How Much Would a Fully Funded Pension System Cost?

June 24, 2011

The condition of state and local government defined benefit pension systems in the United States has received national attention in debates over government budgets.  Missing in the discussion has been an analysis of the revenue demands of the pension promises to public employees.  If states and local governments are going to pay pensions under current policies, how much more revenue will need to be devoted to these systems?  Robert Novy-Marx of the University of Rochester and Joshua D. Rauh of Northwestern University attempt to fill that gap by providing calculations of the increases in contributions that would be required to achieve fully funded pension systems.

  • Without policy changes, contributions to state and local pension systems in the United States would have to immediately increase by a factor of 2.5, reaching 14.2 percent of the total own-revenue generated by state and local governments (taxes, fees and charges).
  • This represents a tax increase of $1,398 per U.S. household per year, above and beyond revenue generated by expected economic growth.
  • In 13 states the necessary increases are more than $1,500 per household per year, and in five states they are more than $2,000 per household per year.
  • Shifting all new employees onto defined contribution plans and Social Security still leaves required increases at an average of $1,223 per household.
  • Even with a hard freeze of all benefits at today's levels, contributions still have to rise by more than $800 per U.S. household to achieve full funding in 30 years.

Source: Robert Novy-Marx and Joshua D. Rauh, "The Revenue Demands of Public Employee Pension Promises," Northwestern University, June 2011.

 

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