Retirement Benefits as a Municipal Long-Term Obligation

In addition to traditional debt instruments, municipalities have other mandates that can form financial obligations which demand resources in the same way as traditional debt. These mandates include retirement benefits like pensions and OPEB (other post-employment benefits like retiree health insurance). What these obligations look like, though, varies by type and municipality.

Unlike bonded debt, pensions and other retirement benefits are relatively new phenomena. In fact, public pensions did not become a state liability until the 1960s. Since their inception, however, they have become large contributors to state indebtedness; especially unfunded pension liabilities, which are the difference between the amount each state owes into their pension system and how much money they have actually put into that system. The chart below outlines the liability retirements benefits form for all 50 American states, and how they compare to traditional bonded debt liabilities. For some states like Alaska, retirement benefit liabilities are almost as large as their outstanding debt liabilities. This is particularly problematic, because these liabilities are funded by the same limited resource pool as debt service, day-to-day operations, and public programs. As with all forms of debt, when these liabilities are too high they eat up a large portion of resources, leaving less to fund everything else.

Similarly, and like debt service, some American courts recognize retirement benefits as constitutionally-protected contractual obligations upon municipalities. As such, some municipalities cannot easily defray these costs through service cuts like operating costs and public programs, and must resort to cutting public programs or increasing taxes to make ends meet.

Unlike debt service, however, pension obligations are contingent upon a mercurial market to pay a specific dividend; if and when these markets fall short of these goals, the municipality must make up the difference. As such, it is difficult to forecast how much a municipality will be contractually required to contribute a decade from the contract start. Compiled with the incentive to only fund pensions up to the minimum annual requirement, and make up the difference later, pensions form a particular public finance problem for many municipalities.

More detailed information on the role of public pensions in state and private indebtedness can be found here.

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