U.S. GOVERNMENT PRINTING OFFICE

WASHINGTON : 

For sale by the Superintendent of Documents, U.S. Government Printing Office

Internet: bookstore.gpo.gov Phone: toll free (866) 512–1800; DC area (202) 512–1800

Fax: (202) 512–2104 Mail: Stop IDCC, Washington, DC 20402–0001

64–585 PDF 2011

ROLE OF PUBLIC EMPLOYEE PENSIONS IN CONTRIBUTING TO STATE INSOLVENCY AND THE 

POSSIBILITY OF A STATE BANKRUPTCY CHAPTER 

HEARING 

BEFORE THE

SUBCOMMITTEE ON COURTS, COMMERCIAL 

AND ADMINISTRATIVE LAW 

OF THE

COMMITTEE ON THE JUDICIARY 

HOUSE OF REPRESENTATIVES 

ONE HUNDRED TWELFTH CONGRESS 

FIRST SESSION 

FEBRUARY 14, 2011 

Serial No. 112–25 

Printed for the use of the Committee on the Judiciary 

( 

Available via the World Wide Web: http://judiciary.house.gov 

(II) 

COMMITTEE ON THE JUDICIARY 

LAMAR SMITH, Texas, Chairman 

F. JAMES SENSENBRENNER, JR., 

Wisconsin 

HOWARD COBLE, North Carolina 

ELTON GALLEGLY, California 

BOB GOODLATTE, Virginia 

DANIEL E. LUNGREN, California 

STEVE CHABOT, Ohio 

DARRELL E. ISSA, California 

MIKE PENCE, Indiana 

J. RANDY FORBES, Virginia 

STEVE KING, Iowa 

TRENT FRANKS, Arizona 

LOUIE GOHMERT, Texas 

JIM JORDAN, Ohio 

TED POE, Texas 

JASON CHAFFETZ, Utah 

TOM REED, New York 

TIM GRIFFIN, Arkansas 

TOM MARINO, Pennsylvania 

TREY GOWDY, South Carolina 

DENNIS ROSS, Florida 

SANDY ADAMS, Florida 

BEN QUAYLE, Arizona 

JOHN CONYERS, JR., Michigan 

HOWARD L. BERMAN, California 

JERROLD NADLER, New York 

ROBERT C. ‘‘BOBBY’’ SCOTT, Virginia 

MELVIN L. WATT, North Carolina 

ZOE LOFGREN, California 

SHEILA JACKSON LEE, Texas 

MAXINE WATERS, California 

STEVE COHEN, Tennessee 

HENRY C. ‘‘HANK’’ JOHNSON, JR., 

Georgia 

PEDRO PIERLUISI, Puerto Rico 

MIKE QUIGLEY, Illinois 

JUDY CHU, California 

TED DEUTCH, Florida 

LINDA T. SA ́ NCHEZ, California 

DEBBIE WASSERMAN SCHULTZ, Florida 

SEAN MCLAUGHLIN, Majority Chief of Staff and General Counsel 

PERRY APELBAUM, Minority Staff Director and Chief Counsel 

SUBCOMMITTEE ON COURTS, COMMERCIAL AND ADMINISTRATIVE LAW

HOWARD COBLE, North Carolina, Chairman 

TREY GOWDY, South Carolina, Vice-Chairman 

ELTON GALLEGLY, California 

TRENT FRANKS, Arizona 

TOM REED, New York 

DENNIS ROSS, Florida 

STEVE COHEN, Tennessee 

HENRY C. ‘‘HANK’’ JOHNSON, JR., 

Georgia 

MELVIN L. WATT, North Carolina 

MIKE QUIGLEY, Illinois 

DANIEL FLORES, Chief Counsel 

JAMES PARK, Minority Counsel 

(III) 

C O N T E N T S 

FEBRUARY 14, 2011 

Page 

OPENING STATEMENTS 

The Honorable Howard Coble, a Representative in Congress from the State 

of North Carolina, and Chairman, Subcommittee on Courts, Commercial 

and Administrative Law ...................................................................................... 1 

The Honorable Henry C. ‘‘Hank’’ Johnson, Jr., a Representative in Congress 

from the State of Georgia, and Member, Subcommittee on Courts, Commercial and Administrative Law ............................................................................... 33 

The Honorable Lamar Smith, a Representative in Congress from the State 

of Michigan, and Chairman, Committee on the Judiciary ............................... 35 

The Honorable John Conyers, Jr., a Representative in Congress from the 

State of Michigan, and Ranking Member, Committee on the Judiciary ......... 36 

WITNESSES 

Joshua Rauh, Ph.D., Associate Professor of Finance, Kellogg School of Management, Northwestern University, Evanston, IL 

Oral Testimony ..................................................................................................... 41 

Prepared Statement ............................................................................................. 43 

James E. Spiotto, Esq., Partner, Chapman and Cutler, LLP, Chicago, IL 

Oral Testimony ..................................................................................................... 54 

Prepared Statement ............................................................................................. 56 

Matt Fabian, Managing Director, Municipal Market Advisors, Westport, CT 

Oral Testimony ..................................................................................................... 96 

Prepared Statement ............................................................................................. 98 

Keith Brainard, Research Director, National Association of State Retirement 

Administrators, Georgetown, TX 

Oral Testimony ..................................................................................................... 105 

Prepared Statement ............................................................................................. 108 

LETTERS, STATEMENTS, ETC., SUBMITTED FOR THE HEARING 

Material submitted by the Honorable Howard Coble, a Representative in 

Congress from the State of North Carolina, and Chairman, Subcommittee 

on Courts, Commercial and Administrative Law .............................................. 2 

Prepared Statement of the Honorable John Conyers, Jr., a Representative 

in Congress from the State of Michigan, and Ranking Member, Committee 

on the Judiciary ................................................................................................... 38 

APPENDIX 

MATERIAL SUBMITTED FOR THE HEARING RECORD

Response to Post-Hearing Questions from Joshua Rauh, Ph.D., Associate 

Professor of Finance, Kellogg School of Management, Northwestern University, Evanston, IL ................................................................................................. 138 

Response to Post-Hearing Questions from James E. Spiotto, Esq., Partner, 

Chapman and Cutler, LLP, Chicago, IL ............................................................ 144 

Page

IV 

Response to Post-Hearing Questions from Matt Fabian, Managing Director, 

Municipal Market Advisors, Westport, CT ........................................................ 161 

Response to Post-Hearing Questions from Keith Brainard, Research Director, 

National Association of State Retirement Administrators, Georgetown, TX .. 163 

(1) 

ROLE OF PUBLIC EMPLOYEE PENSIONS IN 

CONTRIBUTING TO STATE INSOLVENCY 

AND THE POSSIBILITY OF A STATE BANKRUPTCY CHAPTER 

MONDAY, FEBRUARY 14, 2011 

HOUSE OF REPRESENTATIVES,

SUBCOMMITTEE ON COURTS, 

COMMERCIAL AND ADMINISTRATIVE LAW, 

COMMITTEE ON THE JUDICIARY, 

Washington, DC. 

The Subcommittee met, pursuant to notice, at 4:02 p.m., in room 

2141, Rayburn House Office Building, the Honorable Howard Coble 

(Chairman of the Subcommittee) presiding. 

Present: Representatives Coble, Smith, Gowdy, Gallegly, Reed, 

Ross, Johnson, Quigley, and Conyers. 

Staff Present: (Majority) Daniel Flores, Subcommittee Chief 

Counsel; Travis Norton, Counsel; Allison Rose, Professional Staff 

Member; and Ashley Lewis, Clerk. 

Mr. COBLE. Good afternoon, ladies and gentlemen. The Subcommittee will come to order. 

And before we give our opening statements, I have some unanimous consent requests to have introduced in and made part of the 

record: a Bureau of Labor Statistics from the U.S. Department of 

Labor news release, dated December 8; a San Francisco Chronicle 

op-ed, dated February 13; the National Governors Association, January 24 of this year; a second Nation Governors Association letter, 

dated February the 4th of 2011. And I would like to have these 

made part of the record, without objection. 

[The information referred to follows:] 

2 


64585A-1.eps
3 


64585A-2.eps
4 


64585A-3.eps
5 


64585A-4.eps
6 


64585A-5.eps
7 


64585A-6.eps
8 


64585A-7.eps
9 


64585A-8.eps
10 


64585A-9.eps
11 


64585A-10.eps
12 


64585A-11.eps
13 


64585A-12.eps
14 


64585A-13.eps
15 


64585A-14.eps
16 


64585A-15.eps
17 


64585A-16.eps
18 


64585A-17.eps
19 


64585A-18.eps
20 


64585A-19.eps
21 


64585A-20.eps
22 


64585A-21.eps
23 


64585A-22.eps
24 


64585A-23.eps
25 


64585B-1.eps
26 


64585B-2.eps
27 


64585C-1.eps
28 


64585C-2.eps
29 


64585C-3.eps
30 


64585C-4.eps
31 


64585C-5.eps
32 

Mr. COBLE. Folks, to begin with, I want to apologize for my raspy 

voice. I have been nursing this cold for about a week that seems 

like a month. So it doesn’t sound very pleasant, so bear with me. 

And I am going to try to be as objective in my opening statement 

as I can, but if we, in fact, create a bankruptcy—strike that—a 

State bankruptcy chapter, I see all sorts of snakes coming out of 

that pit. But I will have an open mind as we go along. 

Many States are currently suffering a severe budget crisis, as we 

all know. High unemployment and depressed property values have 


64585C-6.eps
33 

resulted in less tax revenue for States. But despite taking in less 

revenue, many States continue to spend as if the recession never 

occurred. 

In particular, States continue to offer defined benefit pension 

plans to their public employees. Defined benefit, as we all know, 

means that the employee is entitled to the pension without contributing or contributing a very small amount. Making their budget 

problems worse, States are underfunding their pension obligations 

to the tune of $3 trillion. And we will hear that from one of the 

witnesses today. 

Public employee unions need to realize that they should not be 

entitled to be recession-proof. American workers in the private sector have had their wages frozen during the recession. The 401(k) 

retirement plans to which they have contributed hard-earned dollars have lost significant value. 

Some people fear the States will eventually go broke and ask 

Congress for a bailout. We all know that bailouts have consequences. Oftentimes, a bailout merely kicks the current problem 

down the road even farther, and they generally don’t encourage fiscal discipline. 

Neither should Congress permit States to file bankruptcy, in my 

opinion. Though States would have powerful tools in bankruptcy, 

like the power to break pension contracts with unions, States are 

sovereign entities that must handle their financial problems themselves, it seems to me. 

Bankruptcy for States would cripple the bond markets. States, as 

we all know, issue bonds for capital projects like building roads and 

universities. Permitting States to break their promises to bondholders would decrease investor confidence and damage States’ 

ability to invest in much-needed infrastructure. 

Instead, Congress should encourage States to use the tools they 

already have to bring public employee unions to the negotiating 

table and restructure pension contracts. My home State of North 

Carolina is a right-to-work State. Public employees are not unionized. Rather than demand defined benefit pension plans, North 

Carolina’s public employees contribute to a 401(k) administered by 

the State treasurer. 

I am eager to learn more from our witnesses about how underfunded public employee pension liabilities are contributing to various State insolvencies. I am also interested in how bankruptcy for 

States would impact States’ ability to borrow for capital projects in 

the bond market. While I disfavor the approach that lets States go 

into bankruptcy, I will be open to suggestions from the witnesses 

on alternatives that help States get their fiscal houses in order. 

I am now pleased to recognize the distinguished gentleman from 

Georgia, Mr. Johnson, for his opening statement. 

Mr. JOHNSON. I thank the Ranking Member. And this is my first 

hearing serving with you as Chairman, and I look forward to our 

service together on this Committee in the future. 

Mr. COBLE. Thank you, Mr. Johnson. I appreciate that. 

Mr. JOHNSON. Now, with all due respect to my friends on the 

other side of the aisle, I must wonder aloud, why is it that we are 

holding this hearing today? Ostensibly, it is about whether States 

should be permitted to file bankruptcy. But, from what I can tell, 

34 

none of the witnesses claims that bankruptcy is a panacea for a 

State’s financial troubles. 

We seem to agree that allowing States to file for bankruptcy 

would result in increased interest rates, making it more expensive 

for States to address their financial needs. Moreover, a State bankruptcy option would create greater instability in the financial market. There also seems to be some shared concern about respect for 

State sovereignty, in that Federal bankruptcy law could be used to 

override State constitutions and laws prohibiting an impairment of 

contractual obligations. 

Finally, States already have the tools at their disposal to address 

any financial troubles they face, as Majority Leader Eric Cantor 

has noted. States have the ability to adjust revenues and spending 

and to renegotiate their financial obligations with creditors. 

Indeed, I get the strong sense that State bankruptcy may be a 

solution in search of a problem. Why are we wasting time on what 

promises to be something of an esoteric discussion about a proposal 

that few, if anyone, in Congress, including those on this Committee, appear to accept? 

Instead, we should be talking about what Congress will do to accelerate economic recovery and create jobs, which, in turn, will help 

States recover financially. We should be talking about the continuing mortgage foreclose crisis and how Congress will help hardworking American families stay in their homes. We should be talking about crushing private student loan debt that threatens to stifle educational opportunities for people of modest means. We 

should be talking about how to improve the bankruptcy process so 

that it can better help honest but unfortunate debtors who have 

fallen upon hard times because of the lingering effects of the 2008 

financial crisis, a crisis brought about by Wall Street’s reckless behavior. 

Unfortunately, I suspect we are here talking about State bankruptcy because of a cynical attempt by the likes of a future President Jeb Bush or future President Newt Gingrich, actually, with 

Jeb Bush being the Vice President, or Jeb Bush being President, 

Newt Gingrich being Vice President. I don’t know how they are 

going to work it out. But they, along with the infamous Dick Morris and Grover Norquist, they are in an unholy combination to demonize public employees for political reasons. 

Let’s call this what it is. It is an attack on a group of workers 

including State troopers, police officers, firemen, prosecutors, and 

teachers. And these proponents of State bankruptcy simply don’t 

like those groups, and they want to do whatever they can to help 

them, so they figure that allowing States to go into a bankruptcy 

court and then avoid contracts that they have signed through collective bargaining, a fair process, that protect their employees, they 

want to be able to get out of those. And they also want to be able 

to avoid their obligations to innocent pensioners, elderly people on 

pensions, who have worked all their lives and expected to be able 

to retire in comfort with health benefits. And they want to abrogate 

the terms of those agreements and leave those people up the road, 

or up the lake with no paddle in a boat, subject to the harsh waves 

of Wall Street. 

35 

That is what they want to do, because they want to also protect 

bond holders, State bond holders. They want to protect them in 

that chapter, or in that bankruptcy process. Can you imagine that? 

Trying to balance the budget on the backs of working men and 

women, trying to protect Wall Street. This is unconscionable. 

And we are talking about public pensions that barely have an 

impact on a State’s financial health. Less than 3 percent of all 

State and local government funding is spent on pension benefits, 

as most such benefits are paid out of trusts funded by employees 

and their employers. But why let the facts get in the way of political opportunism? 

The proponents of State bankruptcy don’t even bother to hide 

their true intent. For instance, in a Los Angeles Times op-ed piece 

published last month, Mr. Gingrich and Mr. Bush, Bush III, pointed to the ‘‘stranglehold government employee unions have on State 

and Federal budgets,’’ end quote, rather than the severe economic 

recession of the last few years as the reasons for the States’ fiscal 

problems. 

Even more crassly, Mr. Morris wrote a piece in The Hill arguing 

in favor of State bankruptcy because it would, quote, ‘‘break the political power of public employee unions and undermine the laborDemocratic Party coalition.’’ 

Hopefully, sensible minds on both sides of the aisle, including 

Majority Leader Cantor, Judiciary Committee Chairman Lamar 

Smith, and Subcommittee Chairman Howard Coble, will carry the 

day on the issue of State bankruptcy and not allow naked political 

calculations to answer serious constitutional and policy questions. 

And, with that, I will yield back. 

Mr. COBLE. I thank the gentleman. 

The Chair recognizes the distinguish Chairman of the Judiciary 

Committee, Mr. Smith. 

Mr. SMITH. Thank you, Mr. Chairman. 

A famous tale by Hans Christian Andersen depicts an emperor 

who cares only about his wardrobe. His weavers fashioned him a 

garment made from fine fabric they say is invisible only to those 

who are unfit to see it. The emperor cannot see the suit, but he 

fears being deemed unfit to being king. So he dons his invisible 

garment and parades around town. Finally, a small child calls out 

from the crowd, ‘‘The emperor has no clothes.’’ 

Much like the weavers in this story, many States have promised 

their public employees the finest pension benefits but have funded 

their pension obligations with invisible money. In the private sector, employees generally contribute to their own retirement and 

IRAs and withdraw their savings later in life. In contrast, States 

have promised fixed payouts to their retired public employees without requiring any employee contribution. States are therefore on 

the hook to pay 100 percent of public employee pensions, in addition to other retirement benefits like health insurance. 

Despite the high cost of these pensions, it is not for Congress to 

admonish States for spending their money as their elected leaders 

see fit. States are sovereign in our system of federalism and are 

free to make even very expensive decisions. 

What is cause for Federal concern is that States have so consistently underfunded public employee pensions that, cumulatively, 

36 

they face pension deficits of approximately $3 trillion. Some fear 

that States will eventually default. 

Voters in spendthrift States should demand collective sacrifice 

from public employees. Someone must say the emperor has no 

clothes. 

Notwithstanding States’ fiscal woes, the era of Federal bailouts 

is over. Congress should not take money from taxpayers in fiscally 

healthy States to give to public employee unions in a handful of 

spendthrift States. 

And while bankruptcy for States may seem like an attractive alternative to State bailouts, there are constitutional and policy concerns with this approach. 

First, I am unsure whether Congress has the constitutional authority under Article I to allow a state to seek bankruptcy relief. 

States are co-sovereigns in our system of federalism and have authority to tax and spend. 

Even if Congress could enact a State bankruptcy chapter, it is 

also highly unlikely that any State would ever take advantage of 

it. The National Governors Association and the National Conference of State Legislatures have announced that States do not 

want bankruptcy relief and would not use it. 

States currently have ways to put their fiscal houses in order. 

Even the Governors in traditionally union-friendly States already 

have taken steps to reduce State spending and reform their public 

employee pension systems. 

I am also concerned that a State bankruptcy option may actually 

encourage States to borrow more money, knowing that they could 

later restructure their debt in bankruptcy. Future borrowing levels 

would thus increase even in spendthrift States. And borrowing 

would be at higher interest rates for all States because lenders 

would justifiably charge a price for the risk of State bankruptcy. 

Congress should not hinder restructuring efforts at the State 

level by passing laws that make it more expensive for States to access capital in the bond market during a recession, and it should 

not pass laws that unfairly punish prudent States with higher interest rates. 

Finally, in a State bankruptcy case, it would be difficult to prevent the sort of political favoritism of unions over bondholders seen 

in the Chrysler and General Motors bankruptcies. Public employee 

unions have exerted influence over State officials to obtain substantial pension benefits. Why should Congress believe that this same 

political influence will not cause State debtors to protect public employee pensions in bankruptcy? 

Still, I remain open to exploring how Congress may play a role 

in helping States restore fiscal sanity to their budgets. And, Mr. 

Chairman, I look forward to working with my colleagues to talk 

about and explore these alternative solutions. 

And I yield back the balance of my time. 

Mr. COBLE. I thank the gentleman. 

The Chair recognizes the distinguished gentleman from Michigan, the Chairman emeritus of the Judiciary Committee, Mr. Conyers. 

Mr. CONYERS. Thanks, Chairman Howard Coble and Members of 

the Committee. 

37 

We welcome the four witnesses today. 

And I am impressed with Chairman Coble’s description of the 

problem, particularly as it relates to bankruptcy. And he was kind 

enough to let me see his statement since I didn’t quite understand 

his presentation. 

‘‘Neither should Congress permit States to file bankruptcy. 

Though States would have powerful tools in bankruptcy, like the 

power to break pension contracts with unions, States are sovereign 

entities and must handle their financial problems themselves. 

‘‘Bankruptcy for States would cripple bond markets. States issue 

bonds for capital projects like building roads and universities. Permitting States to break their promises to bondholders would decrease investor confidence and hurt States’ ability to invest in 

much-needed infrastructure.’’ 

And so, Chairman Coble, I agree with you. 

And I must say, Hank Johnson’s statement was one that I am 

in agreement totally with. 

And we find ourselves in unusual circumstances. 

And my voice is getting like the Chairman’s, so maybe I should 

give him a written copy of my statement so he can understand 

what I actually said, as well. 

States aren’t in particularly in good shape. A lot of them are not 

in the black, but none of them are seeking or going into bankruptcy. None are in bankruptcy. So wherein does the urging from 

Members of the Federal legislature come from that encourage 

bankruptcy? 

Now, before bankruptcy, there could be bailout. And from the Detroit perspective, both automobile companies that sought bailout 

are—one has paid off, and the other one is paying off pretty well. 

The reason I know they are doing so well is that they are declaring 

bonuses for the leaders. So if they aren’t in bankruptcy, this is a 

hearing that would encourage them, at least some of the members, 

to go into bankruptcy. 

And I want to thank the witnesses. All of their statements, except our lead witness, from the professor, have indicated some need 

for caution in this area. And I think that is good. 

Now, you will never catch me quarreling with why a Subcommittee or the full Committee called a hearing, because no one 

has called more hearings that were quarrelsome by the other side 

than me. And so, now it is my turn to listen to hearings that I may 

not have—would have called myself. But still, maybe we can think 

about this a little bit. 

Well, look, there are so many conservatives that agree with my 

position of going slow that I am re-examining my own position. I 

mean, when the gentleman—where is Mr. Cantor from? Virginia? 

The gentleman from Virginia and I find ourselves in agreement. 

Other leaders are—the only people that I can prove are urging 

bankruptcy is Newt Gingrich, the former Speaker of the House; 

and Jeb Bush, the former Governor from Florida. Now, what is motivating them, outside of further busting public unions, I don’t 

know. But maybe this hearing will shed some light on it, because 

that is what I would like to find out more. 

And so, Mr. Chairman, I thank you for your time. And I am willing to make a copy of my statement available to you. 

38 

[The prepared statement of Mr. Conyers follows:] 


64585D-1.eps
39 

Mr. COBLE. I thank you, sir. 

Without objection, other Members’ opening statements will be 

made a part of the record. 

We are glad to have a distinguished panel with us today, and I 

will introduce them at this time. 

Mr. Joshua Rauh is associate professor of finance at the Kellogg 

School of Management at Northwestern University and NBER faculty research fellow in the corporate finance and public economics 

programs. He studies corporate investment and financial structure, 


64585D-2.eps
40 

with an emphasis on the ways in which corporations respond to incentives that are put in place by government policies. 

Dr. Rauh received his Ph.D. in 2004 from the Massachusetts Institute of Technology with his dissertation, ‘‘Pensions, Corporate Finance, and Public Policy,’’ which won him the 2004 National Tax 

Association Dissertation Award. Prior to joining Kellogg, he held a 

faculty position at the University of Chicago Booth School of Business. And he is a former associate economist for Goldman Sachs 

International in London. 

Mr. James E. Spiotto is a partner in the law firm of Chapman 

and Cutler, LLP. He graduated from the University of Chicago Law 

School and has represented banks, indenture trustees, bondholders, 

or governmental bodies in litigation over workouts of over 400 troubled debt finances in over 35 different States and in 3 foreign countries. 

He is also the author of a chapter on sovereign debt, defaults, 

and debt resolution mechanisms for an upcoming book entitled, 

‘‘The Oxford Handbook of State and Local Government Debt,’’ to be 

published by Oxford University Press. In 1995, Mr. Spiotto won an 

award for his presentation on municipal defaults and bankruptcy 

at a United States House of Representatives Subcommittee hearing 

on the Orange County crisis. 

Mr. Fabian is the senior analyst—Mr. Matt Fabian—for Municipal Market Advisors, MMA, an independent research and strategy 

provider specializing in municipal bonds. Mr. Fabian has been a 

municipal analyst for 13 years and is the author of a widely read 

bond publication. He has been the senior analyst with Municipal 

Market Advisors since July of 2006. 

Prior to his current position, Mr. Fabian spent 21⁄2 years as the 

lead municipal research analyst for UBS and headed up an awardwinning group within UBS Wealth Management Research. Mr. Fabian was the primary source on municipal bond research for the 

UBS network of nearly 7,500 U.S. financial advisors, also advising 

the company’s institutional training and investment banking clients. 

Mr. Keith Brainard is currently serving as research director for 

the National Association of State Retirement Administrators and 

has held that position since 2002. Previously, he served as manager 

of budget and planning for the Arizona State Retirement System, 

and he also provided fiscal research and analysis for the Texas and 

Arizona legislatures. 

He is coauthor of the second edition of the ‘‘Governmental Plans 

Answer Book,’’ and created and maintains the Public Fund Survey, 

an online compendium of public pension data. He has a master’s 

degree from the LBJ School of Public Affairs at the University of 

Texas in Austin. 

Good to have you with us, gentlemen. If you will, we try to apply 

the 5-minute rule to you all and to us. When the amber light appears, you will know that the red light is imminent. So when the 

red light appears, that will be your warning that it is time to wrap 

up. If you could do that, we would appreciate it. 

Mr. Rauh, I will start with you. 

41 

TESTIMONY OF JOSHUA RAUH, Ph.D., ASSOCIATE PROFESSOR 

OF FINANCE, KELLOGG SCHOOL OF MANAGEMENT, NORTHWESTERN UNIVERSITY, EVANSTON, IL 

Mr. RAUH. Thank you very much, Chairman Coble, Members of 

the Subcommittee. 

The condition of State and local pension systems and the risks 

that these systems pose for Federal taxpayers is a critical aspect 

of our Nation’s fiscal challenges. Pensions have become more than 

a means by which State and local governments provide retirement 

income for public employees. They have become a pervasive tool for 

circumventing balanced-budget requirements. 

The mechanism is simple: State and local governments have 

promised pensions without setting aside adequate funds. The bill 

is then left to future taxpayers when the employees retire. By that 

time, the politicians who made the promises are out of office. In 

some cases, the bills will be so large that State and local governments will likely seek substantial Federal assistance. 

The Government Accounting Standards Board, GASB, has been 

complicit in this hidden borrowing by allowing a flawed accounting 

of these promises. Under GASB rules, State and local governments 

have around $1 trillion of unfunded pension liability. Using valuations consistent with financial economics, Professor Robert NovyMarx and I have calculated that the already-promised part of these 

unfunded liabilities amounts to over $3 trillion. 

GASB treats the returns on risky assets as though they were 

riskless and certain. The government assumes that the actual return will be identical to the targeted return, most commonly 8 percent, ignoring the fact that if the assets do not return 8 percent, 

the taxpayers are on the hook for the downside. GASB confounds 

the measurement of the amount of debt with the government’s 

risky plans for repaying the debt. 

Consider how this would work if you could apply it to a Federal bond issue. Suppose you issued $1 trillion of 10-year bonds. And 

suppose further that you spent half the proceeds immediately and 

put the other half in a fund invested in stocks and bonds, hoping 

that it would grow to repay the debt in 10 years. Well, obviously, the government has a new debt of $1 trillion and 

new unfunded liabilities of half a trillion dollars. But under GASB 

logic, the government could claim that, since the expected return 

on their portfolio is 8 percent, there was actually no unfunded liability. This would be a way to deal with the $1.65 trillion budget 

deficit at the Federal level. You would just borrow another $1.65 

trillion, invest it in stocks and bonds, claim it will have an expected 

return of 8 percent. And, under GASB rules, that would be okay. 

This is hidden debt, debt that will eventually force governments 

to choose among a group of unpalatable options: slashing public 

services, dramatically raising taxes, attempting to cut benefits, defaulting on debt, or seeking a Federal bailout. 

Many pension systems are approaching a day of reckoning. Even 

assuming 8 percent returns, the assets of the systems in seven 

States and six big cities would be insufficient to pay for today’s already-promised benefits past 2020. And what this means is that 

substantial contributions to the funds will be needed over the next 

decade to pay for legacy liabilities. 

42 

Some State governments are taking steps to address the issue, 

but many are going in the opposite direction. So, for example, by 

statute or by contract, many major public pension funds in Illinois 

do not contribute anywhere near the amount required to pay new 

costs and to begin to pay down unfunded liabilities. The California 

State Teachers’ Retirement System contributed only 55 percent of 

the recommended amount in 2010, even by GASB standards. And 

New Jersey made only 5 percent of the recommended contributions 

to its State police and teachers funds. 

Now, if States perceive implicit Federal backing, they may lack 

the incentive to undertake reforms of these systems. So I would 

argue that Congress should limit the liability of Federal taxpayers 

by providing States with those incentives. It should condition the 

availability of Federal money on pension reforms that limit off-balance-sheet borrowing. 

In particular, the Public Employee Pension Transparency Act, 

H.R. 567, would be a very useful step. It would condition Federal 

tax benefits on disclosure by the States of the true financial value 

of these unfunded public pension promises. The bill establishes an 

incentive. If States want Federal subsidies, then they may not engage in off-balance-sheet borrowing through improperly valued pension liabilities. 

Congress should consider further incentives-based approaches, 

both carrots and sticks, particularly if the idea of a State bankruptcy code is not going to be pursued. One approach would relate 

to the tax treatment of bonds that could be used to fund pensions. 

In a plan I developed with Professor Novy-Marx, a State would be 

allowed to issue tax-subsidized bonds for the purposes of pension 

funding if, and only if, it agreed to specific austerity measures, including closing its defined benefit plans to new workers, enrolling 

all employees in a defined contribution plan, plus Social Security. 

The cost savings from the new Social Security enrollment would 

offset a large portion of the costs from the debt subsidy. 

So, in sum, I would say that urgent action at the Federal level 

is required to ensure the Federal taxpayers will not be the ultimate 

underwriters of State debts. The most useful action would be the 

establishment of financial incentives that encourage States not to 

gamble with the money of Federal taxpayers. This is a $3 trillion 

problem, and the question is just simply how that $3 trillion is 

going to be divided up among State taxpayers and Federal taxpayers and other claimants. 

Thank you. 

[The prepared statement of Mr. Rauh follows:] 

43 


Rauh-1.eps
44 


Rauh-2.eps
45 


Rauh-3.eps
46 


Rauh-4.eps
47 


Rauh-5.eps
48 


Rauh-6.eps
49 


Rauh-7.eps
50 


Rauh-8.eps
51 


Rauh-9.eps
52 


Rauh-10.eps
53 

Mr. COBLE. Thank you, Mr. Rauh. And you beat the red light—— 

Mr. RAUH. I sure did. 

Mr. COBLE [continuing]. Putting pressure your colleagues. 

Mr. Spiotto, good to have you with us. You are recognized for 5 

minutes. 


Rauh-11.eps
54 

TESTIMONY OF JAMES E. SPIOTTO, ESQ., PARTNER, 

CHAPMAN AND CUTLER, LLP, CHICAGO, IL 

Mr. SPIOTTO. Thank you, Mr. Chairman Coble. It is my pleasure 

to address you today. 

Obviously, you all, in framing your statement, have clearly outlined the problem that is facing States and even local governments 

with regard to how do you meet all of your debt obligations, all of 

your financial obligations in challenging times, especially economic 

downturn. 

The question posed is, given underfunding of pension obligations 

for State governments, should there be a chapter for a State bankruptcy? This question sounds like an easy solution to a difficult 

problem, but there are many practical problems to that. And what 

I would like to explore with you today is some of those practical 

problems and concerns that need to be addressed and, I think, in 

considering those, lead to the conclusion that bankruptcy is obviously, just like it is for municipalities, the last last resort. And, certainly, there are many other options available that should be used 

and can be used to solve the problem. 

First of all, let’s look at Chapter IX. Chapter IX was passed during the depression of the 1930’s. Since 1937, when it was passed, 

only 620 municipalities have used Chapter IX, mainly small special 

tax districts and small municipalities. There have been a few exceptions. But, by and large, most municipalities, because of the 

stigma, because of the cloud, because they desire to be able to manage their own affairs, have chosen not to use Chapter IX. 

You need to be authorized by your State to file Chapter IX. There 

are only 15 States that have unconditionally authorized their municipalities to file Chapter IX. So all the other States have either 

put a condition on it or do not authorize, presently, their municipalities to file. 

You may ask yourself, is there the same demand and cry for a 

bankruptcy provision for States that there was during the Depression? The answer to that is ‘‘no.’’ At the time that Chapter IX was 

adopted, there were over 4,000 local defaults by municipalities; 

there were over a thousand municipalities desirous of having Chapter IX adopted. As your opening statements have indicated, States 

and local governments are not asking for this at this time, and for 

good reason. 

One of the questions raised is, what about the dual sovereignty 

of the Federal Government and the States? And does this really 

interfere with the ability of States to deal with their sovereign 

issues? 

I think the simple fact is, and as we saw from the development 

of Chapter IX, any type of bankruptcy application to the States will 

cause various constitutional problems, which will need to be addressed and are not easily done. If you will recall, back in 1934, 

when they passed the first version for municipal bankruptcy, it 

took Congress and a few Supreme Court decisions to, by 1937, have 

something that passed the muster of constitutional scrutiny. 

The Bivens case and the Ashton case by the Supreme Court outlined that a Federal judge of a dual sovereign, the Federal Government, cannot interfere with the revenues, with the property, with 

the government, with the affairs of a municipality. That municiVerDate Aug 31 2005 20:05 May 30, 2011 Jkt 000000 PO 00000 Frm 00058 Fmt 6633 Sfmt 6601 H:\WORK\COURTS\021411\64585.000 HJUD PsN: DOUG
55 

pality is a subsovereign of the State. When you take it on the State 

level, and given our constitutional background and the 10th 

Amendment and Supreme Court decisions, it will be very difficult 

to have a Federal judge be able to navigate those waters. And that 

difficulty will cost time, money, and effort and an inability to really 

address the problems. 

So, on the constitutional basis, it seems that it would be very difficult to really solve that problem. Chapter IX, in the passage of 

that, outlines in the Bivens and the Ashton case those problems. 

Are there solutions? Yes. States have for a long history solved 

their problems. Their general obligations have been paid since the 

1800’s. They have done almost anything to make sure they dealt 

with their problem. Yes, we have an economic downturn, but that 

does not mean that they will not be able to address it. 

Are there solutions? We have, in the materials, talked about a 

public pension authority that might be established by the State to 

deal with these issues. We have talked about possibly a Federal 

independent court to deal issues that relate to unaffordable and 

sustainable obligations. There are also the ability to possibly facilitate with issuing bonds. 

While there are many different ways of solving it, it really is the 

States and their proud history of meeting their obligations that has 

to be recognized. They may have difficult times. They have weathered through it in the past. And they clearly have done it through 

the Depression without any need of bankruptcy or additional help. 

And I think, with a little foresight and a little work on their part, 

they will come up, as they have in the past, with solutions that will 

address the problem. 

Thank you. 

[The prepared statement of Mr. Spiotto follows:] 

56 


Spiotto-1.eps
57 


Spiotto-2.eps
58 


Spiotto-3.eps
59 


Spiotto-4.eps
60 


Spiotto-5.eps
61 


Spiotto-6.eps
62 


Spiotto-7.eps
63 


Spiotto-8.eps
64 


Spiotto-9.eps
65 


Spiotto-10.eps
66 


Spiotto-11.eps
67 


Spiotto-12.eps
68 


Spiotto-13.eps
69 


Spiotto-14.eps
70 


Spiotto-15.eps
71 


Spiotto-16.eps
72 


Spiotto-17.eps
73 


Spiotto-18.eps
74 


Spiotto-19.eps
75 


Spiotto-20.eps
76 


Spiotto-21.eps
77 


Spiotto-22.eps
78 


Spiotto-23.eps
79 


Spiotto-24.eps
80 


Spiotto-25.eps
81 

ATTACHMENT 


SpiotA-1.eps
82 


SpiotA-2.eps
83 


SpiotA-3.eps
84 


SpiotA-4.eps
85 


SpiotA-5.eps
86 


SpiotA-6.eps
87 


SpiotA-7.eps
88 


SpiotA-8.eps
89 


SpiotA-9.eps
90 


SpiotA-10.eps
91 


SpiotA-11.eps
92 


SpiotA-12.eps
93 


SpiotA-13.eps
94 


SpiotA-14.eps
95 

Mr. COBLE. Mr. Fabian, you are recognized for 5 minutes. 


SpiotA-15.eps
96 

TESTIMONY OF MATT FABIAN, MANAGING DIRECTOR, 

MUNICIPAL MARKET ADVISORS, WESTPORT, CT 

Mr. FABIAN. Thank you very much, Mr. Chairman and the Committee, for inviting me here to speak. 

I will skip over the details of my bio in the first paragraph. But 

just to emphasize, Municipal Market Advisors, the company for 

which I work, is a pure independent research company, so we don’t 

buy or sell any bonds or securities. We don’t advise in that. We are 

just—the near entirety of our revenues come from the sale of research and subscriptions to that. 

Legislating State bankruptcy would certainly disrupt the current 

municipal bond market and undermine investor confidence going 

forward. We strongly believe that the municipal bond prices would 

fall, yields would rise, were States made able to file for bankruptcy. 

For longer-maturity bonds, interest rates could easily rise by 10 to 

20 percent versus current levels. Shorter-maturity bonds should 

weaken somewhat less. 

In large part, the yield increase belies the municipal industry’s 

already highly conservative practice in assessing credit and default 

risk. The prospect of State bankruptcy, however remote, requires 

a much more corporate-like measure of risk and reward. This is because bankruptcy within a Federal court makes vulnerable the robust protections for bondholders—for example, first payment priorities and senior liens on tax revenues now provided by State bond 

laws and State constitutions. 

The adjustment in yields could happen quickly, but any increase 

in rates, and thus increases in the cost of new infrastructure, 

would persist in the long term. From a policy perspective, this 

means upward pressure on State and local taxes, downward pressure on spending and State employment. 

While the impact would be greatest on States perceived to be 

most likely to file for protection, like Illinois and California, all 

States, including those who have well-managed pensions and budgets, would reasonably pay a substantive penalty while coming to 

market for new loans. In effect, all States would suffer for the perceived faults of a few. 

And because States and local governments are deeply intertwined with management of tax collections, spending and mandates, the impact would not be confined to just States but, rather, 

to all local governments. In addition, we would expect that school 

districts, which are essentially creatures of the States, rural 

issuers, and poor urban governments are those entities most dependent on State aid for revenue, would feel the brunt of investor 

rejection. 

It is difficult to isolate the threat of State bankruptcy as a variable amid the recent losses in the municipal bond market. It is also 

contesting with a weaker Treasury market, the pervasive headlines 

of looming collapse, and the poor communication between the industry professionals and our investors. But keep in mind that, despite these adverse vectors, long-term municipal yields, as described by the Bond Buyer 20 yield index of high-grade, general obligation credits, are still 125 basis points below their average over 

the last 30 years. So, in other words, while market participants are 

following the current debate extremely closely, they are not yet peVerDate Aug 31 2005 20:05 May 30, 2011 Jkt 000000 PO 00000 Frm 00100 Fmt 6633 Sfmt 6601 H:\WORK\COURTS\021411\64585.000 HJUD PsN: DOUG
97 

nalizing issuers to the extent that might be required should State 

bankruptcy become law. 

And while some observers have defined many States as already 

insolvent, professional market consensus does not support this 

view. Rather, the majority of institutional investors, municipal 

credit analysts, and issuer groups appear to be believe that States 

already retain sufficient abilities to manage their short- and longterm liabilities without need of bankruptcy or other potential forms 

of Federal bailout. Thus, the immense economic and political costs 

of a hypothetical State bankruptcy filing reasonably outweigh the 

need for such an extreme remedy. We agree with this view. 

Proponents of the bankruptcy legislation might argue that this 

law would simply add to the State managers’ toolbox as a strategy 

of last resort. Thus, investors who are more bullish over States’ 

economic or financial prospects could disregard the risk of any future filing. But this disregards the municipal credit analyst’s duty 

to focus on worst-case scenarios and to protect their portfolios, 

their investors, and issuers themselves from default. 

And, in practice, investors could not expect all elected officials 

within a State legislature to not at least discuss or threaten the 

use of bankruptcy while outside observers, political pundits, dedicated academics, journalists, and the like could be counted upon to 

remind the broader markets of the tool and its potential implications for various stakeholders. Thus, even an unused bankruptcy 

law would amplify related headline risk that has already been 

highly disruptive to normal capital market functions, exacerbating 

systemic illiquidity and pushing yields and spreads higher. 

Thank you very much. 

[The prepared statement of Mr. Fabian follows:] 

98 

Prepared Statement of Matt Fabian 


Fabian-1.eps
99 


Fabian-2.eps
100 


Fabian-3.eps
101 


Fabian-4.eps
102 


Fabian-5.eps
103 


Fabian-6.eps
104 


Fabian-7.eps
105 

Mr. COBLE. Thank you, Mr. Fabian. 

Mr. Brainard? 

TESTIMONY OF KEITH BRAINARD, RESEARCH DIRECTOR, NATIONAL ASSOCIATION OF STATE RETIREMENT ADMINISTRATORS, GEORGETOWN, TX 

Mr. BRAINARD. Chairman Coble, Representative Johnson, Members of the Subcommittee, I would like to wish each of you a Happy 

Valentine’s Day. 


Fabian-8.eps
106 

Mr. COBLE. Thank you. 

Mr. BRAINARD. Thank you for inviting me to testify today on this 

important matter. 

Given the unprecedented fiscal challenges facing all levels of government, the accuracy and integrity of information is vital. So I appreciate the opportunity to explain to the Committee how State 

and local pensions work. Unfortunately, much of the reporting on 

these retirement system seems drawn to those who lack this understanding or who use inappropriate methods and assumptions regarding their operation. 

On the whole, State and local government pensions are weathering the financial crisis and making measured changes to ensure 

long-term sustainability. Only a generation ago, most plans operated primarily on a pay-as-you-go basis. Since then, States and cities have worked to advance fund pension benefits by required employees and employers to contribute enough to a pension trust during their working years to pay for their pension benefit. This was 

done without Federal intervention and has largely been a success. 

By 2000, the assets in most public pension trusts equaled or exceeded expected pension payments. 

Public pension trusts are designed to weather market volatility, 

and have done so repeatedly over their history. Even at the market 

low of the most recent and unprecedented financial downturn, 

there was still over $2 trillion in public pension trusts. Since then, 

values have rebounded sharply, researching $2.8 trillion at the end 

of last year. 

The assertion that public employee pensions are contributing in 

a meaningful way to State insolvency is simply not supported by 

the facts. Spending on public pensions has consistently been a relatively small amount of State and local government budgets, slightly less than 3 percent, on average. Although this percentage varies 

by State, for all States but three the spending on pensions was less 

than 4 percent of budgets. For half of the States, it was less than 

21⁄2 percent. 

Similarly, reports citing pension-fund exhaustion dates for nearly 

every State are unfounded. The $2.8 trillion that State and local 

retirement systems hold in trust is roughly 14 times the amount 

these funds distribute annually. Public employees and employers 

contribute to these trusts. Even if they earned a relatively modest 

annual return of 6 percent, investment earnings alone would be 

enough to pay most of the benefits distributed each year. 

Predictions of widespread insolvency are inconsistent with findings of the professional actuaries who are certified to analyze these 

plans, as well as the findings of the Government Accountability Office, Center for Retirement Research at Boston College, Center for 

State and Local Government Excellence, bond-rating agencies, and 

others. 

Such predictions are also at odds with my own analysis that, 

using even conservative estimates, the typical fund can continue to 

pay benefits for 25 years—enough time for States to make necessary adjustments to restore their plan’s sustainability. Assuming 

a rate of asset growth consistent with historic market norms, most 

funds never run out of money. 

107 

Joshua Rauh’s calculation uses historically low interest rates and 

depressed asset values following the financial meltdown, and combines these factors with the unlikely assumption that States and 

cities will violate their own constitutional and statutory pension 

funding requirements. The outcome of his approach is implausible 

but attention-getting. 

Misrepresenting the true condition of the public pension community is, in my view, reckless and irresponsible and has caused needless confusion and turmoil among the public, policymakers, pensioners, and municipal bond markets. State and local retirement 

systems are highly transparent entities that publish audited annual financial reports in compliance with generally accepted accounting principles set forth by the Governmental Accounting 

Standards Board, with financial reporting standards set forth by 

the Government Finance Officers Association, in addition to sunshine laws in every State. 

Pension benefits and financing structures are being examined by 

States and cities across the Nation. A different range of solutions 

will be required for each, and a factual assessment is critical. State 

and local government retirement systems do not require, nor are 

they seeking, Federal intervention in this process. 

Joshua Rauh is the only individual I know of who is calling for 

Federal financial assistance for public pensions. His $75 billion estimate of the cost of Federal intervention ignores the cost to State 

and local governments, which would be far more significant. Predictions made on the basis of selective use of data, inapplicable 

methods and assumptions, and calculations in conflict with financial and pension fund history are unhelpful. They distract from the 

important businesses of discerning and responding appropriately to 

the situation. 

Mr. Chairman, thank you. I am happy to answer any questions. 

[The prepared statement of Mr. Brainard follows:] 

108 


Brain-1.eps
109 


Brain-2.eps
110 


Brain-3.eps
111 


Brain-4.eps
112 


Brain-5.eps
113 


Brain-6.eps
114 


Brain-7.eps
115 


Brain-8.eps
116 


Brain-9.eps
117 


Brain-10.eps
118 


Brain-11.eps
119 


Brain-12.eps
120 


Brain-13.eps
121 


Brain-14.eps
122 

Mr. COBLE. Thank you, gentlemen, and appreciate you all being 

with us today. We will now examine you all from our podium here. 

Professor Rauh, how much fiscal difficulty or trouble would there 

be if States—regarding the all new public employees—starting 

today were forced to have defined contribution as opposed to defined benefit plans? 

Mr. RAUH. Well, thank you very much, Chairman Coble. 


Brain-15.eps
123 

I just want to start off by saying that the witness Mr. Brainard 

presents some very misleading statistics. And perhaps this is not 

surprising given that he represents State retirement administrators, whose interests in this issue are at odds with those of the taxpayers. 

For example, it was claimed that pension contributions are a 

small share of State budgets. Three percent was the number that 

was thrown out. First of all, States are not making the contributions that they ought to be, even under their own accounting. So 

this is a bit analogous to looking at—it is like looking at a sample 

of households who have stopped paying principle on their mortgages and concluding that mortgages aren’t a problem for household finance because their principle payments are a low fraction of 

their spending. 

Second, a figure was cited as the fraction of spending. Well, that 

counts the deficits that the States are running. So it is like saying 

that someone who is living way beyond their means and running 

up a large credit card debt has a relatively small cash-flow problem 

because their actual credit card payments are small. 

And, finally, one-third of the revenue that he is counting on in 

that calculation is coming from you, actually, the Federal Government. So the assumption is that you are completely willing to pick 

up the pro-rata share of this tab based on the amount that the Federal Government has been sending to the States. 

So I would say, looking at all owned revenue, excluding transfers 

from the government, the contribution share is around 10 percent 

already, and it is going to have to grow substantially to pay down 

this debt. 

Mr. COBLE. Mr. Spiotto, I mispronounced your name earlier. I 

apologize for that. 

We saw recently in the Vallejo, California, case that, even in 

Chapter IX, the city was unwilling to reject its pension contract. 

Would a State be more likely to reject collective bargaining agreements in bankruptcy? 

Mr. SPIOTTO. The problem you have with trying to reject your 

collective bargaining agreements in bankruptcy is, the next day, 

you need an agreement with your workers as to what is fair and 

affordable to pay them going forward. And the problem with bankruptcy and the dynamics is that, in rejecting it, you create an equal 

issue of how do you pay for it going forward and what do you pay. 

And that is a significant problem. 

Vallejo filed in 2008. They went through a significant period of 

time, tried to negotiate a resolution of their labor issues, and it 

took them a long time. They are still in bankruptcy. They have a 

plan pending. The time, money, expense, confusion, and difficulties 

to the city was significant. 

Mr. COBLE. Thank you, sir. 

Professor, I didn’t follow you, whether you responded directly to 

my question. 

Mr. RAUH. Perhaps I did not. 

The answer to your question, which my understanding is, even 

if State and local governments froze all promises today, how deep 

of a hole would we be in, the answer is $3 trillion. The number 

124 

that we calculate is assuming that all future benefits are going to 

be fully funded and secured. 

So, even if all plans were frozen today and all future work were 

put on a defined-contribution-type plan, the number would still be 

$3 trillion. 

Mr. COBLE. Mr. Fabian, who holds most of the State and municipal paper currently? Or, in other words, if bond holders are 

crammed down, who is most likely to suffer? 

Mr. FABIAN. Well, households—in general, households own about 

a third of the municipal bond market directly and about another 

third of the municipal bond market through mutual funds. So, in 

general, it is individuals who own about two-thirds of the market. 

So they would, in theory, be the ones the most subject to a 

cramdown. 

Mr. COBLE. I got you. Thank you, sir. 

Mr. Brainard, do you believe any reforms are needed to the 

GASB rules to require States to accurately report their pension liability? Because I am told, oftentimes some of these have been 

laced generously with inaccuracy. 

Mr. BRAINARD. GASB has been—Mr. Chairman, GASB has, for 

the last few years, been considering a range of changes to State 

and local pension reporting requirements. And among the reforms 

that they are seriously considering at this point is a modification 

to the investment return assumption the plans use to discount 

their future liabilities. That modification appears sound to me. 

There are some other adjustments that they are considering with 

regard to how quickly public pension plans recognize investment 

gains and losses that, generally, we are not uncomfortable with. 

And very quickly you get into the range of GASB reforms that becomes eye-glazing material. I am not quite sure what level of detail 

you would like me to get into. 

Mr. COBLE. I thank you. My red light has appeared, so I will 

have to terminate. 

The gentleman from Georgia. 

Mr. JOHNSON. Thank you, Mr. Chairman. 

Professor Rauh—it is also Dr. Rauh, correct? 

Mr. RAUH. That is correct. 

Mr. JOHNSON. And, Doctor, in addition to your duties and responsibilities as an associate professor, you have some other professional responsibilities that you tend to. Isn’t that correct? 

Mr. RAUH. I don’t know what you are referring to. 

Mr. JOHNSON. Well, I mean, you do some consulting on the side, 

and you write papers for various groups. 

Mr. RAUH. For various groups? No, I have never written a paper 

that has been commissioned by a group, no. 

Mr. JOHNSON. Uh-huh. Well, who have you written—tell us some 

of the folks you have written papers for. 

Mr. RAUH. No, I don’t write papers for anyone. I write papers 

under my own name, and I present them at conferences, and that 

is all. I will occasionally—— 

Mr. JOHNSON. Well, let me ask you this. You make a little outside money in addition to your salary as a professor, isn’t that 

true? 

125 

Mr. RAUH. I receive—I have a small amount of consulting income. That is correct. 

Mr. JOHNSON. And you have your own consulting company? 

Mr. RAUH. No, I do not have my consulting company, no. 

Mr. JOHNSON. Now, who do you consult for? What companies pay 

you to consult? 

Mr. RAUH. I have not actually taken money from—I mean, okay, 

so—I am not sure whether this is an allowable line of questioning, 

but I can—— 

Mr. JOHNSON. Well, you inferred that Mr. Brainard had an interest in preserving the status quo, and I just wanted to explore what 

your interest is. 

Mr. RAUH. I have never worked for an organization that has any 

kind of stake in this particular—this matter, none whatsoever. 

Mr. JOHNSON. Well, what about politicians? Have you been working with any politicians on this issue? Members of Congress? 

Mr. RAUH. I was invited by Governor Schwarzenegger to go to 

Sacramento and present at a roundtable. 

Mr. JOHNSON. What about Members of Congress? Who have you 

been working for here? 

Mr. RAUH. I have not worked for any Members of Congress. 

Mr. JOHNSON. You have not consulted with any Members of Congress? 

Mr. RAUH. I received some e-mailed questions about the Public 

Employee Pension Transparency Act—— 

Mr. JOHNSON. Yes. 

Mr. RAUH [continuing]. From Congressman Nunes’ office. I answered those questions—— 

Mr. JOHNSON. Devin Nunes from California? 

Mr. RAUH [continuing]. For no fee. Yeah, I mean, I was e-mailed 

questions, and I answered the questions. 

Mr. JOHNSON. And these questions concerned the fiscal health of 

the State of California in so far as its pension liabilities are concerned. Isn’t that correct? 

Mr. RAUH. No. The questions that Congressman Nunes’ office emailed me were about simply my calculations that the unfunded liability was $3 trillion and just some explanations about how I arrived at that number. That was all. There was no money that was 

exchanged hands. 

Mr. JOHNSON. Now, you are of the opinion that the State of California is in big trouble with its pension obligations. 

Mr. RAUH. When one discounts the—— 

Mr. JOHNSON. Yes or no. 

Mr. RAUH. I don’t like to put the word ‘‘big trouble’’ on it. 

Mr. JOHNSON. Okay, but they have some issues. 

Mr. RAUH. Five hundred billion dollars of unfunded liabilities for 

the State of California. I think that is not a trivial amount. 

Mr. JOHNSON. And you believe that the Federal taxpayers may 

be asked to bail out California because of its unfunded pension responsibilities? 

Mr. RAUH. I think there are a number of States around the country—— 

Mr. JOHNSON. Is that true or is that false? 

126 

Mr. RAUH. California in particular? I think there is a chance that 

the Federal Government will be liable—will be asked to come to 

the assistance of California. And I think that part of the issue is 

that they have borrowed from public employees to the tune of $500 

billion above and beyond the assets that they have set aside to pay 

for those promises. 

Mr. JOHNSON. But now they also have—so your concern, you 

want to tie the States’ hands insofar as its relationship with its recipients of pensions and with its employees by allowing them to get 

out of trouble through a bankruptcy. Is that what you want to do? 

Mr. RAUH. Through a bankruptcy, no, no. I have said nothing of 

the kind. 

Mr. JOHNSON. You support California if it decided to avoid having to pay pensions because they have not funded their—they have 

borrowed money from their pension fund? 

Mr. RAUH. I have said nothing of the kind. In fact, I want to be 

clear. I do not call for cuts in benefits that have already been promised. All of the proposals that I have made have been—— 

Mr. JOHNSON. You are just trying to keep the States from borrowing from their pension funds. Is that what your motivation is? 

Mr. RAUH. I am trying to stop the States from borrowing from 

public employees in a way that is not transparent to taxpayers. 

Mr. JOHNSON. And you figure the best way to do that is to allow 

States to avoid the pension obligation. 

Mr. RAUH. No, no. Avoid their pension obligations, no. I have 

never—— 

Mr. JOHNSON. That is what a bankruptcy would do, wouldn’t it? 

Mr. COBLE. The gentleman’s time has expired. 

Did you have one more question for him? 

Mr. JOHNSON. You know, I don’t understand, you are coming 

here to testify about allowing States to have an opportunity to file 

bankruptcy so that they can eliminate their pension obligations 

and thus won’t have to come to the Federal Government for bailouts. 

Mr. RAUH. With all due respect, sir, I think you are putting 

words in my mouth. I did not—my testimony was not about that. 

It was about how we got the situation we are in. The fact that 

States owe $3 trillion to public employees is a problem. 

Mr. COBLE. The gentleman’s time has expired. 

The gentleman from South Carolina, Mr. Gowdy, is recognized 

for 5 minutes. 

Mr. GOWDY. Thank you, Mr. Chairman. 

Mr. Brainard, I also want to thank you for reminding us it is 

Valentine’s Day. And in the long run, you saved us more money 

than all of the States cumulatively owe by that reminder. So thank 

you. If you saw a lot of people visually texting, it was because of 

your reminder. So thank you for that. 

Mr. Spiotto, you mentioned Bekins. You are concerned about the 

constitutionality of Federal involvement in State bankruptcies. Extrapolate on that for us. 

Mr. SPIOTTO. Yes. The big problem with the Federal Government 

setting up a bankruptcy court for the States or a State is, one, it 

could only be voluntary because given the 10th Amendment, the 

127 

Federal Government cannot mandate that. Asked in Bevins, it is 

very clear on that from the Supreme Court. 

Second, there will be very limited power of any Federal bankruptcy court to really deal with any problem that the State has. 

And third, States probably, if they had to define their problems 

and put it into a hierarchy, they may have a small number of real 

problems in their creditor relations. And many issues they don’t 

want to overturn, they don’t want to tip over that relationship. And 

it is working quite well. 

And what bankruptcy does is throw them all up in the air and 

you have to find a solution to them. And it puts the State in a situation where it has to work through these problems in a system that 

doesn’t provide any additional funding to them, no additional tax 

source, and puts them in jeopardy and puts them with a cloud, 

which normally they have worked hard the last hundred-plus years 

to avoid; i.e., that they have met their obligations when they have 

had to and they have not failed to do so. 

And therefore, it puts a cloud without a mechanism to solve it. 

Mr. GOWDY. Mr. Brainard, if I am missummarizing your testimony, correct me. I thought I heard you say that you think that 

there is a sufficient amount of money available for the next 25 

years so long as changes are made in that quarter century to correct what I assume you would agree are some structural defects. 

What kind of changes would you like to see States make, and 

what has taken them so long? 

Mr. BRAINARD. Representative Gowdy, in any number of States 

some degree of reform is required. It is going to vary by State and 

indeed by individual pension plan. 

The National Conference on State Legislatures recently reported 

that in 2010, last year, an unprecedented number of States took action to modify their pension plans. This includes reducing benefit 

levels and increasing contributions either from employers but also 

from employees. 

So the solution is going to be unique, depending on the unique 

pension plan but generally it is a reduction in benefits and an increase in contributions from employees, employers or both. 

Mr. GOWDY. But you don’t disagree even with the professor that 

some systemic structural changes must be made. 

Mr. BRAINARD. In many cases. Not all. 

Mr. GOWDY. Professor, are there any trends among the States 

that are in the most serious trouble with respect to right-to-work 

status versus union status, Tax Code, regulatory code? Are there 

any trends with respect to the States that are in the most amount 

of trouble fiscally? 

Mr. RAUH. Well, the trend that I am seeing is that there is a serial correlation, if you will, where the States that have been in bad 

shape are kind of getting worse, particularly with we respect to Illinois which, you know, has simply not been addressing their pension problems, as well as New Jersey which simply has not been 

contributing. 

You know, I have observed—it was pointed out that North Carolina does not have unionized public employees at the State level. 

North Carolina is a State that is in reasonable shape with regards 

128 

to these matters. But I haven’t done a systematic study across all 

50 States to see whether you would find that correlation. 

Mr. GOWDY. What is ‘‘smoothing?’’ Is that a term that is used as 

people evaluate their pensions plans, and what is it? 

Mr. RAUH. ‘‘Smoothing’’ is the idea that instead of having to look 

at how much your assets are worth today when declaring your unfounded liabilities to the public, you can take an average over a 

certain number of years. And as a result, in times when the market 

is going up very quickly, the value of the assets that is being reported is understating the market value of the assets and in times 

when assets are going down very quickly it is overstating the value 

of the assets. 

Mr. GOWDY. I am out of time. Thank you. 

Mr. COBLE. I thank the gentleman. The Chair recognizes the distinguished gentleman from Michigan, Mr. Conyers. 

Mr. CONYERS. Thank you, sir. 

Point of order before the clock starts running. 

As the Chair knows, the PATRIOT Act is on the floor, the first 

thing up. And as has been our policy, we do not hold hearings in 

any of the Subcommittees when one of our bills is on the floor. 

Mr. COBLE. Well, I was told to be here at 4 o’clock, Mr. Chairman. That is why I was here. 

Mr. CONYERS. Yeah. But what are you going to do when the PATRIOT Act comes up on the floor? 

Mr. COBLE. Well, 5:30 I think is when it convenes, at 5:30. 

Mr. CONYERS. Oh, okay. 

But you agree with the principle that we do not have bills of the 

Judiciary Committee on the floor at the same time the Subcommittees are holding hearings. 

Mr. COBLE. I am not sure about it. I will take your word for it. 

Mr. CONYERS. But you have been here almost as long as me. I 

mean, Lamar Smith had that rule, Henry Hyde had that rule, Jim 

Sensenbrenner had that rule, and now you are not sure. 

Mr. COBLE. Well, I will state to you, if the gentleman will yield, 

I didn’t call the hearing. So hold me harmless for that. 

I think it has been a good hearing, by the way. 

Mr. CONYERS. It has been. I quite agree, sir. 

But we are starting not at 5:30 but in 10 minutes on the floor 

of the House. We just called and checked. 

So I don’t want you to get in trouble because you weren’t sure. 

I am here to help. 

Mr. COBLE. I stay in trouble, Mr. Conyers. 

Mr. CONYERS. Yeah. But I think we ought to summon the Chairman of the full Committee here to help us straighten this up, because I am the floor manager for the minority on the PATRIOT 

Act. Hank Johnson has already requested time to speak on the PATRIOT Act. And you are suggesting that we just stay here because 

you are not sure. 

Mr. COBLE. We are planning to adjourn at 5:20. But we need to 

get moving. 

Mr. CONYERS. No, that is unacceptable. 

I would make a point of order and ask someone to call in Lamar 

Smith because I don’t have an obligation to choose between this imVerDate Aug 31 2005 20:05 May 30, 2011 Jkt 000000 PO 00000 Frm 00132 Fmt 6633 Sfmt 6601 H:\WORK\COURTS\021411\64585.000 HJUD PsN: DOUG
129 

portant Subcommittee of yours and my managerial responsibilities 

on the House floor. Would you help me with that? 

Mr. COBLE. I am not sure. I can’t help you with it. 

Mr. CONYERS. You mean I just make a choice. Since I can only 

do one or the other, it is on me and not on the Committee. 

Don’t we have this in the rules somewhere, Chairman Coble? 

Mr. COBLE. Well, the Judiciary Committee is on the floor at 5:30, 

I am told, Mr. Conyers. 

Mr. CONYERS. Who told me 10 minutes from now? 

COUNSEL. The Intel Committee is up first. The Judiciary Committee is at 5:30. 

Mr. CONYERS. Okay. That is good enough for me. And I always 

take the counsel for the Judiciary’s word for it. We have never had 

a disagreement yet. And I thank you, Mr. Chairman. 

Mr. COBLE. Thank you. 

Mr. CONYERS. Now, let’s begin to see if we can thread together 

where we have areas of agreement here. 

Here is the Manhattan Institute. More than half of all State expenditures go to Medicaid, K-12 public school aid, and other transfer payments. These are the areas, not current pension bills or debt 

service, that have been the prime source of unsustainable and 

unaffordable spending growth in State budgets. True or false. 

Mr. Brainard? 

Mr. BRAINARD. Representative Conyers, I am not an expert on 

State finance but that is my understanding, is that K-12, higher Ed 

and Medicaid make up the bulk of State and local spending. 

Mr. CONYERS. Matt Fabian, true or false? 

Mr. FABIAN. I say true to that. 

Mr. CONYERS. Thank you. Attorney Spiotto, true or false? 

Mr. SPIOTTO. That is my understanding. 

Mr. CONYERS. Right. 

Professor Rauh, true or false? 

Mr. RAUH. On spending, yes, States have spent more on those 

things than on other things. But you can’t look at this like spending. This is debt, and it is like debt that is not being paid. 

Mr. CONYERS. True or false? 

Mr. RAUH. I think I didn’t understand the question. 

Mr. CONYERS. You can say ‘‘false.’’ It is okay. 

Mr. RAUH. I mean, I think if I understand the question. 

Mr. CONYERS. Well, then why don’t you agree with everybody 

else and say ‘‘true’’? 

Mr. RAUH. Have they spent more on that than on pensions? 

True. Will they have to spend more on pensions than on this? Yes, 

they will have to spend more on pensions in the future. 

Mr. CONYERS. But you didn’t answer my question, sir. My question is true or false. 

Mr. RAUH. I will give you true. 

Mr. CONYERS. Well, thank you. Thanks for your cooperation. 

Because the Manhattan Institute is a—have you heard of the 

Manhattan Institute? 

Mr. RAUH. [Nods head.] 

Mr. CONYERS. Do you acknowledge that they are a pretty conservative think tank organization? 

130 

Mr. RAUH. I don’t understand why their politics would have any 

bearing on this. 

Mr. CONYERS. I didn’t say it was political. I said that they were 

conservative. 

Mr. RAUH. Is that so? I didn’t know. 

Mr. CONYERS. I see. All right. 

Let me ask you this: Have you heard of attorney Joe—the late 

attorney Joseph Rauh. 

Mr. RAUH. Yes, I have. 

Mr. CONYERS. And your name is Rauh. 

Mr. RAUH. Yes, it is. 

Mr. CONYERS. Are you two related? 

Mr. RAUH. Not that I know of. 

Mr. CONYERS. Well, wait a minute. Everybody commonly knows 

all Rauhs are related. I mean whether they know it or not. 

Do you realize that he might be turning over in his grave now 

to be hearing your testimony? 

Mr. RAUH. I don’t know why that is here or there. 

Mr. CONYERS. No. It isn’t here, it is irrelevant. But don’t you 

think that the late Joe—who used to testify before this Committee. 

Mr. RAUH. I think the late Joseph Rauh would actually care 

about the fact that what we have all—all the promises, the unfunded promises that have been made are going to have to be paid 

back in the future and that that is going to crowd out spending on 

essential public services like schools and education. 

Mr. CONYERS. Perhaps he would. 

But I am happy—do you acknowledge any possible relationship 

between you, the late Joe Rauh that I knew pretty well, and my 

pleasure in meeting you this afternoon, between you and him? 

Mr. RAUH. Do I—I have never met him. I know of his name. I 

am not quite sure what you are asking, sir. I don’t know of any relationship between us. 

Mr. CONYERS. I will explain it to you. 

When I meet people named Conyers, and some I don’t know, 

guess what. They ask are we related. I don’t say I don’t know. I 

say all Conyers are related. They didn’t go into probate court and 

change their name to ‘‘Conyers’’ and neither did you. So I think it 

is fair to assume that there is some relationship, don’t you? 

Mr. RAUH. Sir, genealogy is not my area of expertise. I really 

don’t know if we are related or not. 

Mr. CONYERS. Would you be interested in finding out? 

Mr. RAUH. Sure. 

Mr. CONYERS. Well, thank you. I want to help you in that respect, if I can. 

I thank you, Mr. Chairman. 

Mr. COBLE. The gentleman’s time has expired. 

The gentleman from New York, Mr. Reed, is recognized for 5 

minutes. 

Mr. REED. Thank you very much, Mr. Chairman. 

I am not going to inquire about anybody’s familial relations with 

anyone else. I am really concerned about the issue that we are facing with the unfunded liabilities that are facing our Nation. 

As a city mayor, I saw this issue firsthand. I saw GASB 45 and 

its requirement that we disclose our unfunded liabilities and try to 

131 

quantify that. And when I did that as a mayor, I tell you my eyes 

popped out of my head because I said shame on my predecessors 

who never dealt with this issue and who now are saddling me plus 

the children of my community with these debts. 

So I am very comfortable in coming to the conclusion that we 

have a serious problem when it comes to this issue. Even Mr. 

Brainard, you indicated in your written testimony even today that 

even under conservative estimates the median State pension fund 

is able to pay benefits until 2030. You said 25 years today. So 2035 

I guess is your verbal testimony. 

So my question is, and I do recognize the concern about—I do 

recognize the concern about bankruptcy. And I want to make a 

note. I believe the State of California issued IOUs. A great State 

of our Union had to go to IOUs to meet its monetary obligations. 

That is very scary to me. And as a freshman Member of this Congress, that puts generations of children in jeopardy that America 

will not be here because States such as California are coming up 

with different types of currency to cover their obligations. 

So I don’t want to make light of this issue. This is a serious 

issue. And it is part of a bigger problem that we are facing in this 

Nation. 

So I recognize the issue with bankruptcy, and I recognize the 

issue that that will send, reviewing your written testimony, to the 

municipal bond markets and the fact that people may look at that 

investment as something where historically it has always been 

looked at as a secured investment, something that is going to keep 

the rates low because they are going to fulfill their obligations. 

So I am interested in talking to any of you. I guess I will start 

with Mr. Spiotto. 

H.R. 567 appears to be a solution that is on the table about requiring transparency on the issue of unfunded liabilities. 

Do you have any comments on H.R. 567? 

Mr. SPIOTTO. Thank you. 

I think transparency is always a good thing. And one of the 

things that the municipal market has striven for over the years is 

more and more transparency. One of the questions is what is the 

price or the cost of it. And as you mentioned, GASB 45 was helpful 

in bringing to the forefront that issue. And I think that municipal 

issuers have, over a long period of time, tried to make sure that 

the investors understood what the costs are. And so I think that 

bill is an interesting bill from the standpoint of providing some impetus for more disclosure. 

Mr. REED. I appreciate that. 

Professor Rauh, do you want to comment on that? 

Mr. RAUH. Yes. Well, I mean to comment on the bill, the Public 

Employee Pension Transparency Act, I think this is a critical step 

forward because, you know, if States are going to be running large 

hidden budget deficits and subjecting Federal taxpayers to the risk 

that in the future there will be requests for bailouts, then it is very 

important for the Federal Government and Federal taxpayers to 

understand just the size of the unfunded liabilities. And I think 

that the Public Employee Pension Transparency Act, H.R. 567, is 

a very critical step forward toward doing that, and it would calculate the liabilities the way that we calculate them. 

132 

Mr. REED. I appreciate that input. 

Mr. Brainard, you said that one way that you would look forward 

to the States dealing with this issue is that they would renegotiate 

their relationships with their employees and employers with reduction of benefits, increases in contributions. That would be a contractual renegotiation, would it not? 

Mr. BRAINARD. Representative, with respect, I don’t think I used 

the word ‘‘renegotiate.’’ 

Mr. REED. How do you get to reduction of benefits, increases in 

contribution to deal with the problem that you are proposing to us 

as a solution that would deal with the issue? 

Mr. BRAINARD. The levels of protection, benefit levels and contribution rates vary by State. And in some States those levels of 

protections are more lax, and in other States they are more ironclad. So to this point I am not aware of a State that has modified 

their benefit structure or financing arrangement that is in contravention to the State constitution or statutes. Those States in 

which that is permitted, some have taken advantage of it. 

Mr. REED. So what you are referring to is the State legislative 

makeup that allows the benefits to be redesigned legislatively? 

Mr. BRAINARD. Yes, sir. 

Mr. REED. Okay. But in the collective negotiation contracts with 

employees, that would have to be reopened up, would it not? 

Mr. BRAINARD. Well, in cases where employees have the right to 

bargain collectively; for example, California, public employee 

groups, my understanding is last year a number of them provided 

concessions. 

Mr. REED. So voluntary concessions that they would have to 

come to the table to deal with the issue. 

Mr. BRAINARD. Yes, sir. 

Mr. REED. Okay. I see my time has expired. 

Thank you, Mr. Chairman. 

Mr. COBLE. I thank the gentleman from New York. 

The Chair recognizes the distinguished gentleman from Illinois 

for 5 minutes. 

Mr. QUIGLEY. Thank you, Mr. Chairman. 

Mr. Chairman, I sure don’t need to be convinced that this is a 

serious problem. I come from Illinois, which seems to compete with 

California to dive off the cliff like lemmings in not recognizing this 

as a serious problem. And I see it as, you know, years of neglect. 

And in Illinois, it is 20, 30 years of underfunding and having ridiculous rules about what people think they can do in providing, in 

some cases with all due respect, sweetheart deals to some folks 

that put this system in this vein. 

It wasn’t until the economic downturn that this really came to 

light. The economic downturn is blamed for this, but in reality that 

is only part of it. I mean, the symptoms were there and we weren’t 

paying attention. The economic downturn just made it so much 

more dramatic. 

And as part of the larger picture, State and local governments 

as a whole in terms of financial management or forgetting the story 

of Jacob in Genesis that during the 7 good years, you should save 

for the 7 lean years. So we know how we got there. 

133 

But there is some nuance here. This is my second hearing on this 

in less than a week. One more and I get a set of steak knives, I 

am told. But everyone seems to be kind of in the middle. There is 

not going to be a bailout and States need to recognize that and act 

accordingly. They need to reinvent themselves, streamline, consolidate, and reform, including their pension plans. 

But to bankruptcy, I have just heard so many concerns within 

the bond market and among many others about the ramifications 

on that. 

So if I could start briefly with you, Mr. Fabian, you seem to 

speak of what is almost a contagion if there is not just bankruptcy 

but do you also see that potential if pension funds had something 

more than a big hiccup in terms of affecting the bond market not 

just in the 8 to 10 States that are problematic but beyond? 

Mr. FABIAN. So the question is about an event happening within 

the pension funds? 

Mr. QUIGLEY. Short of a bankruptcy. 

Mr. FABIAN. Sure. 

Well, the municipal market right now—the issue of bankruptcy, 

the issue of a collapse is something that would affect the market 

regardless. The municipal market right now is particularly vulnerable because we have been under a fairly intense media assault, a 

warning of a looming collapse of the market. So this fear of bankruptcy is for sure attracting the attention of everyone in the market. Certainly all of our subscribers and probably many more. 

The idea of something outside of bankruptcy, I am not exactly 

sure what that might be but I am thinking of—— 

Mr. QUIGLEY. Defaults? 

Mr. FABIAN. On the pensions? 

Mr. QUIGLEY. Well, some major financial hiccup in that vein. 

Mr. FABIAN. The one thing—there is a study on—— 

Mr. QUIGLEY. Payments on loans for those bonds. 

Mr. FABIAN. The way that most States are set up—actually Illinois is an excellent example. For Illinois to actually—what Illinois 

does is they actually sequester cash about a year ahead for the 

debt service that is due over the coming year. And they have the 

access, the first access to all revenues of the State regardless of 

where they came from to fill up that fund. And that fund can’t be 

used for any other purpose. And it is a monthly set-aside. So and 

just in case the legislature doesn’t actually appropriate or the governor doesn’t appropriate, there are mechanisms to do it for them. 

So the risk of them actually defaulting on their bonds is extremely low. It is hard actually to see the scenario in which they 

would. 

With Illinois, there is a study by the Boston College Center for 

Retirement Research which shows that, you know, were Illinois to 

just continue to underfund its pension, in 2022 to 2027, I believe, 

their cost of converting from a pension fund, which is a simply 

PAYGO system of pension funding, would increase the—it would 

cost about an additional 12 percent of the State’s budget. 

Mr. QUIGLEY. I don’t mean disrespect. I am just short on time. 

We are all leaving. 

134 

To put that to you, Professor, the problem that Mr. Fabian talked 

about earlier to the bond market of bankruptcy and affecting all 

the States, not just the 8 to 10 who have been bad apples. 

Mr. RAUH. I think the risk is that we are referring to if there 

is no bankruptcy code introduced then the risk that one is looking 

at at that point is you know what happens if a few years down the 

line, you know, when some States have been relying even more on 

borrowing to fund pensions if the muni markets at that point say 

you know what, we have had enough of this and we are not interested in buying the new bonds at an auction. 

And just to give a perspective, I mean if you look at bonds on 

Greek debt, you know, a month before the Greek crisis that erupted in Europe and the European debt crisis, the spreads were really 

small over German bonds. Those bonds were trading very close to 

looking like German bonds. And then all it really took was a couple 

auctions where investors weren’t interested. And all of a sudden 

the rates spiked and then there was contagion. 

So I think the risk of contagion is there a bankruptcy code or not. 

Mr. QUIGLEY. Thank you. 

Mr. COBLE. The gentleman’s time has expired. 

The distinguished gentleman from Florida, Mr. Ross, is recognized for 5 minutes. 

Mr. ROSS. Thank you, Mr. Chairman. 

Professor Rauh, from tone of what I have heard, I appreciate Mr. 

Brainard wishing us a Happy Valentine’s Day, I can just about bet, 

though, you are not on his Christmas card list. 

But more importantly, as I have read some of his reports, he indicates that on the whole State and local pensions are weathering 

the financial crisis and making measured changes to ensure their 

long-term sustainability. It goes on to refer to a study authored by 

you saying it promotes confusion by mixing apples with oranges. 

And then goes on further to also say that the method used to determine future pension liabilities of States and localities is not recognized by governmental accounting standards. 

How do you respond to that, Professor? 

Mr. RAUH. Well, those governmental accounting standards are 

flawed in the perspective of finance, economics, and, frankly, common sense. 

Mr. ROSS. I guess what I am concerned about is that we are talking about government pensions. But yet on the private side, is 

there more uniformity for regulating or evaluating private pensions? 

Mr. RAUH. There is more uniformity and that is because there 

is also more Federal involvement. I mean of course the Federal 

Government explicitly insures defined benefit pension plans that 

are sponsored by corporations. And you know part of the 1974 

ERISA legislation that introduced that insurance was that a regulatory layer was also applied where companies had to calculate 

their liabilities using certain assumptions and they also had to contribute to the funds under certain pre-specified assumptions. 

With State and local pension plans, we are kind of operating 

under the idea that the States are on their own and therefore they 

haven’t been regulated up until now. And I think that the Public 

135 

Employee Pension Transparency Act recognizes that there is some 

systemic risk. 

Mr. ROSS. So presently under the GASB, is there any statement 

of actuarial assumptions that must be made or disclosed by anybody who is accounting for the pension funds? 

Mr. RAUH. To be sure, there are some standards of practice that 

have to be followed. But there is also wide leeway. And in particular, I think the biggest problem is the expected return on 

planned assets and being able to assume that because your portfolio made 8 percent in the past it is going to make 8 percent in 

the future and then to write down, reduce the value of your debts 

as a function of that. 

If I go to a bank and try to take out a second mortgage and the 

bank rejects my application, I can’t go back the next day and say, 

look, I rebalanced my assets and now I am holding more equities 

which are going to have a higher expected return in the future, you 

know, will you reconsider. 

Whereas for State and local governments, the fact that they can 

assume 8 percent returns in their portfolios allows them to reduce 

the value of the debts that they are stating to the public, and these 

standards misrepresent the value of the liabilities. They misrepresent how much State and local taxpayers owe to public employees. 

It is often beyond what is being set aside. 

Mr. ROSS. As I understand it, there is no uniformity between 

States in terms of their accounting practices of their pensions. 

Mr. RAUH. Well, there are some frameworks that all of the States 

follow because they are voluntarily following the GASB recommendations. But I mean to give you an example, I mean there 

is something under GASB called the actuarially required contribution. But of course you know the State of New Jersey contributed 

5 percent to the actuarially required contribution to its teacher and 

police fund. So in what sense is that required. It isn’t really required. 

Mr. ROSS. It is a relative term. 

Mr. RAUH. I like to call it a recommended contribution. 

Mr. ROSS. Mr. Brainard, the Public Employee Pension Transparency Act that we have talked about, you shouldn’t have any objection to that, should you, or your members? 

Mr. BRAINARD. Representative Ross, we do object to it. 

Mr. ROSS. I mean why? If it is going to make it more uniform, 

more accountable and, more importantly so that the pension recipients are going to have some idea of what is being done with their 

plan and the posting of 20-year plan of the actuarial assumptions 

made, what would be wrong with that? 

Mr. BRAINARD. Representative, I understand the appeal on the 

surface. However, if you dig down a little deeper you will recognize 

that we believe, as has happened on the corporate pension side, the 

use of current interest rates, which is what this legislation proposes to measure public pension funding liabilities, introduces extreme volatility. 

Mr. ROSS. More so than the discount rate now being used? 

Mr. BRAINARD. Yes, sir, absolutely. The purpose for the discount 

rate currently in place as promulgated by GASB is to promote—to 

oppose volatility and promote consistency in the funding level. And 

136 

we believe that the introduction of current interest rates makes the 

condition of the pension funds a condition more of current bond 

yields than the underlying dynamics of the plan itself. 

Mr. ROSS. So you would assume then that the accountability of 

the government pension plan should remain status quo? 

Mr. BRAINARD. I think that government pension plans are accountable to the taxpayers in each of the States, sir. 

Mr. ROSS. And not to a board. 

Mr. BRAINARD. Well, those—— 

Mr. ROSS. An appointed board. 

Mr. BRAINARD. Representative, those boards are appointed by 

governors and legislative members and elected by—appointed by 

legislators and they work within a statutory framework that is approved of course by every legislature. 

Mr. ROSS. Would you recommend that any of your pension plans 

purchase any of the bonds issued by your States? 

Mr. BRAINARD. Representative, that is a very broad question. But 

there are many—my understanding of the municipal bond market 

is that there would be many prudent investment opportunities, yes, 

sir. 

Mr. ROSS. Thank you. 

Mr. COBLE. I thank the gentleman from Florida. And I thank the 

Members for staying with us to the last doll is hanged. I would be 

remiss if I did not extend Happy Valentine’s greetings to each of 

you. Thank you for your testimony. 

Without objection, all Members will have 5 legislative days to 

submit to the Chair additional written questions for the witnesses 

which we will forward and ask the witnesses to respond as promptly as they can do so, so that their answers may be made a part of 

the record. 

Without objection, all Members will have 5 legislative days to 

submit any additional materials for inclusion in the record. 

With that, again, I thank the witnesses and those in the audience, and this hearing is adjourned. 

[Whereupon, at 5:30 p.m., the Subcommittee was adjourned.] 

(137) 

A P P E N D I X 

MATERIAL SUBMITTED FOR THE HEARING RECORD

138 

Response to Post-Hearing Questions from Joshua Rauh, Ph.D., Associate Professor 

of Finance, Kellogg School of Management, Northwestern University, Evanston, IL 


64585E-1.eps
139 


64585E-2.eps
140 


64585E-3.eps
141 


64585E-4.eps
142 


64585E-5.eps
143 

f 


64585E-6.eps
144 

Response to Post-Hearing Questions from James E. Spiotto, Esq., Partner, 

Chapman and Cutler, LLP, Chicago, IL 


64585F-1.eps
145 


64585F-2.eps
146 


64585F-3.eps
147 


64585F-4.eps
148 


64585F-5.eps
149 


64585F-6.eps
150 


64585F-7.eps
151 


64585F-8.eps
152 


64585F-9.eps
153 


64585F-10.eps
154 


64585F-11.eps
155 

EXHIBIT A 


64585F-13.eps
156 


64585F-14.eps
157 

EXHIBIT B 


64585F-16.eps
158 


64585F-17.eps
159 

EXHIBIT C 


64585F-19.eps
160 

f 


64585F-20.eps
161 

Response to Post-Hearing Questions from Matt Fabian, Managing Director, 

Municipal Market Advisors, Westport, CT 


64585G-1.eps
162 

f 


64585G-2.eps
163 

Response to Post-Hearing Questions from Keith Brainard, Research Director, 

National Association of State Retirement Administrators, Georgetown, TX 


64585H-1.eps
164 


64585H-2.eps
165 


64585H-3.eps
166 


64585H-4.eps
167 


64585H-5.eps
168 


64585H-6.eps
169 


64585H-7.eps