Cities, towns and villages from across the country are experiencing revenue shortfalls and increased expenditures as they respond to the COVID-19 pandemic and the accompanying recession. With limited financial resources, municipalities are working hard to continue to fulfill their pension obligations as funding levels have not fully recovered from the 2007-2009 financial crisis – the average funding ratio decreased from 86 percent in 2007 to 72 percent in 2019. As cities await much-needed direct federal relief, this brief provides policy recommendations for local leaders to successfully navigate the current financial crisis.
Recommendation #1 – Implement mandatory stress testing as required by new actuarial standards.
According to Actuarial Standard of Practice No. 51, stress testing is a mandatory tool meant to assess the risk and vulnerability of a pension system. It has been used by municipalities to measure the potential impact of reforms in order to best plan for long-term resilience. As cities face tough decisions with limited financial resources as a result of the COVID-19 pandemic, utilizing stress testing will be a key step for local leaders as they work to maintain healthy pension systems.
Recommendation #2 – Fund at sufficient contribution levels to reduce unfunded pension obligations.
Maintaining underfunded pension plans can create a downward spiral as cities accumulate more debt which impacts their ability to provide basic services to their residents. Conversely, cities with higher funded ratios were better able to weather the 2007-2009 financial crisis. Making sufficient contributions to reduce unfunded pension liabilities is an effective strategy for cities to pursue in order to have a healthy pension system.
Recommendation #3 – Develop robust cost-sharing mechanisms and benefit design features.
Given the volatility of market investments, especially during this pandemic, implementing robust cost-sharing mechanisms can provide cities with the opportunity to share risk between employers, employees and retirees. This arrangement allows for a higher degree of predictability for local governments and can lead to higher overall funding levels.
These strategic recommendations provide a pathway for cities to better assess the healthiness of their pension systems and develop tailored solutions based on that assessment to ensure that they are able to maintain their benefit contributions to retirees while still meeting the current needs of residents. Given the financial loss that many cities experienced as a result of this pandemic-induced recession, cities still desperately need federal relief from the new administration.
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