Accounting Versus Arithmetic

At NRO George Will reminds us of the fiscal problems that we face by starting with pensions for states and municipalities:

Some American disasters come as bolts from the blue — the stock-market crash of October 1929, Pearl Harbor, the designated hitter, 9/11. Others are predictable because they arise from arithmetic that is neither hidden nor arcane. Now comes the tsunami of pension problems that will wash over many cities and states.

The WSJ reports on Illinois where the state has a $130 billion in unfunded pension liabilities.  The Democrats are trying to tax their way out.  Illinois is one of the few states with a decreasing population of less than 13 million.  We’d avoid it too.

Then George concludes with the entitlement crisis:

The problems of state and local pensions are cumulatively huge. The problems of Social Security and Medicare are each huge, but in 2016 neither candidate addressed them, and today’s White House chief of staff vows that the administration will not “meddle” with either program. Demography, however, is destiny for entitlements, so arithmetic will do the meddling.

We agree with George on the severity of the problem but we’d like to add a bit of explanation.  Pensions can be accounted for and the extent of the problem is an accounting result.  Pensions are very long term so they are very responsive to compound interest.  George notes that when Illinois went from an expected return of 7.5 percent to 7.0 percent it added $400 to $500 million to the annual bill.  George thinks 7.0 percent is still imprudent but gives no evidence to suggest why.

Entitlements like Social Security and Medicare are not pensions.  Pensions have assets that will grow and, hopefully, meet the obligations.  MWG’s pension from the state of Wisconsin is nicely funded and gives us great comfort.  Entitlements are paid on a cash basis.  MWG Social Security payment comes from the younger readers.  Thanks!  The probability of the coming disaster for Social Security is approaches 1.0 because only a plague among retirees can stop it unless Congress acts.  The extent of the Medicare disaster depends greatly on the rate of increase in medical costs.  Pensions could be fixed but Illinois shows us why it doesn’t happen in many states.

The clock is ticking.  Social Security needs to be means tested yesterday.  Start now with a small changes and get it right by the end of the decade.

The only current good news is that the GOP is trying to fix Medicare while eliminating the ironically named Affordable Care Act.  Let’s hope they get their sums right.



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