As taxpayers, we like to think that every dollar is put to good use. It’s very frustrating to see our taxes wasted. But, every year, vast swaths of public money are frittered away on a service that adds very little value to anyone except those who are paid to deliver it. I’m talking about the active management of public pensions.
Public employee retirement funds are designed to provide retirement income to state and local government employees, including teachers, police officers, firefighters, and other public sector workers. These funds are typically defined-benefit plans, meaning they promise a specific monthly benefit at retirement, which is calculated based on factors such as salary history and years of service.
These pensions are funded through a combination of employee contributions, employer contributions, and investment returns. Employees generally contribute a fixed percentage of their salary.
The sums of money involved are eye-wateringly huge. As of recent estimates, U.S. public pension funds collectively manage around $4.5 trillion in assets, and they pay out hundreds of billions of dollars to retirees every year.
It’s in the interests of both taxpayers and plan members that these pension assets are managed as efficiently as possible. Sadly, though, that is all too often not the case. According to an October 2023 paper by investment consultant Richard Ennis called Hogwarts Finance, since the global financial crisis of 2008-09, public pensions have achieved lower returns than simple low-cost index funds.
This underperformance has averaged between one and two per cent a year. That may seem like a modest amount, but compounded over time, it can make a massive difference.
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