Thursday, May 16, 2019

Mayor Steinberg's Self-Managed Pension Bond Proposal

Sacramento Mayor Darrel Steinberg has recently proposed issuing bonds (long-term debt) as a mechanism to protect much of the revenue from a recently passed sales tax hike from going to employee compensation, primarily the City's rapidly growing pension costs.     

It's a bold and very risky strategy. 

It is not unusual for Cities to turn to risky bond strategies when pension obligations squeeze their budget, but Steinberg's approach to the bonding is very unusual.  Typically, city issued bonds to deal with pension costs take the form of pension obligation bonds - where cities issue large amounts of municipal debt and deposit the proceeds in their pension fund, such as CalPers, which invests the money to pay future pensions.  Pension bonds are essentially a bet that the investments made by the pension fund will grow faster than the interest rate on the bonds.  Borrowing money to invest in the markets is a very risky strategy.  The outcome often comes down to market timing luck.  Sometimes the bets succeed and sometimes pension bonds fail in a big way - like when Stockton issued over $100 million in pension bonds in 2007, contributing significantly to its 2012 municipal bankruptcy. 

Mayor Steinberg is not proposing a pension bond.  He wouldn't give the proceeds to CalPers to invest.  Instead, he would use the bonds to solve the city's long-term pension/budget ills by making investments in the City that he argues would grow the tax base enough to both pay the on-going debt service of the bonds and the Calpers debt.  Rather than gamble on the markets, he would gamble on his (and the City Council's) acumen in making investments in "inclusive economic growth" that would increase community prosperity and thus increase long-term tax revenue for the City. 

I am calling the Mayor's plan a self-managed pension bond since the budget logic is similar.  Rather than rely on outside investment managers, he is just putting himself in charge of a committee of investing up to $400 million in bond proceeds to achieve his civic and budget goals.  He is arguing that he should be in charge of the second half-cent of sales tax revenue, even borrowing so the revenues beyond his term can be spent/invested today, because it would not exist if not for his idea and push to go for the larger tax increase.  He believes he and the city council will make the right investments today that "change the economic arc of the City."

Below are some quotes from when the Mayor put forward his vision a few weeks ago for how to spend the second half cent of the Measure U sales tax,

By the end of the five-year budget forecast, the city will owe CalPERS an additional $39 million a year to pay for pension obligations for existing city employees.  We are also at the beginning of collective bargaining for nearly all of our city employees. Assuming modest wage increases, and we should always treat our employees with respect and real support, the additional outlay for the city will be at least $15-$20 million per year.
“These numbers are easily verified. Add them together – the pension obligation and the low end of the salary increases -- and they total at least $54 million. ...“The second half cent equals $50 million. If we keep the second half cent in the general fund, every penny will go to pension and salaries.
I will argue confidently throughout these next weeks that if I had not laid out a clear, inclusive economic agenda for the city in my first years as mayor, the city would have sought only to renew the original Measure U at half a cent, so there would not have been a second half cent to consider for pensions, or salaries, or basic services...
“Since we pass only one budget at a time, and you cannot bind future city councils, there is only one way I know of to guarantee that significant resources will be dedicated long-term to the promise we made to our voters and to our neighborhoods. I will ask the treasurer to come back over the next weeks with a proposal to securitize $25 million a year from the second half cent. A commitment of $25 million a year for 25 years would allow us to create a capital equity fund of more than $400 million.