Taxpayer pension costs exceeded Illinois projections by $13.7 billion since 2013

Unrealistic assumptions and missed investment returns have meant Illinois taxpayers paid $13.7 billion more for public pensions than state leaders projected five years earlier. Unless the estimates improve, taxpayers will pay an extra $21.3 billion during the next decade.

Illinois does a particularly poor job of figuring out how much money is needed to pay its public pensions: The past decade has seen the projections miss by 16%, which meant taxpayers needed to give $13.7 billion more than was estimated.

If the estimates are off by the same percentage for the coming decade, taxpayers will face another $21.3 billion in unanticipated costs.

Gov. J.B. Pritzker has touted small, temporary declines in pension debt reported by official state forecasters as evidence that the risk of the pension crisis is declining. These returns have been driven by pandemic-related fiscal and monetary stimulus, but returns could be negative in the short term. The Reason Foundation’s Pension Integrity Project reports expected returns of 5.38% to 6.25% during the next 10-20 years for the typical pension fund.

While recent market factors have provided higher than normal returns, the current situation has historically been the exception. Only the decades of the 1950s and 1990s, bolstered by a post-World War II economic boom and the dot-com era, have exceeded the stock market returns realized during the 2010s, according to MarketWatch. That means recent market performance is not typical.

Federal Reserve policies have kept interest rates at historic lows during this period and into the 2020s, which has juiced the economy and financial markets. With the onset and aftermath of the COVID-19 pandemic, supply chain disruptions and rapidly rising inflation, maintaining such a strong performance during the next 10 years will be a challenge.

The state’s projections are often wrong because of a fundamental flaw in the assumptions. The pension funds assume high rates of return on their investments and those inflated rates rarely translate to reality. From fiscal year 2008 through 2017, the state’s retirement systems assumed rates of return between 6.75% and 7.25%. The actual returns were between 4.6% and 5.4%.

Underperforming investments mean taxpayers must make up the difference. Illinois taxpayers have been continually asked to do that, sending billions more than projected to fund pension systems that continue to drive up their taxes and hurt the state’s economy.

Assuming a higher rate of return on pension investments means state leaders need to put less money toward pensions, freeing up funds for their other spending priorities. That game just hides the pension systems’ unfunded liabilities and forces taxpayers to fund higher and higher pension payments over more time.

States have begun lowering the assumed rate of return for their pension investments to more realistic levels in recent years. The National Association of State Retirement Administrators measured 131 state pension systems and found 78% of them had lowered their assumed rate of return since fiscal year 2018 and 98% had done so since fiscal year 2010.

Pension debts in 2012 and 2013 were 82% and 54% higher, respectively, than projected five years earlier. Those projections were made in 2007 and 2008, before the financial crisis that caused pension investments to plummet in value. That should be a warning about Illinois’ projections, which fail to factor in an economic downturn.

Even without a recession, if future predictions match the nearly 16% error rate since 2013, taxpayers will pay $21.3 billion more than expected. Given current economic forecasts by experts warning of a coming recession, Illinois’ pension funds should account for what are likely to be much lower rates of return than currently predicted.

A 2019 stress test of the pension systems commissioned by the Illinois Policy Institute found a 20% loss of their asset value because of a recession – the same loss they experienced in 2009 – with an average return on investment matching the roughly 4.6% the funds experienced in the decade after the past recession, would mean the systems would run out of money in fewer than 30 years. A similar loss and sluggish economic recovery would put the state’s major pension systems at real risk for insolvency, threatening the retirement security of thousands of public workers.

While no one can predict the future, they can make smarter guesses. There will almost certainly be multiple recessions between now and 2045, when the state pension plans are scheduled to hit 90% funding targets.

Lawmakers have taken no action on structural pension reform since 2013, when their bipartisan reforms were struck down by the Illinois Supreme Court. While real reform will require an amendment to the Illinois Constitution, lawmakers could save taxpayers over $500 million on pensions almost immediately by simply adding a date to the Tier 3 law and giving public employees a new option for their retirement plans.

Other blue states have taken the lead on pension reform in recent years, fixing their problems before their systems fall into the dire condition Illinois’ is already in. Pritzker and lawmakers have continued to delay and ignore the issue. Instead of taking advantage of unprecedented federal aid and use it to help get the state’s fiscal affairs in order, Pritzker has decided to take advantage of the extra funds to offer temporary tax relief as a reelection gimmick.

Unless significant structural changes are made to both pensions and the way the state spends money, Illinois will immediately experience financial turbulence once federal relief money stops flowing.