James Hohman testifying on pension reform before the Senate Education Committee in Lansing.
With legislation signed in July by Gov. Rick Snyder, Michigan has become a national leader in pension reform. The new law affects future teachers, and combined with a 1997 reform for state employees, means that Michigan has made great strides to prevent more debt in our retiree systems.
It’s been a long journey to get to this point, and the state will still be paying off its past debt for decades. But this is a historic moment. This is how we got here.
The Mackinac Center first began writing about public pension systems shortly after our founding in 1987. In 1997, under the leadership of Gov. John Engler, Michigan shifted new state workers off the pension system and into a 401(k)-type defined contribution plan.
At the time, there was concern that pension systems would rack up huge debt for future generations. That proved correct. In the years since, the liabilities in the retirement system for state employees (SERS) and schools (MPSERS) skyrocketed.
In 1997, on paper, they were briefly “fully funded.” But the state was making bad assumptions, including high investment returns (8 percent a year) and a growing payroll (which didn’t happen). It also underestimated how long retirees would live. And then for all but one of the past 44 years, the state has not held enough investments to pay for the pensions it had promised.
Because of the change in 1997, new state employees were not contributing to the underfunding of the pension system. Michigan is still paying down the debt (which would be higher without the change), but it will eventually be paid off.
One regret from the Engler administration was not being able to close the teacher pension system. While the state employee system was closed to new entrants, the school system stayed open. Three legislative Republicans, backed by the teachers union, refused to vote for reform.
In 2006, the Mackinac Center again sounded the alarm. At the time, the school system was funded at 83 percent – meaning 83 cents of every dollar the state had promised to school employees had been saved. We called for new teachers to be shifted to a defined contribution plan. We said, “Future responsibility for the underfunded promises of the Michigan Public School Employee Retirement System will continue to burden school districts, and substantive pension reform is the only way to ensure school employees’ and taxpayers’ security.”
For the past few years, pension reform has been our highest priority (you probably got our letters!). The greatest fiscal problem facing our country is that politicians can promise benefits today and pay for them later (or rather, expect someone else to pay for them). That is the reason everything from Social Security down to the tiny local library system is in debt. Quite simply, the incentives are for lawmakers to spend money on other things, not the pension that someone will receive in the far off future.
But the future is here, and the school pension system is funded at only 60 percent. The cost to schools is massive — 37 percent of their payroll costs goes to pensions. And taxpayers are coughing up more and more. The state spends over $1 billion more on pensions than it did just five years ago.
We called for a shift to a retirement system in which politicians had to pay for retirement benefits as employees earn them. The new legislation gets us most of the way there. For new teachers, they will automatically be enrolled in a defined contribution plan, which the employee and public employer pay into each year. The state will automatically deposit an amount equal to 4 percent of a worker’s pay into a retirement savings account. The employee may contribute more out of their own salary, and the state will match the first three percent of an employee’s contribution. This amounts to 10 percent annually, and employees who wish to save even more can do so. This is identical to what is offered to state employees.
New employees may choose a defined benefit plan instead. But this new plan has a more realistic assumed rate of return of 6 percent and if it goes into debt, both the employee and the employer are responsible for paying it down. If the plan’s funding level falls below 85 percent for two years straight, it would be closed to people hired after that, and those employees would instead be given the 401(k)-type plan.
The new approach does not have everything that the Mackinac Center wanted, but it is a huge reform. We helped contribute to it in a variety of ways.
We produced research showing how big the problem was. Our work was cited in nearly every newspaper in Michigan, and by the time the legislation was being voted on, the debt problem was widely acknowledged. We met with dozens of lawmakers, answering questions, providing information specific to their local school districts, organized a coalition of outside supporters and testified on the bills.
But the inside game is not enough. Teachers and school employees were concerned about the system. We talked to dozens who supported having a defined contribution plan and shared their stories.
Two retirees, Mary Kay and Roger, were particularly worried about the system they were relying on. We shared their concerns in a mini-documentary to get the story out even more.
All-told, our videos that shared the stories of former teachers and explained the legislation garnered more than 750,000 views, and many people contacted their legislators in support of the reform. Others also pushed lawmakers for a solution, notably the Great Lakes Education Project, the Michigan Freedom Fund, Americans for Prosperity-Michigan and the National Federation of Independent Business.
The politicians leading the way merit our applause. Most of the Republican caucus in the House and Senate supported the reforms. Sen. Phil Pavlov, who has over the years sponsored bills to close the system, never dropped the ball. Rep. Tom Albert, who previously worked in the state investment office, understood the need for major changes and sponsored the bill in the House. And House Speaker Tom Leonard and Senate Majority Leader Arlan Meekhof were relentless in ushering it through and keeping it as their highest priority.
Across the nation, nearly every state is doing a poor job putting aside money for retirees. In Illinois, the state went without a budget for two years and is well over $100 billion in debt. The credit rating of the state has repeatedly been downgraded, as little of the money needed to pay for retiree benefits has been put aside. New York, New Jersey, Connecticut, Kentucky and New York are also in precarious positions, though not as bad as Illinois. Wherever pension debt is high, though, debt costs mean fewer public workers, less money to pay for them and cutbacks in core government services.
Michigan wasn’t as bad as those states, but we were headed in that direction. The number of full-time state employees declined 25 percent from 2001 to 2016, yet their payroll costs have increased because of debt payments.
While the debt the state has promised still needs to be paid down, the long-term problem is manageable. The next step is our municipalities.
In a report last year, we documented that nearly every open pension system in Michigan is in debt. That includes systems for counties, cities and townships. Some have closed their plans and are doing well, like Oakland County, which got out of the pension business decades ago.
That’s the model other local governments should follow. And Michigan has done more than every other state to ensure that the costs of today’s government are not pushed onto tomorrow’s taxpayers.