No love, actuary

WHEN it comes to funding the pensions of their workers, American states and local governments have not been doing a good job. Back in 2000, the average pension plan was fully funded, according to the Centre for Retirement Research (CRR); at the end of 2015, the official funding ratio was just 72%.

So a report from a pension-finance task force into the way economic principles apply to public pension funds ought to make compulsory reading. But the paper, commissioned by the American Academy of Actuaries (AAA) and the Society of Actuaries (SoA), is not going to see the light of day. That is very disappointing, since the report (a draft of which has been seen by The Economist) highlights how the approach to valuing American public pensions is highly questionable.

The big costs for pension plans lie in the future, as members retire and benefits are paid. Those costs must be discounted at some rate to the present day so those who run schemes know how much money to put aside. The higher the discount rate, the less money has to be put aside now; American public plans tend to use a discount rate of around 7.5%, based on the investment return they expect to achieve.

The draft paper points out that this approach is flawed. Indeed, accounting rules don’t allow corporate pension plans to use it. Economic principles suggest that the cost of a benefit does not depend on the assets expected to finance it. A promise to pay a stream of pension payments in the future resembles a commitment to make interest payments on a bond. A bond yield is thus the most appropriate discount rate. But given how low bond yields are, pension deficits would look larger (and required contributions would be much higher) if such a discount rate were used. A discount rate of 4%, for example, would mean the average public pension plan would have a funding ratio of only 45%, not 72%, according to the CRR.

A more generous accounting approach allows public pension plans to avoid asking taxpayers to stump up more money in the short term. But future taxpayers will bear the burden. As the paper points out, the concept of intergenerational equity requires each generation of taxpayers to pay the full cost of the benefits it receives.

The ideas in the paper have been circulating among European actuaries for 20 years. But the conclusions are controversial in America; an AAA spokesman said the study “did not meet the editorial and policy standards of our review process”. Pressed for details, the AAA referred to the paper’s “tone and clarity” and cited the wording of a footnote on pension costs.

It was perfectly within the rights of the actuarial bodies not to publish but they went further. In a memo, Tom Wildsmith and Craig Reynolds, respectively presidents of the AAA and SoA, said that, as the paper was produced by a group set up by them, “we do not think it would be appropriate for members of the task force, as individuals, to take the existing paper and simply publish it somewhere else.”

The decision angered those who have been working on the paper since 2014, who see the move as censorship. “This is a paper that they didn’t write, they didn’t fund and don’t want to publish,” says Ed Bartholomew, a former banker and one of the authors who worked on a voluntary basis. Jeremy Gold, another of the authors, says the affair illustrates the insularity of the actuarial profession.

In its defence, the AAA says it has in the past published similar views to those expressed in the report. And the SoA plans to hold a webinar on September 27th, in which the authors can discuss the issue. Still, the two bodies should just allow the report to be published. American public-sector pension deficits are more than $1 trillion, even on the most generous assumptions. This is an issue in which debate should not be stifled.