficient to meet its liabilities. But when future benefits are considered to be riskless by plan participants and have been ruled to be so by state courts, a 51% chance that the returns will actually be there when they are needed hardly constitutes full funding.

Public pension administrators argue that government plans fundamentally differ from private sector pensions, since the government cannot go out of business. Even so, the only true advantage public pensions have over private plans is the ability to raise taxes. But as the Congressional Budget Office has pointed out in 2004, "The government does not have a capacity to bear risk on its own" -- rather, government merely redistributes risk between taxpayers and beneficiaries, present and future.

Market valuation makes the costs of these potential tax increases explicit, while the public pension administrators' approach, which obscures the possibility that the investment returns won't achieve their goals, leaves taxpayers in the dark.

For these reasons, the Public Interest Committee of the American Academy of Actuaries recently stated, "it is in the public interest for retirement plans to disclose consistent measures of the economic value of plan assets and liabilities in order to provide the benefits promised by plan sponsors."

Nevertheless, the National Association of State Retirement Administrators, an umbrella group representing government employee pension funds, effectively wants other public plans to take the same low road that the two Montana plans want to take. It argues against reporting the market valuation of pension shortfalls. But the association's objections seem less against market valuation itself than against the fact that higher reported underfunding "could encourage public sector plan sponsors to abandon their traditional pension plans in lieu of defined contribution plans."

The Government Accounting Standards Board, which sets guidelines for public pension reporting, does not currently call for reporting the market value of public pension liabilities. The board announced last year a review of its position regarding market valuation but says the review may not be completed until 2013.

This is too long for state taxpayers to wait to find out how many trillions they owe.

Mr. Biggs is a resident scholar at the American Enterprise Institute.

Russia Presents Test for Obama

Russia Presents Test for Obama. By Michael A. Fletcher and Philip P. Pan
Washington Post, Sunday, July 5, 2009

President Obama is scheduled to leave Washington tonight on a week-long trip that will help determine whether his personal popularity and fresh policy approaches can yield concrete results on difficult issues including arms control, missile defense and nuclear nonproliferation.

After seeking support for U.S. policies from allies in Europe and appealing for a new relationship with the Muslim world in Cairo on previous trips, Obama arrives in Moscow tomorrow for his first foray into high-profile, nuts-and-bolts negotiations with the leader of a nation that might be deemed an unfriendly rival.

On Wednesday, Obama will travel to L'Aquila, Italy, where he will meet with leaders of the world's major industrial powers. Climate change and the continued shaky global economy are expected to dominate the agenda. He is also to meet with Pope Benedict XVI.

On Friday, Obama will go to Ghana, where he is expected to highlight that nation's burgeoning democratic tradition and to deliver a speech on his administration's goals for the developing world.

Shortly after taking office, the Obama administration made clear that it wants to "reset" relations between the United States and Russia, which had deteriorated under President George W. Bush. During Obama's first meeting with Russian President Dmitry Medvedev, in London in April, the two agreed to a broad statement of cooperation on numerous issues.

Both the White House and the Kremlin hope to build on that with a summit in Moscow, and agreements on subjects including Afghanistan and nuclear proliferation are expected to be unveiled. But fundamental differences remain on key issues that have strained U.S.-Russian relations.

Medvedev wants U.S. pledges to scrap a missile defense system in Eastern Europe and to rule out military alliances with the former Soviet republics of Georgia and Ukraine. Obama wants Russia to back tough sanctions against Iran if diplomatic efforts to curb its nuclear program fail. Neither president has indicated any willingness to yield.

"We're not going to reassure or give or trade anything with the Russians regarding NATO expansion or missile defense," said Michael McFaul, special assistant to the president and senior director for Russian and Eurasian affairs. "We're going to define our national interests, and by that I also mean the interests of our allies in Europe with reference to these two particular questions."

Sergei Prikhodko, Medvedev's chief foreign policy adviser, struck a similar tone. "Saying that it will be easy to move forward would mean deluding ourselves," he told reporters. "The domestic agendas of both leaders and their agendas in dealings with allies do not always coincide. Sometimes, they contradict each other directly or indirectly. But the question is . . . whether we want to expand mutual understanding or focus on defending our own positions on sensitive issues."

Obama is scheduled to meet on Tuesday with Prime Minister Vladimir Putin, whom analysts called the preeminent power in Russian politics. Obama told the Associated Press last week that the former Russian president must move beyond a Cold War approach to relations with the United States.

The willingness of Obama and Medvedev to compromise will be tested when they discuss a treaty to replace the landmark START I nuclear arms control pact, which expires in December.

The United States and Russia control more than 90 percent of the world's nuclear weapons. After three months of talks, negotiators have agreed to modest reductions below the limits of 1,700 to 2,200 warheads established by the 2002 Treaty of Moscow. But they remain deadlocked on how to count and limit the number of "delivery systems," or missiles and heavy bombers, that each nation can keep.

Medvedev publicly declared two weeks ago that no treaty is possible unless "the United States lifts Russia's concerns" about its plans to build a missile defense system in Poland and the Czech Republic.

Obama has not decided what to do about the system, said a senior administration official, speaking on the condition of anonymity because he did not want to discuss internal deliberations publicly.

The United States is reviewing other options for missile defense and has tried unsuccessfully to engage the Kremlin on the issue, he said. "We're serious about cooperation on missile defense with the Russians," he said. "But the sense is the Russians are still nervous and don't trust us."

Russian officials have publicly endorsed the idea of cooperation on missile defense, but have called on Obama to abandon the Polish-Czech plan first and emphasized they want to be included from the ground up, beginning with joint assessment of threats. The two sides have discussed opening a Moscow-based joint data exchange center.

Obama hopes to gain Russian cooperation on other topics, including energy efficiency and climate change. Russia is one of the world's largest energy producers, but it is also a leading emitter of greenhouse gases, behind the United States and China, according to the Center for American Progress.

The summit is expected to produce a deal allowing the United States to ship weapons to Afghanistan through Russia. The two sides may also agree to share intelligence and fight Afghanistan drug trafficking. Officials said the sides are also working to revive a pact on civilian nuclear energy cooperation that the Bush administration suspended after Russia's war last year with Georgia, and to strengthen military ties, also downgraded after the war.

Some business deals, including one involving Boeing, are also expected, analysts said, but they could be overshadowed by disappointment over Putin's decision to withdraw Russia's application for World Trade Organization membership last month.

Obama also is scheduled to deliver a speech in Moscow in which aides say he will try to dispel the feeling in Russia that America's self-interest lies in a weak Russia.

"This is not 1974. This is not just where we go do an arms control agreement with the Soviets, but that we have a multidimensional relationship with the Russian government and with the Russian people," McFaul said.

Pan reported from Moscow. Staff writer Mary Beth Sheridan contributed to this report.

Link Between Iraq Violence, Troop Withdrawals Considered

Link Between Iraq Violence, Troop Withdrawals Considered. By Greg Jaffe
Washington Post, Sunday, July 5, 2009

A recent spike in violence in Iraq is prompting senior defense officials to ask whether the gradual withdrawal of U.S. troops from Iraqi cities over the past several months has provided an opening to extremist groups eager to spark sectarian attacks between Sunnis and Shiites.

The latest bombings have highlighted the still-fragile state of the Iraqi government and security forces as the war enters a new phase and U.S. influence in the country continues to wane. Some senior defense officials speculated that the recent increase was part of a last push by Sunni extremist groups, who appeared to be marshaling their resources in May, to make their presence felt before the formal deadline for the U.S. withdrawal from Iraq's cities.

"We knew that if al-Qaeda in Iraq had only five bombs left, they were going to use them all as the last of our forces left the cities," said a senior defense official who follows Iraq. "They wanted to create the narrative that they had driven us from Iraq. Next, they'll want to build the narrative that the Iraqi security forces can't protect the people."

Iraqi civilian deaths, which had dropped in May to among the lowest levels of the war, almost doubled in June, to 447, according to a count by the Associated Press. Gen. Ray Odierno, the top commander in Iraq, played down the impact of the recent attacks. "I still believe that al-Qaeda has been significantly degraded here in Iraq," he told reporters on Tuesday.

Military officials said that in the coming weeks they will be watching closely to see whether al-Qaeda in Iraq and other extremist groups can sustain the recent spate of suicide bombs, which would be a sign that networks of fighters have reinvigorated themselves, and whether the attacks provoke retaliatory violence.

Over the long term, the concern is whether the relative peace between Shiites, who represent the majority in Iraq, and Sunnis can be sustained without a large presence of U.S. troops in Baghdad.

"If Sunnis and Shiites continue to work through their differences politically, Iraq will survive. If not, there is no way it will hold together," said retired Col. Pete Mansoor, who served as a senior aide to the top commander in Iraq in 2007 and 2008.

When U.S. troops moved into Baghdad in large numbers in 2007, they took up positions on the fault lines between Sunni and Shiite neighborhoods in an effort to stop the sectarian killing. "We put ourselves between the sects and functioned as honest brokers," Mansoor said. "That was our primary leverage."

A small number of U.S. advisers and several companies of American combat troops will remain in Baghdad over the coming year. But it will be largely up to Iraqi army and police forces to calm sectarian tensions, which are almost certain to flare as the next national elections, scheduled for January, draw closer.

Senior U.S. officials said they will watch closely for any signs that civilian casualties and sectarian murders in Iraq are increasing in the coming months. So far, the recent bombings have not spurred a cycle of retribution, and even with the recent spike in killings violence still remains at summer 2003 levels.

Another danger is that Iraqi army and police forces will revert to the overtly sectarian behavior of 2006 and 2007 without the stabilizing presence of U.S. forces operating alongside them. It will be difficult for the small number of U.S. advisers embedded with Iraqi units to accompany them on all missions. The conduct of Iraq's senior political leaders, including Prime Minister Nouri al-Maliki, and its top generals will play the biggest role in determining whether the country's security forces hold together or fracture on sectarian lines, military analysts said.

"In 1973 and 1974, there were a lot of good South Vietnamese battalion commanders, but that wasn't enough to compensate for the lack of leadership at senior levels," said Steven Metz, a counterinsurgency expert at the Army War College in Carlisle, Pa.

A major test will be how Maliki and other Iraqi leaders handle the armed groups known as the Awakening or Sons of Iraq. These largely Sunni forces include many former insurgents who agreed to drop their resistance in exchange for positions paying about $300 a month.

Despite its promise to integrate 20 percent of the former Sunni fighters into the Iraqi army and police forces, Maliki's government has found positions for about 5 percent of the 91,000 Iraqis in the program, according to the upcoming quarterly report to Congress on Iraq, which will be released this month. Maliki's government has also targeted a few of the Awakening leaders for arrest in recent months and, at times, has been slow to pay other militia members.

U.S. officials remain optimistic that the Iraqi government will not alienate the former insurgents. "The prime minister and his advisers understand they can't abandon these guys en masse," said the senior defense official.

Even if the government does not meet its promises to the former insurgents, it is unlikely that disaffected Sunnis will turn to groups such as al-Qaeda in Iraq for revenge, military analysts said.

"My worry is that you could see a huge uptick in criminality if the Sons of Iraq aren't integrated into the security forces," Mansoor said. "People have to feed their families, and will resort to oil smuggling, illegal checkpoints and shaking down business owners for protection money."

But if violence rises in Iraq, there is little political appetite in Washington or Baghdad for an increased U.S. role. Some military analysts worried that President Obama had not done enough of late to make it clear to his military commanders and the American people that U.S. troops will push back into Baghdad if necessary.

"Right now, you have a public that is starting to say the war is finished," said Peter D. Feaver, who focused on Iraq as a special adviser to the Bush White House and is a professor at Duke University. "The problem is that we're not done in Iraq. The president is the only one who can mobilize American public support for the war."

Congress's cowardly move to tie the president's hands on detainee transfers

Hypocrisy on the Hill. WaPo Editorial
Congress's cowardly move to tie the president's hands on detainee transfers
The Washington Post, Sunday, July 5, 2009

FOR YEARS, Democrats clamored for the closing of the detention center in Guantanamo Bay, Cuba, using the prison to pummel President George W. Bush for abusing his authority, violating domestic and international law, and tarnishing the reputation of the United States. Sen. Dianne Feinstein (D-Calif.) felt so strongly about the issue that she sponsored legislation in 2007 to force Mr. Bush to shutter the facility.

Now lawmakers are making it nearly impossible for President Obama to close the notorious prison by year's end, as he promised to do.

Ms. Feinstein, Senate Majority Leader Harry M. Reid (Nev.) and 88 other senators -- including every Republican -- voted to attach to a must-pass, supplemental war spending bill several provisions that tie the president's hands. Ms. Feinstein complained that the president lacked a detailed plan to deal with detainees. Facing fear-mongering opponents who essentially accused Mr. Obama of having his heart set on letting hard-core terrorists roam through American backyards, the Senate withered and collapsed, with Maryland Democrats Barbara Mikulski and Benjamin L. Cardin and Virginia Democrats James Webb and Mark Warner joining the pack. Only six senators -- all Democrats -- had the courage to vote against this wrong-headed amendment: Richard J. Durbin (Ill.), Tom Harkin (Iowa), Patrick J. Leahy (Vt.), Carl M. Levin (Mich.), and Rhode Island's Jack Reed and Sheldon Whitehouse.

As a result of the vote, the president is prohibited from using taxpayer funds to order the release of any detainee into the United States, including those cleared by the Bush administration and the federal courts; he is likewise forbidden to bring any Guantanamo prisoners to the United States for preventive detention. The president must give lawmakers a 45-day heads up before ordering any detainee prosecuted in a U.S. court proceeding and he must give Congress 15 days' notice of his decision to send a detainee to another country.

It is therefore easy to understand why Mr. Obama may be tempted to circumvent lawmakers: The Post reported that he is considering an executive order to establish a preventive detention regime for those who may be too dangerous to release but against whom there is not enough usable evidence to file formal charges in a traditional courtroom. But he should resist the temptation of acting alone. Mr. Bush often did end runs around lawmakers for fear of being constrained; eventually the courts circumscribed his powers more than they likely would have if he had worked with Congress. Mr. Obama's best course lies in opening discussions with Congress on fashioning a preventive detention regime that will ensure due process and humane treatment of detainees. Let's hope that there will be leaders on the Hill available for thoughtful discussion.