The Wall Street Journal had a great article this weekend on the problem with pension funding for government employees at the state and local level. As people live longer and financial promises made years ago come due, cities and states are under increasing pressure to make sizeable contributions to pension plans to keep them afloat. This has two important ramifications for people working to take care of their own retirements.
First, investing in municipal bonds carries real risk. People are lead to believe that muni bonds carry similar risk to US Treasuries, but recent history suggests that is not true. Bankruptcies in Detroit, various California cities, Jefferson County, Alabama, etc have shown that muni investors often get pennies on the dollar when a bankruptcy is filed. While it is true that some muni bonds are insured against a loss, many are not. If you are invested in munis, or considering investing in munis, make sure you are buying insured bonds or be prepared for much higher levels of risk than the yield would imply. Even with insurance, you are counting on the credit quality and financial capability of the insurer to make you whole. We saw several bond insurers on the verge of collapse during the 2008/2009 credit collapse, so their solvency is not guaranteed.
Second, as a citizen and a taxpayer, you need to start paying more attention to your state/city finances. Large pension contributions are beginning to eat up significant chucks of municipal operating budgets. What this means is either services have to be cut, government worker and retiree benefits have to be cut or taxes have to be raised. No one wants to see police/fire services reduced and government employee unions aggressively fight to prevent pension cuts. That means, raising taxes is often the first, and easiest measure. In essence, many governments are deciding that hard working, middle class Americans need to pay more in property, income or sales tax to keep funding generous pensions fore retirees. As a citizen you need to be informed about what is happening with the finances of your locality.
This problem is likely to get a lot worse before it gets better. Promises were made to employees by politicians that had no hope of being kept. In many cases, the politicians didn’t care, assuming they would be out of office before the problems arose. The time has arrived though, or is beginning to arrive around the country. As an individual working to secure your own retirement, this issue needs to remain on your radar.
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