Funding shortfalls for state and local pension funds are a key source of fiscal fragility in the United States.
Research by IMF economists indicates that government employee pension fund assets are significantly smaller than their rapidly growing liabilities.
A severe shock in the future could affect resources significantly, making fiscal adjustment necessary, the research indicates.
In the IMF working paper, Public Wealth in the United States, economists Fabien Gonguet and Klaus-Peter Hellwig analyse the evolution of the US public sector balance sheet between 1945 and 2016.
They conclude that the country faces “large fiscal adjustment needs” that will require policy changes in the long-term either to raise public revenues in order to keep social promises – or to cut in other areas.
“Under our baseline assumptions, we find that current fiscal policies in the US are not viable in the long-term,” write Gonguet and Hellwig.
“Under existing policies, current financial and non-financial assets combined with future tax revenues are not sufficient to fulfil all the promises made to constituents and creditors.
“To keep all of its explicit promises (for example, public pensions) without overburdening future generations, the government needs to change policies to either raise an additional 2.6% of GDP in revenue per year or reduce some of the implicit promises (for example health care, social security, education) to current generations.”
The authors say that taken as a whole, government employee pension fund assets are significantly smaller than their rapidly growing liabilities – with general government covering for the shortfall.
Federal pension benefit liabilities “far exceed” the value of assets held by the federal pension funds, and guarantees provided to the federal government pension funds have been shrinking since the early 1980s.
The funding status of state and local government pension funds has been volatile, and an aggregate current shortfall of state and local pension funds masks substantial heterogeneity in funding levels across states.
“In most cases, the funding status has deteriorated considerably since 2007, driven by large negative returns during the global financial crisis,” say the authors.
Gonguet and Hellwig conclude: “While the balance sheet of government-sponsored enterprises has shrunk and become less risky under federal conservatorship, funding shortfalls for state and local pension funds have emerged as a source of fiscal fragility.
“In the event of a severe shock, the paper estimates that balance sheet effects outside the realm of debt expose public sector net worth to a negative impact almost double in size to the expected accumulation of debt.”