Growing Deficits Threaten Pensions

Public pensions have broad leeway in their accounting methods because, unlike their counterparts in the private sector, they have no federal oversight. Private pension funds were forced by regulators starting a generation ago to use far more conservative forecasts in their pension calculations and follow uniform guidelines set by the federal government. The move toward stricter regulation provided a clearer picture of pension costs, and many corporations are now switching their employees to 401(k) retirement plans, which offer far less generous benefits.

For public pension funds, a nonprofit body called the Governmental Accounting Standards Board sets guidelines but has no power to enforce them and little incentive to confront the states and localities that finance its budget. So some states, pension analysts said, have adopted accounting techniques motivated more by politics than prudent financial considerations.

Virginia, for instance, has been using an accounting method since 2005 that allowed the state to contribute about $300 million less into its pension funds each year than what its own pension board has recommended. Some pension actuaries called this "highly unusual" and "troubling."

Maryland adopted a funding formula in 2002 that prompted a sharp drop in pension funding levels, ignoring repeated requests by the state's pension board to amend this approach. In 2006, even as funding levels dropped, the state significantly raised the retirement benefits promised to teachers and other public employees.

The District's pension funds are among the healthiest in the region, according to figures provided by the governments. The District has determined that its pension liability is $4 billion this year, which means the funds are slightly overfunded. But if the District used more conservative methods common in the private sector for projecting assets and costs, it could instead face a shortfall of several billion dollars, analysts said.

In Montgomery County, which has promised to pay $3 billion in health-care benefits to retirees, government officials accepted the advice of consultants who urged the county to nearly quadruple the amount it sets aside to cover this commitment. But the county council voted to delay this full funding for five years. Now the council, which claims wide legal latitude, is considering whether to postpone it for another three years.

"The biggest issue is the lack of standards in regards to government pensions," said Timothy L. Firestine, Chief Administrative Officer in Montgomery County. "You can make up your assumptions as you go."

Of all the assumptions, among the most fateful is the figure chosen for how much money the fund will make on its investments. The better these investments fare, the more flush is the fund. And if a government projects a high rate of return, there is less need to tap taxpayer money to finance a shortfall.

Most public pension funds limit their contributions by assuming their investments will grow between 7.5 percent and 8.5 percent a year.

"While anything is possible, does anyone really believe this is the most likely outcome?" Buffett wrote in the most recent annual report his firm, Berkshire Hathaway. Buffett is also a Washington Post Co. director.

A growing number of leading investors are warning that the return rates used by state and local governments are unreasonably optimistic. Buffett, for one, has pointed out that over the 20th century -- when the Dow Jones Industrial Average soared from 60 points to 13,000 -- the stock market produced a 5.3 percent annual return for investors. Over the next century, the Dow would have to explode to 2.4 million to produce a similar rate of return.

Yet even that would be less than the rate of return commonly projected by public pension funds.