SF Standard: Every Californian owes $500 billion they never agreed to pay
In 1992, Prop. 162 quietly put California taxpayers on the hook for public pension funds’ wild investment bets — and it’s cheated them out of $500 billion since.
Only a tiny number of Californians know about a 1991 boneheaded budget maneuver by Gov. Pete Wilson, but every Californian since then has suffered $500 billion in consequences, with more pain to come unless changes are made.
Faced with a budget deficit, Wilson and the California Legislature passed a bill that took $1.9 billion from the California Public Employees’ Retirement System to help cover the deficit and transferred actuarial duties from CalPERS to a political appointee under the governor’s control. Wilson’s gambit was terribly stupid, both because it didn’t produce a sustainable solution to budget deficits and because money in pension funds should be left in place to provide funding for pension promises.
In response, public employee unions placed Proposition 162, the California Pension Protection Act, on the November 1992 ballot to return power over actuarial assumptions to the pension boards. The measure also declared that public pension boards owe their highest fiduciary duty to employees, not to taxpayers, and it narrowly passed. From that point forward, board members of California’s public pension funds faced a skewed incentive when discharging their single most important task: setting the rate of return assumed when establishing upfront pension contributions from employees and taxpayers, so that the pension fund has enough money on hand to pay promised benefits when they come due.
That skewed incentive has since generated more than $500 billion in additional pension charges for taxpayers.
Here’s how pensions are supposed to work: They are meant to be funded by upfront contributions (“normal cost”) from employees and taxpayers, plus investment earnings on those contributions. Pension fund boards set the upfront contributions based on an expected rate of return over the decades between when a pension is promised and when it’s paid out. The higher the expected rate of return, the lower the required upfront contributions. Everything works fine if the pension fund earns at least the expected return. But if not, there won’t be enough money to redeem the pension promises when they come due. Those shortfalls — called “unfunded liabilities” — must be paid, and under California law, taxpayers alone bear that cost. Hence, pension fund boards that owe their highest duty to employees — and none to taxpayers — have an incentive to set high expected rates of return, since doing so minimizes normal cost, the only cost employees share. That incentive produces unfunded liabilities, which are interest-bearing debts.
Those unfunded liabilities grow large because of compound interest: Normal cost contributions that are short by just $1 can produce nearly a $4 deficiency 35 years later if a pension fund earns just one percentage point less than it assumed. Multiply that shortfall across California’s enormous state and local public employee workforce, and even a small gap in normal cost contributions can translate to hundreds of billions in unfunded liabilities.
Seven years after the CPPA became law, CalPERS board members — newly endowed with fiduciary obligations to employees only — encouraged lawmakers to grant a pension increase to public employees, but without disclosing, either in the bill or in a document prepared to convince legislators to support the bill, the risk of unfunded liabilities to taxpayers should CalPERS not earn the rate of return it assumed. (In fact, the CalPERS board president said the increase “wouldn’t costing a dime of additional taxpayer money.”) That legislation, SB 400, passed with overwhelming bipartisan support and was signed into law by Gov. Gray Davis. At the time, both CalPERS and the State Teachers Retirement System based normal cost contributions on rates of return that implicitly forecast the stock market to more than double every 10 years. Today the stock market is five times higher than it was in 1999, but because it didn’t grow as fast as CalPERS and CalSTRS forecast, taxpayers have been saddled with more than $500 billion of unfunded liabilities.
Since 1999, taxpayers have had to shell out $435 billion in cash contributions to CalPERS and CalSTRS, compared with just $179 billion from employees. The difference — $256 billion — represents cash paid by taxpayers to cover unfunded liabilities; another $266 billion in interest-bearing unfunded liabilities is outstanding. (Even that $266 billion figure is lowball since it is the present value discounted at a rate above the state’s debt rate.) That’s how taxpayers have been saddled with more than $500 billion of extra charges since CPPA became law.
I learned about Proposition 162 after I was appointed to the CalSTRS board in 2005. A few months into my tenure, I warned that, by using an artificially high expected rate of return when setting normal cost, California taxpayers were being forced to guarantee unrealistic stock-market returns. After public employee unions complained that I was breaching my fiduciary obligation by looking out for the interests of taxpayers, the state Senate removed me from CalSTRS’ board and, later, under pressure from the same unions, refused to confirm my appointment to the UC Board of Regents. Unfortunately, my warning proved true. Less than a decade later, taxpayers were hit with rate increases to cover exploding pension costs in schools.
Since CPPA became law, California’s taxpayers have been trapped in a Kafkaesque nightmare: They’re on the hook for debt created by pension funds over which they have no authority. While lawmakers must get voter approval for general obligation bonds, far larger amounts of debt are created every day by pension boards setting normal cost contributions with artificially high expected rates of return. Every year for the past 25 years, CalPERS and CalSTRS have set normal cost contributions using an expected rate of return higher than the one Warren Buffett expected his defined benefit plans to earn. Not surprisingly, CalPERS and CalSTRS were wrong and California taxpayers got saddled with huge unfunded liabilities as a result. Today, CalPERS and CalSTRS are still setting a higher rate of return than Buffett does. Which side of that bet would you like to take? Unfortunately, if you’re a California taxpayer, that decision has already been made for you. To add insult to injury, some state lawmakers are proposing yet another pension increase for public employees — and once again doing so without disclosing the risk of even greater unfunded liabilities.
After CPPA became law, pension financing in California became a game of “heads, employees win; tails, taxpayers lose.” So long as California continues to promise pensions to public employees, the Legislature and governor should either put an amended Proposition 162 on the ballot that requires pension board members to owe a fiduciary duty to taxpayers or require employees to share the costs of unfunded liabilities, just as they are required to share normal costs.
Originally published in The San Francisco Standard – Opinion on September 10, 2026
