Many public pension plans around the nation are severely underfunded. The 2008 financial crisis, which wiped out many pension investments, has focused the public's and policy makers' attention on the issue since then. But the financial crash and ensuing Great Recession don't explain all of the problem public pensions face today.
One major problem is self-inflicted: investment decisions that advance political agendas rather than shareholder value. Texas Comptroller of Public Accounts Susan Combs, in a Wall Street Journal op-ed, outlines how pervasive this is:
Since 2006, about a third of all shareholder proposals floated with Fortune 250 companies have come from institutional investors affiliated with organized labor, according to the Manhattan Institute. Pension funds for state and municipal workers sponsored about a quarter of those proposals. Proposals put forward by public pension funds cover a gamut of popular causes du jour, including the environment, corporate political spending or lobbying, and government use of privatized services (they're opposed to that, oddly enough).
A major reason for this problem, Combs argues, is that public pension managers do not face strong requirements for investing with increasing shareholder value as their sole goal.
The Employee Retirement Income Security Act known as Erisa specifically requires private pension funds to focus on the economic value of their investments. There's no similar requirement for public pensions—and that may explain some of their problems. Nine states, for instance, have less than 60% of the funds they need to honor their current pension commitments, according to a recent report from CNBC.
The economic-focus requirement for the public dollar should reflect an even more stringent standard. There's little or no credible evidence that activist investing improves shareholder financial return, and some research—such as a 2002 study in the Journal of Financial Economics—suggests that an activist orientation reduces valuations for public pension funds.
Indeed, as my former colleague Vinnie Vernuccio has noted, the California State Employee Public Retirement System lost about $1 billion in forgone gains due its ban on tobacco stocks, and in 2008 “could no longer justify” avoiding tobacco stocks.
Also in need of reform is the politicized character of many public pension boards -- one of the structural factors behind public pensions' underfunding, which I've noted, along with pension payouts based on final-year pay, collective bargaining, binding arbitration, and faulty accounting standards.