State and Local Pensions Are a Volcano Ready to Blow. NewsWire

NEWSWIRE: 11/25/19

• America’s public-sector pension schemes have a serious problem: The average scheme is only 72.4% funded. Despite efforts to ramp up contributions, the collective shortfall equals an eye-popping $1.6 trillion and will grow even bigger if the market takes a dive. (The Economist)
• NH: I say this periodically, and I'll say it again. State and local pensions are a volcano waiting to erupt. The only question is: Who is going to get hurt by the explosion? (See "America's Pension Battle Heats Up" and “Why Are Public Pensions So Messed Up?”).
• Policy experts often report the size of this bulging volcano to be about $1.6 trillion (the official aggregate unfunded liability, computed by the Center for Retirement Research and quoted by The Economist). But this figure embodies a lot of optimism. It is based on GASB (Government Accounting Standards Board) rules that allow government agencies to discount their future liabilities at whatever rate of return they hope to get from their financial assets--something that would never be allowed in the private sector (per FASB). If we discounted S&L plans at the same rate used by private firms (now about 4.5%), the unfunded liabilities would be over $3 trillion. If we used risk-free Treasuries of matched duration--maybe because some states constitutionally guarantee their pension benefits--then the figure would be well over $5 trillion.
• How did we get into this mess? It started with a big expansion of state and local government back in the 1960s and 1970s, which meant hiring millions of young Boomers. And now those Boomers are retiring. It got worse through decades of benefit expansions (which rewarded politicians but added nothing to current outlays). Add to that greater-than-expected longevity and disability. Add to that decelerating public employment. Then add further to all of the above a massive shift in pension assets from fixed income to equities, which allowed ever-higher discount rates and created the appearance of ever-smaller liabilities. Prudent accounting might have prevented the problem, but (again) the GASB rules are lax and S&L governments are under no obligation even to follow GASB.
• As recently as 2001, S&L pensions as a whole--newly glutted as they were with equities at the peak of the dot-com bubble--were officially in surplus. But their net liabilities surged over the next two recessions--without falling much during the subsequent recoveries. (See the first chart below.) The average official funding level fell from 100% in 2001 to just over 70% by 2016, even while employer contributions, imposed by agencies struggling to catch up, were jacked up from 5% to 17% of payroll on average. (See the second chart below.)
• Since the Great Recession, S&L pension funds have lowered their average assumed nominal rate of return from 8.0% to 7.4%. But this decline doesn't reflect greater realism. More than all of it comes from lower assumed future inflation, which has little effect on net liabilities. Meanwhile, the funds' assumed real rate of return has actually risen still higher as even more money gets pushed into hedge funds, private equity, real estate, and commodities. Astonishingly, these alternative asset types now comprise a greater share of S&L pension assets (27%) than fixed income (24%). (See the third and fourth charts below.)
• Complicating the overall negative trend is the growing disparity between well-funded states, like South Dakota, Tennessee, and Wisconsin, and poorly-funded states with deteriorating balances, like Illinois, Kentucky, and New Jersey. In the best three, the average employer contribution rate is 8%. In the worst three, it is 32% and rising, even while the funding ratio in these states lingers below 40%. Such is the variety and multiplicity of individual plans--there are roughly 5,500 of them--that no one knows which ones will first get into big trouble. Most likely, many will go at once during the next economic or financial crisis. And most likely, it will feature plans in the 24 states that are less than 70% officially funded. (See remaining charts.)
• So who will get hurt? In extremis, the retirees themselves may get hurt--since in an emergency S&L governments can and will cut benefits if total pension outlays threaten to choke off basic public services to citizens. But don't expect much savings from this source. Inevitably, most of the pain will be inflicted on the younger generations who reside in the state, county, or city. S&L employees will get paid less so that agencies can afford the huge payroll contribution fees needed to amortize past liabilities. Or local residents will get fewer services. Or be asked to pay higher taxes. (Meanwhile, the pensioners themselves are free to live somewhere else--like maybe a sunbelt state with no funding issues.)
• We can already see some of this happening in California, where CalPERS is now requiring schools to push up their pension contribution for teachers from 18% to 35% of payroll by 2021. And new projections show that the rate will have to rise further to 38% and stay there into the 2040s. Why? To pay unfunded teacher pension liabilities. If you're a teacher, this may squeeze your take-home pay. If you're a parent, this may dim your view of what you're getting back from your taxes.
• In the most underfunded states, I do see a tendency to defer endlessly the much-higher contribution rates needed to achieve full solvency. Some think tanks are justifying this by saying, well, so long as these plans never actually run out of money, they don't really ever need to re-achieve full funding. The idea, I guess, is that these states can adopt a sort of pay-as-you-go funding arrangement (like Social Security).
• But there's a problem with this sort of "paygo" approach. Yes, it lightens the near-term tax bill. But it also generates a lower long-term rate of return on contributions than a funded plan, and--more seriously--it makes the system fatally vulnerable to population flight. At some point, even younger residents will see no point in sticking around in states where they're getting a worse deal and their taxes are going to pay for past liabilities. Especially since they will be paying for a generous and guaranteed menu of "defined benefits" to Boomers that almost no Millennial or Xer can expect to receive at the end of their own private-sector employment. 
• Indeed, this population flight may already be happening. (See "The 'Superstar' Metro May Be Fading.") Michigan may (with great effort) bail out Detroit. But who's going to bail out New Jersey or Connecticut or (even) California? The Economist calls Illinois "America's Greece." Care to see a Puerto-Rico style triage in Kentucky? There's an irony here. When stuff happens, the same states that have always proudly asserted their constitutional independence from any sort of federally mandated accounting standards will no doubt be pounding on the door of Congress, begging for mercy.

• A new report predicts that by 2025, the University of Chicago will be the first U.S. university to cost six figures a year. Thanks to tuition discounting, few students are paying full freight—but the sight of such high sticker prices threatens to discourage prospective students from even applying. (The Hechinger Report)
• NH: Here we go again on high tuition and student debt. When will Millennials and their parents learn that there's a trade off: Incurring massive debt to go to the best-name school may not in fact be a good deal--compared to getting an equally good (if not better) education at a lesser-known school, reducing your debt, and proving your abilities on the job.
• A bit of clarification about the cost number. First, Hechinger adds up the total costs expected from a first-year undergraduate: tuition, fees, books, room and board, and other normal expenses. In 2020-21, at the University of Chicago, this total is expected to be $84,888. By the fall of 2025, Hechinger expects it to exceed $100,000. Three other colleges--Harvey Mudd College, Columbia University, and Southern Methodist University--are projected to cost almost as much. And sure, the other Ivies, near-Ivies, and exclusive privates will not be far behind them.
• Second, and very importantly, this figure is a sticker price. Only 37% of student actually pay this price. Most pay much less. (You can use the tool and find out here for yourself.) A student whose family income is under $75K pays less than $5,000. Even those students with no apparent financial need (family income over $110K) pay on average only $46,000.
• It is widely supposed that this "discounting" of tuition is how Chicago and other pricey schools make attendance affordable for minorities and low-income students. Yes, it can help make that possible. But that's not its main purpose. (The percentage of Chicago undergrads receiving means-tested Pell grants actually fell from 15% in 2010 to 10% in 2016.)
• No, its main purpose is to implement perfect price discrimination, scoop out all the consumer surplus under the demand curve, and maximize the university's permanent revenue. Armed with each student's FAFSA number (indicating the family's ability to pay), alumni status (legacies are always good for donations), and SAT scores (to keep USNews "excellence" ratings high), college admissions officers are perfectly equipped to "personalize" the price for each new offeree in a way that keeps the university flush, now and in the future. What's more, the high sticker price (even if few pay it) serves as a status marker, further increasing the college's appeal. As Alia Wong observes in The Atlantic, "the gap between sticker and net price is growing at colleges across the country."
• If these were private businesses, the FTC would have intervened long ago to forbid such blatant price discrimination. But because these are nonprofits and because the ostensible goal is helping the less fortunate, policy makers let it go. Indeed, political leaders praise academia for this sort of self-serving manipulation. Big Pharma does much the same thing with its massive nonprofits whose purpose is to make expensive drugs "affordable" to low-income patients--or simply to relieve patients of their copayments. That's a massive bottom-line boost for firms that experience near-zero variable costs. (See "Big Pharma's Generosity Helps Their Bottom Line.")
• Some Gen-X parents may even imagine that they are getting a "special deal." No, they're not. It's just like "personalized pricing" at Safeway: The purpose is not to give more money back to you. The purpose of all price discrimination is to take more money away from you.
• The most delicious part of this story is that the University of Chicago is leading the way. Who better understands, in mathematical detail, how to confiscate consumer surplus than the heirs of Friedman, Coase, Director, Levi, Stigler, and Epstein? It was their "law and economics" curriculum that made Chicago famous.
• A further twist, however, is that the rising generation of academics who currently teach at Chicago are becoming big advocates of renewed antitrust enforcement. Their arguments are no doubt in line with the frustrations of most American families (see “High Cost of Higher Education Can Put Families Into Impossible Binds”). They may even be somewhat supportive of the progressive agenda on college debt and antitrust being advanced by Elizabeth Warren and Bernie Sanders. Millennials certainly seem on board (see “Millennials Still Love Bernie Sanders”). The 2020 election may in an interesting fork-in-the-road for the pricing policies of big-name schools.

• 13- to 16-year-olds in the U.S. are more likely to use TikTok (42%) than Facebook (41%), according to new data from Morning Consult. Though TikTok still trails Instagram and Snapchat in popularity, its foothold among teens is impressive given that the app launched outside China just two years ago. (Axios)
• NH: The Morning Consult's poll on social media apps provides a window into the differences within the Millennial and Homeland Generations. No surprise, the youngest Millennials, along with the oldest Homelanders, are using TikTok instead of Facebook far more than older young people (see also “TikTok App a Hit Among Homelanders”). Late-wave Millennials grew up thinking of Facebook as a leaky older-person's platform. They find TikTok’s expressive and conversational environment to be more in line with their peer personality. First-wave Millennials remember when Facebook was new and exciting. Although they may not like the website (no generation really loves Facebook), they still have a connection with its beginnings.
• Let's see whether TikTok can keep up its loyal fan base or if it will stumble over emerging security issues. For the last few years, Facebook has been the public face of social media privacy gone wrong. But now Congress has started to look with equal skepticism at TikTok and its Chinese parent company ByteDance. After U.S. officials reported that TikTok could be subject to Chinese censorship, location tracking, and election meddling, Senators Chuck Schumer and Tom Cotton asked intelligence agencies to determine whether the app is a threat to national security. Although ByteDance strongly denies that TikTok is subject to direction by the Chinese government, it's hard for any Chinese company to point to a clear rule-of-law boundary between what the PRC wants and what Chinese firms must do. (Huawei clearly hasn't had much luck with this.)
• TikTok's perceived high level of privacy is important to both tweens and teens--to say nothing of their parents. If this perception is damaged, many of the app's users could disappear. And the Facebook and Instagram clones of TikTok (named Lasso and Reels, respectively) will be ready to pounce.

• If current depopulation trends continue, nearly half of the municipalities in Japan are at risk of disappearing by 2040. Rapidly aging rural towns in Japan are fighting to stay on the map by mounting tourism campaigns and recruiting foreign residents. (CityLab)
• NH: It is well known that Japan has a long-term aging and depopulation challenge. I have often written about it. See, for example, “Japan Fertility Crash: Sharpest Drop in Births in 30 Years," “Japan’s Birth Rate Hits a New Low," and “Japanese Women Are Not Rushing to the Altar."
• What is less well known is that rural areas are being hit much earlier by aging and depopulation than urban centers. Major cities like Tokyo continue to experience such a large inflow of young adults that overcrowding remains a policy challenge. In 2018 the city government even considered a proposal to pay people to move out. Many rural areas, on the other hand, are experiencing a death-spiral of emigration by the young and a dramatic aging of the remaining residents. Forests and wild animals are reappearing in many prefectures where they have not been seen in centuries. (See “Japan Deals With Severe Population Decline and Rural Flight.")
• In some small towns, local leaders are starting PR campaigns to encourage tourism--both from abroad and from the cities. They are ramping up social services for young families to encourage more births. And In one remarkable instance, Izumo City has initiated a marketing blitz in Brazil to entice the large Japanese diaspora there to return "home." The campaign has been so successful that Izumo has been forced to expand its Portuguese-language services. The effort is notable because, as recently as the Great Recession, Japan's official policy was to deny permanent migration to Brazilian guest workers. While at a national level Japan is expanding its guest-worker program (mainly for Asians), the government's official policy is still to discourage new citizenship (see “Japan Needs Workers and They’re Bringing in Foreigners”).
• The share of Americans ages 18 to 44 who have ever lived with an unmarried romantic partner (59%) now exceeds the share who have ever been married (50%). Adults under 30 are almost twice as likely to have cohabited as they are to have married, but the largest share (48%) have done neither. (Pew Research Center)
• NH: We have often looked at why Millennials are putting off marriage--why they feel they aren't doing well enough economically; why they fear divorce; why their FOMO overcomes commitment; and why they can't find enough good men. (See “Are Finances Keeping Millennials from Marrying?”; “Marriage and Kids Not a Millennial Priority”; and "Millennial Women Just Can’t Find Enough Good Men.")
• One thing we haven't look at closely, though, is why Millennials cohabit before--or instead of--getting married. That's the focus of this Pew study.
• Here's a quick summary of what we know. First, unlike three or four decades ago, cohabiting is now considered broadly "acceptable" by all age brackets. Indeed, Americans in all age brackets are cohabiting more than they used to. (Boomers have been the big generational innovator here.) Second, most cohabiters (in all age brackets and ethnicities) have shared children in the household, even though cohabiters have lower fertility rates than married couples. Third, most cohabiters have only cohabited with one other person in their life. Finally, cohabitations are more fragile than marriages; that is, they break up more frequently.
• What motivates people to cohabit rather than marry? "Convenience" and "financially makes sense" are the main reasons. Marry rather than cohabit? "Love," "wanting to have children," and "wanting to make a commitment" are the main reasons. Not surprisingly, perhaps, married couples express higher levels of trust in each other--and communication with each other--than cohabiters. By a significant margin (53% to 46%) most Americans believe that society is better off if couples who want to stay together get married. A positive response is correlated with age and religious affiliation. Yet even a large share of Millennials under age 30 (45%) believe this.
• Over time, young adults' desire to get married eventually has not declined much. Their actual marriage rate has declined a lot more. This suggests that many Millennials regard cohabitation as a second-best option when economic or social barriers seem to make the first option, marriage, impossible. It's revealing that, of all cohabiters having a high-school education, only 28% see cohabitation as a "step toward marriage." But among college-grad cohabiters, 50% see it that way.

• It’s not just “Ok boomer”: Teens and young adults have taken to calling Gen Xers the “Karen Generation.” The name Karen is slang for the entitled, pushy mom who asks to speak with the manager—someone who "[stands] their ground and [acts] like everybody else is wrong and they’re always right." (BuzzFeed News)
  • NH: Boomers can sit this one out. No longer are the hordes of Millennials and Homelanders taking to TikTok and Twitter to declare “Ok boomer” (see “You’re OK Boomer”). Now they have a new target: Gen X. Referring to their Gen X parents as Karen, Homelanders are lampooning the Gen Xers' tendency to insist on defending their own life lessons when confronting this or that progressive idea favored by youth. Mindful of the archetypal affinity between Generation X and the Lost Generation, one YouTuber posted a video of a 1920s flapper version of Karen. 
  • Again, like I said about “Ok Boomer,” this seems like a rather mild dig by kids--where the animosity to older people is only implied, not embodied in the word itself. I mean, come on. Wouldn’t you rather your kids occasionally call you “Karen” than throw a party and wreck your house when you’re not home?
• Workers in their 20s to early 30s are much more likely than older workers to report having witnessed or experienced discrimination, including ageism and sexism, at the office. The generation gap in the new survey isn’t necessarily indicative of a rise in workplace harassment, but certainly reflects a rise in awareness and desire to speak up.(The Wall Street Journal)
• NH: When it comes to workplace "discrimination" (ageism, racism, and bias by sex and gender orientation), a Glassdoor and Harris poll found that Millennials are significantly more likely than older generations to say they have "experienced" it. This could mean either that they are witnessed it or have been victimized by it. (See the first chart below). For example, 52% of workers age 18-34 reported experiencing gender discrimination, while only 30% of those 55 and older reported the same thing.
• There is no question that Millennials are raising the standards on what should and should not be permitted in the workplace. We've covered this topic at some length in the context of #metoo. (See "After #Metoo, What's Next?" and "Generational Change Fuels Outrage in Hollywood.") According to one HR executive quoted by the WSJ, "the cultural violation line has moved." Part of the backstory here is that Millennials were more protected from abuse as children and were given higher expectations about how they should be treated later on. As a result, today's young adults do not just shrug off abuse that older generations, at the same age, would simply have regarded as "part of life."
• Older generations are by no means unsympathetic to this new Millennial sensibility. Most Americans of all ages feel that many forms of harassment are systemic and should not be permitted. On the other hand, more than young adults, older Americans sense that it is often very difficult to identify a practical dividing line between what is and is not acceptable. The WSJ reporter points out, for example, that Millennials are less able than older generations to distinguish between activities that are simply impolite or inadvisable and those that violate firm policy or are outright illegal.
• On all questions, the biggest single cohort divide was at age 44-45, which divides Gen X into two halves. To most questions, in fact, the responses of first-wave Xers don't really differ much from those of Boomers. We have consistently found these first-wave Xers (who were born in the 1960s and who came of age with Reagan) to be anti-PC and conspicuously retrograde on many progressive litmus tests. Sure, go ahead and call them "Karens" if you like.
• The question on LGBTQ discrimination revealed the largest young-old gap, no doubt because social attitudes about gender orientation have changed so recently. The Millennial sensitivity to ageism is interesting for another reason. Historically, "ageism" has nearly always been used to denote discrimination against older people. So are Millennials simply very sensitive to the mistreatment of Boomers? Or--more likely--are they redefining the term to refer to the dismissive or pejorative treatment of young people. You know, like when older people use the term snowflakes or avocado toast... or just Millennials. You'd better be careful. Even the mildest remark may come across as a "microaggression." But oops I did it again!

DID YOU KNOW?

Less Driving, More Drinking. With cars in more than 700 cities, Uber is now a fixture of urban life. Among the benefits of Uber and other ride-sharing services like Lyft is that they’ve made it easier for people to get home safely after a night of drinking. But according to a new study, the spread of ride-sharing may have also had a less salutary effect on drinkers: They’re less likely to drive drunk, but more likely to drink a lot. The study, which was conducted by economists at the University of Louisville and Georgia State University, found that in the two years after Uber began operating in U.S. cities, average alcohol consumption rose by 3%, binge drinking (four or five drinks in two hours) rose by 8%, and heavy drinking (three or more binge drinking incidents in a month) rose by 9%. The increases were even higher in cities without public transit. In these places, excessive drinking had actually been declining before Uber came to town.