Meredith Whitney, a banking analyst, predicted that there would be a wave of municipal defaults in December 2010. This could amount to hundreds of billions of US dollars. Meredith Whitney’s prediction of imminent problems was not realized, and municipal bonds were repurchased in 2011. Although there were some bankruptcy filings over the last month, none of them were major. We will find out if her prediction was correct or a bit premature. The fundamental financial problems she described for cities and states is certain to be true. Over the years, cities and states have overpromised benefits, pensions and other goodies to employees and they are just now starting to realize the futility of their actions (though they will always blame others).
California’s public employee pension fund is a good example of this flawed thinking. Calpers (California public employees’ retirement system) is the largest national pension system. It is often viewed as a benchmark for other retirement systems in the country. This agency provides health and pension benefits to over 1.6million California public employees, retirees and their families. Calpers has been accused of being both extremely corrupt and incompetent. In early 2011, several board members (including the former chief executive) were accused of insider trading and pressing subordinates to invest billions of dollars of pension money with politically-connected firms.
Calpers is severely underfunded. It has only 55-75% (depending upon the measure) of the money required for future expenses. A minimum of 80% is considered safe. Calpers’ March announcement that their future returns would be lower at 7.75% to 7.5% was a major news story. This is a decision that almost everyone with an IQ of over 20 considers unrealistic. The $233 billion system announced earlier this week a 1% return for 2012, ending June 30, 2012. The $233 billion system announced a 1% return for the year ended June 30, 2012.
You might be thinking that the low returns could mean that retirees will have to give up a portion of their generous pensions and benefits. This is California, ha ha, ha… Unions do not pay for mistakes because they believe that it is the taxpayers’ responsibility. State law mandates that any market losses caused by overpaid Calpers investors must paid out of the state and city coffers. Many of these funds have very little money. The governor is promising to reform the pension system… when pigs can fly and high-speed rail systems are in place. Because the public sector unions have so much political power, nothing material would occur even if it was desired by the governor. The shortfalls will be paid for by the taxpayers.
Mish’s Global Economic Trend Analysis created a series of charts that showed what would happen if Calpers had future annual returns of 2.5-5%. Calpers will lose more than $80 billion in the next ten year even if they have annual returns of 5%, which is a lot considering current economic conditions. This deficit almost doubles if the returns are 2.5% per year.
In some other states, the situation is worse but not as dire. Prepare to expand your wallet.
California mortgage buyer Adam Mcbrian He is a mortgage purchaser and buys deeds of trust and mortgage notes across the country.