Study: State Governments May Need Federal Bailout

A new study from a Northwestern University finance professor predicts that the country will need to enact a new federal bailout within the next decade in order to prevent the collapse not of Wall Street but of Trenton, Sacramento, Springfield and other state governments at risk of a meltdown from billions in unfunded pension liabilities, an issue that was reported on by the Trusted Professional in its March 15 issue.

The study’s author predicts that many state pension systems will simply run out of money before the end of the next decade, even if they were to achieve 8 percent annual returns each year. When this day comes, however, the author, Joshua Rauh, says that obligations will have grown so large that they will be beyond the ability of state governments to even begin planning to pay; raising taxes to make up for the shortfall would be out of the question. Therefore, says Rauh, the federal government will need to bail out these states and states currently have a cumulative unfunded liability in the area of $1 trillion.

The author stressed that reform is necessary to stave off total disaster, saying that federal programs need to start offering incentives to control unfunded liabilities on the state level. He also recommended that states be allowed to fund pensions through issuing tax-subsidized bonds. In return, states would need to close defined benefit plans to about one million new state workers, offering them a defined contribution plan instead.

Several senators attempted to nip the possibility of a state pension bailout in the bud, proposing an amendment to the financial reform bill that would explicitly prevent the federal government from doing so, though the measure failed to pick up enough support from lawmakers. Perhaps the Senate is sensing that, soon, it will need this ability.