Damn those compounding COLAs!

I am always highly suspicious of statements like this from the Bloomington Pantagraph:

COLA compounding effectively means the state’s pension tab roughly doubles every 20 years.

Doubles compared to what? I’m guessing compared to no cost-of-living adjustment, but that’s not a viable policy option. Just two weeks ago, only one other representative voted for Speaker Michael Madigan’s proposal to eliminate the COLA.

Of course, compounding is not the only way to calculate a COLA. There’s also simple. Under a simple scheme, a COLA is calculated on the original amount of the pension. If that’s $10,000 and it’s a 3 percent simple COLA, then each and every year, there is a $300 adjustment to the pension. A compounding COLA looks at the present amount of the pension. In the first year, that’s 3 percent of $10,000 — so $300. In the second year, that’s 3 percent of $10,300 — so $309. After 30 years, a “simple COLA” pension will be 22 percent less than a “compound COLA” pension.

Still, compounding is the best way to calculate a COLA. Remember, the intent of a COLA is to protect a pension from inflation. Just as inflation compounds, so should a COLA to ensure a pension has the same purchasing power over a person’s retirement.

And inflation isn’t the only thing to compound. So do the returns on the investments made by retirement systems. Whatever the rate of return, it is a return on the present value of the investment — not the original value. There’s no reason, then, that the assets of a pension fund shouldn’t be able to keep up with inflation (at the very least!) and accommodate a compounding COLA.

Rather than freak out over compounding COLAs, our energy would be better put to solving the real pension problems in Illinois — a reasonable and realistic plan to pay down our $96 billion in pension debt and a way to guarantee the General Assembly doesn’t shirk its responsibility to pay into pensions as it’s done in the past. That’s what got Illinois into this mess — not compounding COLAs.

My pension holiday interrupted by Michael Madigan

Last month I started a statistics class on edX, Harvard and MIT’s venture into online courses and learning. While the course is on, I’ll be taking a personal pension holiday and only blogging in response to really big or interesting stuff.

What qualifies as really big and really interesting? How about Speaker Michael Madigan floating four pension proposals, the most popular of which won the support of only five representatives? Yep, that qualifies!

Let’s start with the proposals:

Cuts to COLAs

Bill — House Amendment 1 to HB1154

Action — Would have terminated COLAs for all public pensioners

Status — Lost 2-66-0

Cost-of-living adjustments (or COLAs) are the scapegoat for Illinois’ pension problems. And the torch and pitchfork crowd continues to grow as more and more lawmakers, media, and reformers speak out. When it comes to totally eliminating COLAs, though, only Speaker Madigan (D-22) and State Representative Charles Jefferson (D-67) stepped out.

Bill — House Amendment 2 to HB1154

Action — Would have suspended COLAs for all public pensioners until systems are 80 percent funded

Status — Lost 5-62-0

Probably the most moderate of Speaker Madigan’s proposals, only four joined him in voting yea: State Representatives Frances Ann Hurley (D-35), Jefferson (D-67), Elaine Nekritz (D-57), and Michael Zalewski (D-23).

Raising the retirement age

Bill — House Amendment 1 to HB1165

Action — Would have raised retirement age from 62 to 67

Status — Lost 1-66-0

I actually think there is a case for raising the retirement age. The original Social Security Act of 1935 set the retirement age at 65. It is 66 today, and by 2022, will be 67. On average, both men and women are retiring later in life. Why not index the retirement age to life expectancy just as we (should) index COLAs to inflation? Regardless of the case for raising the retirement age, it’s not popular with the public. Not a surprise then that Speaker Madigan was the one and only vote for this amendment.

Upping employee contributions

Bill — House Amendment 1 to HB1166

Action — Would have increased employee contributions by 5 percent

Status — Lost 3-61-0

Employee contributions to their pensions will increase in whatever pension plan ultimately passes. Even unions have stated that their members are prepared to contribute an additional 2 percent of their salaries. 5 percent, though, was too far for all but three representatives: Speaker Madigan and State Representatives Jefferson (D-67) and Nekritz (D-57).

Why would Speaker Michael Madigan, considered the most powerful person in Illinois, put four pension proposals to a vote that could collectively only capture the support of five members (himself included)?

Testing

Some speculate that these votes were a test. Here’s Steve Brown, the speaker’s spokesperson:

The strategy is to test the gamut of ideas. Test every idea that’s out there. We’re still trying to find the plan that will have 60 votes here, 30 votes in the Senate, and the signature of the governor.

Here’s the thing. If the idea is to start piecing together a plan that will pass, why “test” harsh, controversial measures, each on its own, destined to fail? Why not “test” more moderate proposals to place an upper and lower bound on reform? And did anyone — let alone the speaker — think that any of these extreme measures had a chance?

Gamesmanship

The theory popular among Republicans (who refused to vote on any of the amendments) is that the Democrats are up to their old tricks. Here is State Representative Tom Cross, the Republican leader in the House:

What are we doing here today? Illinois politics at its finest. Another day of games. Another day of waiting. Another day of putting off the inevitable on an issue that is not going away.

Another Republican said that the votes “a political maneuver.” How is holding votes on a serious public policy issue a political ploy? As the Chicago Tribune explains, as long as pensions are a problem in Illinois, Republicans will blame Democrats, who control the executive and legislative branches (with a veto-proof majority in both the House And Senate). But, by holding votes on unpopular proposals, the Democrats get credit for introducing tough, significant cuts (which not a single, lonesome Republican supported) without any blowback from the reforms becoming the law of the land.

Resetting the goal posts

A theory I haven’t heard much talk about is one I think is common in advocacy. Giving play to such severe ideas makes more moderate proposals seem much more palatable — even when the more moderate proposal isn’t that much more moderate. Here’s how the Tribunedescribes another pension proposal in the wake of the Madigan amendments (emphasis mine):

A separate plan put forward by Nekritz and Cross, which has received the most support so far in the process, would include most of those elements but would not be as harsh. It would freeze cost-of-living increases for six years and require state workers to contribute 2 percent more toward the cost of pensions.

Whatever the reason for introducing and calling these amendments, when it comes to the speaker, we know that there was a reason.