The City of Evanston continues to tread water in the tsunami of pension-fund obligations. A nationally known economist with expertise is pensions told City Council members those obligations would be unsustainably large within two or three decades unless major steps are taken to address the issue.

“If we do nothing to correct this we will be paying $45 million annually in pension obligations in a few decades,” said Dr. Joshua Rauh of Northwestern University’s Kellogg School of Management

In addition, said Dr. Rauh, the government accounting standards (GASB) are flawed, masking the full pension liability. Although the total of unfunded liabilities looks like it is about $176 million, he said, that amount is really between $300 million and $400 million.” He added that part of the problem was that the municipalities, including Evanston, were making annual contributions to the pension funds based on the recommendations of actuaries, “not economists.”

In an e-mail to the RoundTable, Dr. Rauh wrote, “When the flawed government accounting standards are corrected to reflect valid financial logic, the unfunded liability for Evanston fire and police pensions is $305 million, and that is based only on current salary and service performed up until today. For 30,000 Evanston households, that amounts to over $10,000 per household.”

Further compounding the problem not just for the City of Evanston but for most municipalities in Illinois is the fact that, no matter what steps they take, Springfield in fact is in control.

Draconian Choices Ahead

As Dr. Rauh says he sees it, Evanston and other municipalities have limited but far-reaching policy choices to make: addressing what he terms the “pension legacy” – that is, the accrued liabilities – and, going forward, changing the way pensions are paid – making defined contributions rather than promising defined benefits, such as creating 401Ks for police and firefighters.

“A fiscally responsible pension policy would first stop the growth of that $10,000 per household,” Dr. Rauh told the RoundTable. Once that has been done, the City would “still need to deal with the $10,000 per household unfunded ‘legacy liability.’

“If Evanston had control of pension benefits for its public safety officials, this could be achieved by freezing defined benefits at current levels of salary and service, and compensating future work using a 401(k) type arrangement.”

Since that is not possible at this time, given Springfield’s control, Dr. Rauh suggests that the City lower its rate-of-return assumption to about 4 percent – the average treasury-bill yield – and tie further assumptions to that yield rate.

Doing that immediately, however, would cause such a substantial increase in the actuarially required contribution (ARC) and require either a massive tax increase or massive spending cuts, or both.

Alderman Ann Rainey, 8th Ward, said, “The reality is that even with a percent rate-of-return assumption, we charged taxpayers $15 million, and the General Fund levy was $40 million. I know that [with the higher assumptions on rate-of-return) we’re pushing [the problem] to our children, but unless we [implement] the long-rage policy changes, then [using the 4 percent assumption] is unthinkable and undoable.” The 4 percent assumption could be phased in over a few years using gradually lowered assumption rates, Dr Rauh said.

If the City finds a way to “halt the legacy liabilities,” Dr. Rauh said, it could also consider other, additional alternatives, such as renegotiating its other debts or borrowing to spread the legacy liability out over a long period of time. He says he believes that “substantial borrowing to pay the pensions would almost certainly have to be a feature of any active solution” but only if the City can find a way to halt the legacy liabilities.

To accomplish that most important measure – a step seemingly impossible now – the City would have to wresting control of pension obligations from the state legislature. With municipalities in charge of their own pension destiny, they could not only address but also possibly change the face of their pension obligations.

Mayor Elizabeth Tisdahl said that at some point there was a bill in the state legislature that would have allowed municipalities to control their pensions. She said she did not know what had happened to the bill “but the mayors aren’t even talking about it now.”

State Representative Robyn Gabel, who attended the City Council meeting, spoke with Dr. Rauh and a reporter. Asked about the bill the mayor had mentioned and whether she would support local control of pensions, Rep. Gabel said she did not know enough about the bill and “would look into it.”

To Be or Not to Be Fiscally Responsible

A third choice, Dr. Rauh said, offering what may have seemed like a somber tease, is deciding whether the City wishes to adopt a fiscally responsible policy. “We all saw what happened when we were fiscally responsible with our mortgages and others were not – we ended up bailing them out. … We have to ask ourselves, ‘Do we want to take action now and forge a financially responsible course?” If not, he said, the City could just keep going in the present direction, “hoping that someone will bail us out. We could get state and federal bailout money.”

“Are we too big to fail?” asked Mayor Tisdahl.

“The City of Chicago is too big to fail,” responded Dr. Rauh; “the City of Evanston may not be. … Chicago has been much less responsible than Evanston.”

He added, though, that Evanston “would still be better off taking a fiscally responsible route.”