How did we get here?
According to the Dec. 8, 2020, testimony of Mr. Austin Nibbs, chief executive officer of the Government Employees’ Retirement System before the 33rd Legislature on Bill 33-0446, GERS currently has an unfunded pension liability of $5.3 billion and a funding ratio of 11.3%. The standard funding ratio for a healthy pension fund is 80%.
The pension fund’s precarious position is because benefits have been exceeding total contributions and investment returns minus administrative costs for many years, and political will has been lacking to take corrective action to stabilize the fund and make it actuarially sound.
The combination of the central government not paying its actuarially determined employer contributions (ADEC) in full for more than three decades, missed opportunities to float bonds directly benefiting GERS when the government was creditworthy, the poor performance of some loans made by the fund, and very generous provisions for early retirement has gotten the pension fund to this juncture.
Currently, the fund’s sponsor owes the pension system $1.9 billion and has a below investment grade credit rating and no effective access to capital markets. The pension fund is liquating financial assets to the tune of $120 million each year to help make payments to about 8,377 active retirees as of Nov. 30, 2020.
As of Oct. 31, 2020, the trust fund had $448 million in liquid assets at market value and $58 million in real estate property. The more assets are liquidated, the lesser returns can be earned in the investment portfolio. Eventually, when all liquid assets are exhausted, the pension fund would have to revert to a pay-as-you-go system, with benefit payments having to be financed solely by employer and employee contributions received. This would imply a severe reduction in benefit payments in out-years of 70% or more.
The GERS board announced a 42% cut in benefits starting in January 2021. The proposed cuts would have substantial negative impacts on retirees and the general economy.
Flawed securitization billThe executive branch proposed creating an Internal Matching Fund Securitization Corporation, a special purpose vehicle, to refinance rum cover bonds (Bill-33-0446) but the Senate voted down the measure as too risky. The refinancing was supposed to yield debt service savings of about $255 million in the first three years, which can be applied to GERS and other government infrastructure financing needs.
But it was not a simple refinance, say going from a 5.5% to 4% rate of interest. It involved shifting front payments to the back in order to create more debt service savings in the near term that could be used to forestall. A simple refinance would not have generated significant savings, such as what was being touted. Over the 20-year refinance life, the gross benefit to the V.I. government would have been $40 million to $50 million provided interest rates were favorable.
However, even with a 4% interest rate realization, GERS would have been forced to liquate assets in the order of $35 million or more per year for the next three years. After that period, the bond securitization would have yielded less savings, and after year 10, dissaving would have occurred.
The administration has essentially reintroduced the same bill, but with an interest cap to be considered in Tuesday’s (CQ: DEC. 29) Special Session. The interest rate cap is bound to diminish bondholder interest.
What now?The government of the Virgin Islands and GERS face three tough choices:
Option 1: Permit the cut on retiree benefits to occur. Without a new and independent infusion of approximately $150 million per year, the pension fund will not avoid a reduction in benefits. This option would visit financial hardships on many retirees, especially those without significant personal savings, other sources of income, or able to rely on relatives for financial assistance and transfers.
Reduced spending by retirees will reduce the circulation of monies in the economy, reduce overall consumption, reduce business turnover, reduce gross receipt tax and income tax revenues for the government, and ultimately reduce Gross Domestic Product all else equal.
Besides, unvested government employees will increasingly be tempted to quit government employment and withdraw contributions made to date. Lastly, the Virgin Islands government will not be readily able to attract well-qualified persons with critical skill sets to its employ giving a failed pension system.
Option 2: Transfer funds from the central government to prevent a reduction in benefits. In an environment of projected lower revenues for FY 21 due to the COVID recession, the central government would be hard pressed to maintain these transfers for any length of time. Fiscal imbalances would worsen for the central government.
Option 3: Pursue a comprehensive solution and develop a credible plan to stabilize GERS.
The traditional measures to rescue an unfunded defined benefit pension plan liability — generating more dedicated revenue streams, issuing pension obligation bonds, paying up outstanding ADEC payments, changing early retirement eligibility rules, buyouts, reducing benefits, raising contribution rates, etc.— may not work in this case.
Why? The ratio of active employees to retirees being less than one, makes a defined benefit plan unsustainable. Whereas the active retirees total 8,377, the active employees are 7,779 as of November 2020.
In addition to the unfavorable ratio, the demographic structure of the government workforce will only complicate matters in the medium term. Many government employees are above the age of 50 and closer to retirement than at the start or middle of career, meaning they will be soon be owed benefits.
Given the government’s perennial funding issues complicated now by a COVID recession, it may make more sense to stop trying to save a defined benefit pension plan and to try to convert immediately to a defined contribution plan. The government is currently appealing a judgement to pay outstanding debts to GERS.
Lastly, expecting a federal bailout may also be wishful thinking because unfunded municipal and state pension problems nationwide is a $1 trillion to $4 trillion dollar problem, depending on modeling assumptions.
Why would the federal government just assist the USVI when many other jurisdictions have similar problems?
No more over promising, no more underfunding, no more desperate stop-gap measures. It is time fully address the problems of GERS with effective and honest action.
— Mark Wenner, St. Thomas