The Cayman Financial Review posted this article last month titled: “The state has been set for the next global financial crisis.“
The article discusses how the last financial crisis, PERS and the next financial crisis are related. As a result of the last crisis, central banks have kept interest rates near or below zero for years. In search for investment returns, pension funds like PERS feel forced to invest in private equity, real estate, stocks and other investments that are riskier than bonds. From the article:
Not surprisingly, over the recent years, traditionally conservative investment portfolios of the insurance companies and pensions funds have shifted dramatically toward higher risk and more exotic (or in simple parlance, more complex) assets….
The reason for this is that the insurance companies, just as the pension funds, re-insurers and other longer-term “mandated” investment vehicles have spent the last eight years loading up on highly risky assets, such as illiquid private equity, hedge funds and real estate. All in the name of chasing the yield:..
The problem is monetary in nature. Just as the entire set of quantitative easing (QE) policies aimed to do, the long period of extremely low interest rates and aggressive asset purchasing programs have created an indirect tax on savers, including the net savings institutions, such as pensions funds and insurers. However, contrary to the QE architects’ other objectives, the policies failed to drive up general inflation…..
And all the QE didn’t buy is much:
Much of this debt buying produced no meaningfully productive investment in infrastructure or public services, having gone primarily to cover systemic inefficiencies already evident in the state programs. The result, in addition to unprecedented bubbles in property and financial markets, is low productivity growth and anemic private investment.
Where we are now:
Whether we like it or not, since the beginning of the Clinton economic bubble in the mid-1990s, the West has lived in a series of carry trade games that transferred real economic resources from the economy to the state. Today, we are broke. If we do not change our course, the next financial crisis will take out our insurers and pensions providers, and with them, the last remaining lifeline to future financial security.
What can pensions do:
As a part of spending reforms, public investment and state pensions provisions should be shifted to private sector providers, while existent public sector pension funds should be forced to raise their members contributions to solvency-consistent levels.
A bad case scenario is that we have another financial crisis that will really be part of the last financial crisis. Central bank efforts to spend their way out of the problem isn’t working because economic growth is too small to offset the increases in spending. If this happens, there will be economic and social upheaval and many fiat currencies will fail. Investors should ask themselves if they have any insurance against a global currency crisis.
A less bad scenario is that the economy continues to muddle along. PERS will not be saved in a muddle along economy. Participants will continue to decline as the state government cuts spending and investment returns will not meet the assumptions required to maintain PERS. Eventually, PERS stops kicking the can and raises contribution rates for employees and the government. Benefits will also take a haircut.
Those are the only two realistic scenarios. The scenario PERS leadership has been selling the last few years that we will grow our way out of the funding hole is so improbable that it should not be viewed as a real possibility.
PERS is in crisis with or without another financial crisis.