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Nightmare In Deep Ellum: How Pension Obligation Bonds Ruined Dallas Employees’ Retirement Dreams

Friday, October 28, 2016 12:41
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(Before It's News)

Like the victims in any good horror film, officials in Dallas, Texas, find themselves in a situtation that was entirely avoidable—if only they’d realized it before it was too late.

In 2005, Dallas issued a $500 million bond that was supposed to plug the leaks in its police and fire pension system.

Now, just more than a decade later, the city is scrambling to prevent a “run on the bank” that’s threatening to bankrupt the pension system before 2028. By one count, more than $200 million was withdrawn from the system in less than six weeks as Dallas’ police and firefighters are making a run for it—yanking their investments out of the system that’s teetering on the edge of collapse.

That makes Dallas the latest example of why cities and states facing huge piles of pension debt should steer clear of pension obligation bonds, or POBs, which usually do more harm than good.

In Dallas, the story goes like this: the city sold $535 million in bonds to refill the Dallas Police and Fire City Pension Fund. In essence, that moved the debt from one pile—the pension system—to another pile—the city’s municipal debt obligations, in the hope that payments on that debt would be less, in the long term, than the cost of the pension system. It was a risky move, like “taking $535 million and throwing it on the dice table,” said city council member Mitchell Rasansky at the time.

With the pension problem supposedly “fixed” by the POB, Dallas politicians went back to their old ways and continued underfunding the pension system, allowing the debt to grow again. Dallas hasn’t fully funded the pension system since 2009, and shortchanged it by $14 million this year, according to the Dallas Morning News. Now, an immediate infusion of $600 million—equal to 20 cents of every dollar the city spends in its current budget—to fix the city’s pension problem, members of the pension board told the city council in May.

Dallas isn’t the first city to discover the hidden horror of POBs. It’s another sequel in a long-running series, with the victims piling up.

Stockton, California, sold $125 million in POBs in 2007. Five years later, the city declared bankruptcy and claimed the decision to issue the bonds was partially responsible. Detroit issued $1.4 billion in POBs in 2005 to avoid increasing contributions to the pension fund or cutting employees’ benefits. When the city declared bankruptcy in 2013, it also blamed the decision to sell pension bonds.

Even when they don’t drive cities to bankruptcy, POBs can be bad news. Philadelphia used a $1.3 billion pension obligation bond sale in the 1990s to shore-up its municipal pension system. Soon after, the city relapsed on pension payments and ended up with a deficit that was as large as it had been before the bonds entered the equation. The city then was faced with the debt to pay on the bonds, in addition to the regular pension debt.

In theory, POBs can work if—and it’s a big “if”—politicians suddenly discover fiscal responsibility and make all the necessary future payments to both the pension fund and the bonded debt.

In reality, POBs are fraught with political risk way because they make pension funds appear to be in better shape than they actually are. By papering over the underlying problems in the system—in Dallas, those problems included rules that allowed police and firefighters to collect pension benefits while they worked other jobs—all you’ve really done is shift the debt from the pension fund to the bonds.

A 2013 study from the Center for Retirement Research at Boston College concluded that it was hard to find examples where pension obligation bonds worked, because they are usually undertaken by governments in poor financial straits and unable to shoulder the investment risk.

Credit ratings agencies like Moody’s—which recently downgraded Dallas because of all the debt in the city’s pension systems—generally warn against using pension obligation bonds because of the high levels of financial and political risk that come with them.

Luckily, some policymakers are starting to get the message. In Alaska, Gov. Bill Walker called off a plan to sell $3.3 billion in pension obligation bonds this week, citing a lack of support from members of the state legislature.

Walker told Reuters that he still favored the POB idea, but that members of the Senate Finance Committee talked him out of it because they worried about the consequences of taking on more debt.

Another thing about good horror movie franchises: they never seem to run out of potential victims.

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