US - States should cut public pension costs through increasing the retirement age and other practices rather than defaulting on debt, DWS Investments said.
In a report published this week, DWS, the research unit of Deutsche Bank AG, said pension funds are "unsustainable on their current trajectory," and "represent a significant and growing threat to the long-term financial health of muni bond issuers".
It said the severity of budget problems had made unions more willing to work with legislators to change laws and write new ones, while some states are prohibiting "spiking," which allows public workers to take overtime and opt out of holiday time in order to increase future benefits.
Other alternatives include changing from defined-benefit programs to defined-contribution programs and reducing the public workforce, said the report.
"Not surprisingly, state treasurers, governors and legislators are now facing severe and growing pressure to reform their pension fundamentals," the report added.
"The problem is, they can't just walk into their offices one morning and erase those promises. Pension obligations are contractual obligations. Plain and simple. Black and white. Difficult to revise.
"But something has to give. Many state officials are now saying, essentially, "We cannot continue like this; the state will become insolvent. We need to renegotiate the terms of the pension obligations."
Importantly, the solution for states' pension problems is generally not for municipalities to default on their debt, it continued. In most cases, that would fail to free up enough capital to solve their pension problems.
"As we have said in previous editions of "The Muni Opinion," defaulting would almost certainly handicap their access to the capital markets-something they need to fund their ongoing operations.
"Given the choice, we would rather be municipal bond investors than taxpayers reliant on the states for services. We believe public entitlement programs and social services are likely more vulnerable to cuts than payments to bond holders.
"Although we take some comfort with the senior lien that debt enjoys over pension obligations, we recognise that failure to address pension costs (as well as health care costs) could potentially lead to insolvency. After years of watching the unfunded obligation of municipalities, we are finally seeing an environment where reform is possible."
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