March 16, 2007

A prominent member of the council that oversees investments by New Jersey’s pension funds said yesterday that the state has been vastly underestimating how much money it should have to pay for retirement benefits that have been promised to employees.

The council member, Douglas A. Love, said a more realistic calculation would show a $56 billion deficit — more than three times as much as the $18 billion included in the state’s most recent bond-offering statement.

Public employees’ unions and others have long accused New Jersey of mismanaging its pension funds. But in a presentation to the council, Mr. Love pointed to the use of what he said were inappropriate methods to calculate the value of the benefits promised.

“There is no financial enterprise in the world that is allowed to value its liabilities” the way New Jersey, and other public pension funds, measure the value of theirs, said Mr. Love, the chief investment officer for Ryan Labs Inc. in New York.

Mr. Love’s way of calculating the pension’s obligations is similar to the method a bank or an insurance company would use. New York City’s chief actuary, Robert C. North, has been using that method to show that the city’s pension deficit may be billions more than shown in official projections.

Nearly all public pension funds use traditional actuarial practices, which have been coming under increasing scrutiny in recent years from economists and some actuaries who say those practices vastly understate the benefits that have been promised.

Mr. Love’s new analysis comes at a time when Gov. Jon S. Corzine and the Legislature are struggling to close a $2 billion budget shortfall, trim the state’s more than $30 billion debt load and rein in property taxes.

Mr. Corzine has proposed studying the possibility of leasing state toll roads to help pay down state debt.

State workers are now wrangling over whether to ratify a tentative labor contract that would for the first time require that employees increase their contribution to the state pension fund, while also raising the retirement age for new employees to 60 from 55.

At the regular monthly meeting of the investment council, held at Rutgers University in New Brunswick, Mr. Love warned that if the state continued to underestimate the total value of the benefits its employees are earning, it will be unable to set aside enough money to cover those costs. Almost inevitably, future taxpayers would end up paying the cost of today’s government services.

He also asserted that New Jersey should get ready for new accounting rules that would probably require pensions to be measured using a method that is more accurate. At that point, he said, the credit rating agencies would no longer be satisfied with current numbers, which tend to shrink the amounts that state and local governments owe.

The ratings agencies would presumably be concerned if governments with a great deal of bond debt, like New Jersey, have also promised generous pensions without setting aside enough money to pay for them. New Jersey’s pension system is the ninth largest in the public sector, with assets of about $75 billion as of last September. 

Tom Vincz, a spokesman for the state treasurer’s office, which is responsible for the management of the pension funds, said Mr. Love was “highly regarded” and that his analysis “underscores the seriousness of New Jersey’s problems.”

“The unfunded liability is measured in several ways already, and all of the ways result in a profoundly large number,” Mr. Vincz said. “Whether it’s $24 billion or $34 billion or $54 billion — whatever the number is, it’s large, and it’s something that the administration is working to address on all fronts in both a short-term and long-term way.”

Mr. Love said that the benefits New Jersey’s public employees had already earned were worth $132 billion in current dollars — substantially more than the $91.6 billion they are reported to be worth in actuarial calculations. He stressed that this number included only what New Jersey’s public employees have earned up until now, and did not include projections of the benefits they will earn over the rest of their careers.

He also said that $132 billion might itself understate their benefits, because he had not been able to correct all of the actuarial distortions that he suspected were entrenched in New Jersey’s pension system. He said, for example, that he thought New Jersey might be underestimating people’s life spans.

Mr. Love also said New Jersey was wrong to call the $91.6 billion a “liability” in the first place. He said that it was an actuarial calculation that, technically speaking, should really be called a “funding target.

But because actuaries called it a liability, it had been erroneously called that by accountants in the state’s financial statements, he said, causing great confusion.

Virtually all public pension funds use the same terminology in their financial statements, causing some economists to offer predictions that there are large, unfunded obligations in towns, counties, states and other government bodies all across America.

The independent body that issues the accounting rules for these governments has expressed an interest in revising the rules for reporting pensions. But it moves very slowly.

Arthur Levitt Jr., the former chairman of the Securities and Exchange Commission, recently called for accounting rule-makers to reform their procedures. In a recent opinion column published in The Wall Street Journal, Mr. Levitt said the rule-makers had “fallen captive to constituent groups” that were “slowing their progress or even diverting their efforts to keep pace with critical issues.”

Mr. Love’s remarks were intended to explain to the council some fundamental changes that New Jersey has begun to make in the pension fund’s investments.

Already, the state’s division of investments has shifted some of its pension portfolio out of stocks, and into fixed-income instruments like bonds. In particular, the state is seeking fixed-income instruments with payment schedules tailored to match the amounts the pension must pay retirees in the future.

For the same reasons, the state is studying possible future investments by the pension fund in physical assets that will produce long-term streams of cash payments, like the New Jersey Turnpike.