Council Member Travis on the Pension Reform Vote
Dear Friends and Neighbors:
Regarding the pension reform plan, as expected, there are things to like about it and there are things not to like about it. Because the former outweighs the latter, I supported it. My comments below are not meant to be a comprehensive explanation, but a highlight of my thoughts on the subject.
I voted today in support of the pension reform plan proposal for several reasons as I highlight further below. While I do take issue with part of the plan, and hoped we could do better, it is a vast improvement over the current situation.
Here is the good news:
- No New Taxes
- No Additional Debt
- Pensions will be FULLY Funded
Here is the bad news:
- No Defined Contribution Plan
Here are some concerns:
- Pension Obligation Bonds (POBs)-Arbitrage Bet
- Risk Corridor-Uncertainty as to the Mechanism
Over the past 15 years, we dug ourselves into a collective hole (to the tune of a $7.8 billion unfunded liability). It is that hole that we are digging out of through this plan. The hole is long and the hole is deep due to 15 years of inaction. It will take us some time and effort to dig ourselves out. This plan is a start. It is important to note that while the plan doesn't lower taxes, it also doesn't raise them. While the plan does monetize $1 billion in unfunded liabilities, it doesn't add additional debt. Essentially the plan enables the city to fully fund its three pension systems over the next thirty years. This plan, quite simply, is a long time coming. More importantly, what is the alternative? If we did nothing, we would have to wait another three years for reform all under the same current conditions. This means we would be digging ourselves into a deeper hole requiring more draconian measures.
Let me walk you through what I perceive to be the key elements of the proposed reforms and how each affected my decision:
Absence of Defined Contribution Component (Negative Effect)
I would have preferred a defined contribution plan for all new hires. Defined contribution plans are the norm in the private sector for good reason. A defined contribution plan shifts the retirement burden from the employer (in this case the city and taxpayer) to the employee and the performance of the market. Defined benefit plans are too costly and unsustainable in current times. The city would have greater control and predictability of future costs with defined contribution plans. I understand, however, that the mere mention of defined contribution, even if just for new hires only, was a complete non-starter in negotiations with the three pension boards, municipal, police and fire. I've been told by the administration and the pension boards, that the $2.5 billion in structural benefit changes would be off the table if defined contribution plans were pursued.
Issuing Pension Obligation Bonds (Neutral to Negative Effect)
I am also concerned about the Pension Obligation Bonds (POBs). My concern results from the arbitrage aspect of the bonds. If purchased right (proper low interest rate), these bonds can essentially lower our pension costs in the long run. However, if purchased wrong, meaning too high of a rate, we stand to increase our costs substantially. Only time will tell if this risk is worth the effort. It was made clear municipal and police pension boards were adamant about getting more of the unfunded liabilities monetized without which benefit concessions would not occur.
Reducing Automatic COLAs (Positive Effect)
The good news is that automatic Cost of Living Adjustments (COLAs), the largest driver of rising pension costs and unfunded liabilities, are being reduced. While I would prefer automatic COLAs be completely eliminated, the reduction in all three plans is substantial and impactful. COLAs in each plan are reduced for both current and future employees, thereby producing immediate and significant plan cost reductions.
Changing DROP (Positive Effect)
More good news relates to changes in Deferred Retirement Option Plan (DROP) eligibility criteria and interest credits. DROP allows employees eligible for retirement to accrue pension benefits in a separate account (accruing interest and other credits at an accelerated rate) while still working for the city. Each pension plan has incorporated changes affecting DROP participants which will yield real savings to the city. While I would prefer to eliminate all DROP participation immediately, the changes and eventual elimination of DROP are a step in the right direction.
Eliminating the Unfunded Liability (Positive Effect)
The unfunded liabilities are hard to pin down exactly as they are largely based upon assumptions. In 2015 the unfunded liabilities were estimated at around $3.2 billion. Due to accounting changes, in 2016 they rose to over $5 billion. This is based largely on the assumed discount rate which was at 8.5% and has now been adjusted to a more reasonable, though still high, 7% rate. As a consequence, the unfunded liabilities now stand at $7.8 billion. Without changes, these liabilities would continue to increase substantially over time. This plan stops the bleeding and begins reducing those unfunded liabilities over a 30-year closed amortization period. Again, while this debt is not monetized debt, it is still a city obligation which we must pay. Written into state statute will be a provision forcing the city to make its annually required payment to each pension plan; we will no longer be able to push out and exacerbate the liability.
Establishing a Shared-Risk Corridor (Neutral to Positive Effect)
The risk corridors represent an attempt to deflect possible future additional costs from solely the city to all parties. If the city's costs go too high (5% more than expected expressed as percent of payroll), the parties must go back to the table to bring costs in line. Overall, this is a positive development as this was never before allowed. Over the past 15 years, the city has been on the hook for the totality of the rising pension costs. The corridor gives the city a mechanism by which to control costs over the long term. The key will be what transpires in each instance as we proceed. I am concerned we do not have a set formula based upon the various scenarios and I would like to see more certainty. However, the corridor establishes an important process which was missing before. Had the city had such a process over the past two decades, we wouldn't be in this mess.
I am somewhat troubled by what this vote represents insofar as we are apparently supporting legislation which has yet to be written. However, the resolution I voted for indicates my support for the terms and conditions as outlined this day. To the extent the specific language of the state legislation does not reflect what has been put forth today, it will essentially nullify the Council vote. It is my thought everyone has come too far to allow this to occur. Nonetheless, I will watch carefully to make sure the legislation mirrors the plan as presented or is more favorable to the city, and I'll be the first one to raise hell if it does not. I made it very clear on Council today that if there are any substantive changes from what we were presented, I will personally travel to Austin and lobby against it. The Mayor assures me if that happens, he will join me.
Admittedly, I am not an expert on pensions. While I have a business background and have studied up on pensions, I do listen to experts on the subject. I do this in my law practice. I continually consult experts on various subjects and through them, I educate myself. I did so here. I have been careful to listen to others who are well versed on pensions in general and Houston's pensions in particular. I readily admit I took my cue on this plan in part from not only a friend and neighbor, but also the Vice President and Chief Economist for the Arnold Foundation-Mr. Josh McGee, Ph.D. In addition to his day job, Mr. McGee serves a
s the chair of the Texas Pension Review Board, having been appointed to that position in 2015 by Governor Greg Abbott. When Governor Abbott tapped Josh McGee for that position, he lauded the Houston economist as a leading national expert on retirement policy. Mr. McGee has and most likely will continue to make his views known as to Houston's plan. I see no fault in his opinions or reasoning and as such, along with what I have highlighted above, I voted to support the resolution.
Finally, I'd like to thank Mayor Turner, his finance and legal team, and the members of the three pension boards for working together in a manner which has not been seen in this city for decades. While not perfect, this plan shows forward progress toward a more sustainable financial future for our great city.