Debate Heats Up over Public Pension Fund Discount Rates
Record-low interest rates stir controversy over the way funds value future liabilities and expose a major difference between the U.S. and Europe.
By Frances Denmark
Across the Atlantic a far more austere philosophy reigns. The Netherlands, which runs one of the worlds most rigorous and best-funded retirement systems, requires that pension plans discount their future liabilities using not their hoped-for rate of investment returns but a conservative benchmark tied to long-term interest rates. The standard is so strict that regulators, responding to pressure from pension funds, adjusted the benchmark in October, which raised the discount rate slightly, to 2.42 percent. Executives at Amsterdam-based ABP, the countrys largest pension fund, breathed a sigh of relief: The move boosted their funded ratio modestly, to 97 percent. The executives can only imagine what it would be like to operate under U.S. rules if they used Indianas discount rate, ABP could claim to be nearly 200 percent funded. ....
LAST SUMMER THE INDIANA Public Retirement System (INPRS) created a stir in the U.S. public defined benefit pension world by dropping its long-term investment return assumption to 6.75 percent a year, the lowest of all its peers. The move worsened the systems funded ratio, meaning that future retirees may risk cutbacks in their pensions unless taxpayers inject more money into the system no easy feat in these tough times. As unpalatable as those consequences are, Indiana pension officials decided they had to scale back their projections following years of historically low interest rates and the likelihood that those rates would continue to depress investment returns. Six months later not a single large U.S. public pension fund has followed Indianas example. Most still operate on the assumption that they can generate returns of 7 to 8 percent a year virtually in perpetuity.