Public employee pensions: Some contracts are more sacred than others

Third in a series on public pensions. The first is here and the second here.

Oct. 5, 2012

By Mark Cabaniss

On Wednesday, the city of Atwater declared a fiscal emergency, putting it on the path to become the fourth California city to declare bankruptcy this year, joining San Bernardino, Mammoth Lakes and Stockton.  Unfortunately, these four cities seem to be just the tip of the iceberg.  Many other California cities are rumored to be heading for bankruptcy as well, including, at least according to former mayor Richard Riordan, Los Angeles.

The common thread to these bankruptcies is  current retiree pension obligations, which were granted during the go-go years of the stock market and property bubbles, but which have proven dramatically, unbelievably unsustainable during periods of economic contraction, such as the one we are caught in now. For example, Gov. Gray Davis’ infamous SB 400, which in 1999 retroactively boosted state worker pensions, implicitly assumed that the Dow Jones Industrial Average would be at 25,000 by 2009.  (As of 9 am Friday, it is at 13,637.)

One reason that cities have chosen bankruptcy as a means of restructuring pensions, rather than choosing the more direct route of simply attempting to alter current pensions, is the widespread assumption that current public employee pensions are legally untouchable.  However, even though widespread and oft-repeated, this assumption may be wrong.  The only way to find out is to test it in court.  Such a court battle would, I believe, make plain the reality of the situation, which is that what seems to be a “complex legal issue” is in reality a political issue — nothing more, and, unfortunately, nothing less.

The naked political issue can be stated different ways.  In the “social justice” formulation, pension proponents state their argument as, “Is it right for government to just tear up its debts to retirees that have worked their whole careers for that money?”

“Social justice”

In their own version of the “social justice” formulation, pension opponents frame their argument as, “How much money must one group of people give to another group of people, when times are unexpectedly tough, as now?” Or, “Is it right for some politician to sell my children into slavery just to get himself elected?”

Since the “social justice” formulations are so fraught with emotion, simple numerical tautology may be the best and most honest way to frame the argument:  “If the government does not have the money to pay all pension obligations, must the government still pay all pension obligations?”

Obviously, this is a very contentious political issue. But if we frame it as a political issue, the solution presents itself, because it can then definitionally only be solved by doing what is politically possible in the first place, which means that any solution will have to get a majority of people to back it.  Therefore, one possible way to approach the pension crisis is to cut only the very highest pensions, those more than $100,000 per year which, according to CalPERS, only 2 percent of current retirees receive.

Currently, Social Security benefits, to which you have no contractual rights, are capped at a maximum of $30,156 per year. Implementing a pension cap of $100,000 per year would put the 2 percent in the position of arguing that they just can’t live on over three times as much money as everyone else, an argument to which the voters, the 98 percent, might not be sympathetic.

Pension abusers

To their credit, CalPERS has been taking the politically admirable step of going after some of the very worst pension abusers, such as former Bell City Administrator Robert Rizzo (former pension $650,000 per year; new pension $50,000 per year); former City Manager of Vernon Bruce Malkenhorst (former pension $540,000 per year; new pension $115,848 per year) and Scott Plotkin, former Executive Director of the California School Boards Association (former pension $205,000 per year; new pension $72,288 per year).

Nonetheless, such symbolic sacrifices will not be enough to make a dent in the problem. To have an effect, governments will have to make an across-the-board cut in current pension payments, by, for example, simply stopping the payment of benefits in excess of $100,000 per year. If they do that, they will soon find themselves in court, where the legality of the proposition “pensions are contracts and contracts are sacred” will be put to the test.

In evaluating this claim, courts will look to prior cases, in which governments have altered or torn up other contracts. They won’t have to look far; recent governmental actions in California show the government’s ongoing belief that it absolutely has the power to alter or amend or tear up contracts as it sees fit, to promote the governmental objective of ensuring the health, safety, and well being of the citizens.

Ironically, one of the warriors currently working hard to establish the legal precedent that, yes indeed, governments can tear up contracts, is none other than Lt. Gov. Gavin Newsom. He Newsome recently wrote a strongly worded letter supporting the idea of local governments using eminent domain to seize underwater mortgages at below-contract prices, and then resell them to the homeowners at the lower prices.  The idea is that government has an interest in stabilizing the housing market, and thereby stabilizing tax revenues.

Who would lose under the plan to use eminent domain to seize mortgages?  Obviously, the current owners of the mortgages, such as banks and funds owning mortgage-backed securities, would lose. But aren’t these mortgages contracts, and aren’t contracts sacred?  Yes, but some contracts are more sacred than others.

So how do you tell which contracts are sacred?  If the highest pensions were to be cut, how would the defenders of the 2 percent top pensioners explain the contradictory proposition that government can tear up some contracts when it feels like it and yet is absolutely forbidden to tear up other contracts, such as current pension benefits?

Although many lawyers will construct various arguments differentiating the tearing up of private mortgages from the tearing up of public pensions, perhaps the argument is best collapsed down to its most basic: the distinction between public contracts and private contracts. Stated simply, the defenders of the 2 percent believe that it is okay for the government to tear up contracts if doing so negatively affects the rights of private citizens; but it is not okay for the government to tear up public contracts if doing so negatively affects the rights of public employees.

In other words, they believe in an explicitly two-tiered society: government employees have inalienable rights, non-government employees have alienable rights. To put it even more simply, what they really believe is this: contracts which protect my money are sacred; contracts which protect your money are toilet paper.

Will this argument be a winner?  For myself, I wouldn’t want to make it.

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