New Research: Why is the bill for public employees a surprise?

A new working paper is on our website today, authored by Roman Hardgrave and myself. We explore the cost of public employees facing two New Jersey municipalities: Englewood Cliffs and Garfield.

The motivating question is this: why are rising costs for public worker benefits such a surprise to so many state and local governments? In addition to the core problem facing all plans: the misvaluation of pension liabilities based on flawed discount rate assumptions (and the practice of asset smoothing), there are things unique to individual state and local governments. In the case of New Jersey, pension policy is set by the state government, as are the accounting guidelines used by local governments (They do not use GAAP). This had led to a tangle of accounting assumptions that have had the effect of (temporarily) lowering the annual bill. Costs were pushed forward to become a policy problem for today.

While these municipalities report the total cost for public employee compensation as requiring about half of their budgets, when fully accounting for costs, public employee compensation including unfunded liabilities for earned benefits rises to about 86 percent of these budgets. This is an unpleasant surprise in a state with high property taxes and it is certain to make budgeting more challenging in the coming years for both the state and its many municipal governments.