Last week, this column addressed the dilemma facing the California Public Employees’ Retirement System (CalPERS) and the California California State Teachers Retirement System (CalSTRS), California’s biggest public pension retirement funds, involving “Environmental, Social, and Governance” principles.
Depending on how it is interpreted, “ESG investing” can simply mean evaluating investments in a broad manner “to assess potential risks.”
Where ESG principles get problematic is when they are used to push a progressive political agenda at the expense of maximizing returns. This occurs when activists seek prohibitions against investing in fossil fuels, firearms, or in companies located in nations that have met with their disfavor for political or policy reasons, irrespective of the positive performance of the companies.
For current retirees and employees, there is little opportunity to influence the investment decisions of CalPERS and STRS. Some of the board members are elected by participants in the system but most are subject to the political pressures of the day.
What politicians in California and elsewhere ignore is a simple way to avoid the entire ESG quagmire as well as many other problems inherent in California’s “defined benefit” retirement plans. That is to begin shifting to “defined contribution” plans that reduce the risks to the state and taxpayers and which frequently produce better returns for the employees. In defined contribution plans, the employee’s benefit is equal to his or her own contributions, plus those of the employer, plus whatever earnings the investments accrue.
Defined contribution plans come in many flavors, but they have one common element important to taxpayers. That is, the financial obligation of the employer (paid for with taxpayer dollars) is complete at the end of each pay period.
Another big advantage to defined contribution plans is their portability, especially in a changing workforce where employees change jobs frequently.
In a comprehensive policy paper published in 2020 by the Reason Foundation, “Defined Contribution Plans: Best Practices in Design and Utilization,” the authors contend that, “When structured properly, [defined contribution] retirement plans—plans with individually controlled investment accounts with contributions made by both employers and employees—can offer governments an approach to retirement plan design that garners retirement security for employees while actively working. Defined contribution plans accomplish this by modernizing the retirement option set and managing employers’ financial risks that are inherent in traditional pension plans.”
In California, the political power of public-sector labor renders the full adoption of defined contribution plans to replace CalPERS and CalSTERs extremely unlikely. In 2005, progressive outrage at then-Gov. Arnold Schwarzenegger forced him to drop his proposal before it even got started. But now, with economic realities setting in, it might stand a better chance, especially if offered only to new hires or as part of a “hybrid” system of combined defined benefit and defined contribution elements.
Defined contribution plans are becoming increasingly popular in other jurisdictions. Both Michigan and Alaska offer state employees defined contribution plans only. For the sake of the state’s financial health, and to limit the risks to taxpayers, the shift to a defined contribution plan should be the cornerstone of California’s public employee retirement systems. It’s time to take the off-ramp from defined benefit pension plans.
Jon Coupal is president of the Howard Jarvis Taxpayers Association.
For political observers, the debate between conservative and progressive politicians over the impact of various policies can be entertaining as well as enlightening. Of course, politicians tend to either stretch the truth or cherry-pick various statistics to support their positions.
Take, for example, arguments related to poverty. According to the U.S. Census Bureau, the official poverty rate compares income to a poverty threshold that is adjusted by family composition. But the Supplemental Poverty Measure (SPM), first released in 2011 and produced with support from the U.S. Bureau of Labor Statistics (BLS), modifies the official poverty measure by including the value of government programs for low-income families. The SPM also accounts for geographic variation, such as cost of living, in poverty thresholds.
Which of the two methods of calculating poverty is used makes a huge difference for California. Under the unadjusted poverty rate, California ranks right in the middle, 25th out of 50. But when cost of living is taken into account, California ranks dead last, 50th out of 50.
The disparity among comparative metrics is so pervasive it is difficult to discern the truth about which states perform better than others. But the American Legislative Exchange Council (ALEC) produces an annual report entitled “Rich States, Poor States,” which ranks the economic competitiveness of states based on fifteen categories. It is intended as a resource for state lawmakers and other policy leaders for critical decision making.
Hardcore California haters might believe that the Golden State ranks worst in all possible measurements, but that simply isn’t true. What is true, however, is that California ranks poorly in most of the metrics and that the trends for the future are not encouraging. Of the fifteen categories, here are some of the more salient.
Income taxes: California ranks 48th worst with the highest state marginal tax rate in the nation. But because some local governments in other states impose income taxes – California does not – the state dodged that dead last position. Nonetheless, California did rank last (50th) in the progressivity of its income tax structure.
Property taxes: Notwithstanding the protections of Proposition 13, California ranked 28th in property tax burdens. The methodology used by “Rich States, Poor States” measured revenues from state and local property taxes per $1,000 of personal income using the latest available Census Bureau data. (Interestingly, the Tax Foundation – another reliable source for data – ranked California 14th out of 50 states in per capita property tax collections. Either way, both measurements belie the myth that California is a low property tax state).
Sales Tax Burden: For Californians, the ranking of sales tax burden is a surprisingly reasonable 23rd. Although California has the highest state sales tax rate in America at 7.25%, with local add-ons that push the rate over 10% in many jurisdictions, the methodology used by “Rich States, Poor States” moderates that ranking. Specifically, rather than relying on the tax rate, they look at sales tax revenues per $1,000 of personal income. One could quibble with this methodology given that California has a lot of super wealthy individuals which could disguise the true impact on the middle class.
Estate Tax: Under the “good news” category, California ranks 1st in Estate Tax burden. This is not surprising given that we don’t have an estate tax. But rather than thank our political leaders, thank statewide voters who passed Proposition 6 in 1982 repealing the estate tax. Moreover, while a number-one rank looks good, California shares that rank with 33 other states, all of which have no estate tax.
Debt Service as a Share of Tax Revenue: California ranks poorly – 39th out of 50 – in its debt service ratio, measuring the interest paid on state and local debt as a percentage of state and local total tax revenue. Because this information comes from 2020 U.S. Census Bureau data, the most recent available, it won’t take into account more recent bond measures approved in California nor a potential downturn in revenue which would increase the ratio even if no additional debt is assumed.
Other measures: Additional metrics of concern to the economic health of California include the state’s tort liability system (48th); workers compensation costs (48th); and, Cumulative Domestic Migration, 2012 – 2021, (49th). On the plus side is a measure of the effectiveness of Tax and Expenditure Limitations (3rd). For California, this includes the iconic Proposition 13 (1978); the Gann Spending Limit (1979); and Proposition 218, the Right to Vote on Taxes Act (1996). Moreover, California voters will have the opportunity to improve this metric with the passage of the Taxpayer Protection and Government Accountability Act in November of 2024.
When all the metrics are considered, “Rich States, Poor States” concludes that California’s overall ranking is a dismal 45th out of 50. Even for policy and political leaders who quibble with ALEC’s methodology, or its choice of what categories to measure, “Rich States, Poor States” is a valuable resource to guide them toward greater economic prosperity.
Jon Coupal is president of the Howard Jarvis Taxpayers Association.v