We all knew that the pension funds of most of the cities is underfunded, but a recent research showed an even bleaker picture. The reesearch by Robert Novy-Marx and Joshua Rauh projects a nearly 50% higher level of unfunded pension liabilities than most cities acknowledge.
Presently the cities use the Entry Age Normal accounting that assumes that employees will retire at a normal age and NOT receive any increases in benefits thereby stating the lower pension liability. What makes the cities believe that employees will work without any benefit increases? The logic is completely flawed to begin with. It seems that the accounting method is chosen just to show a lower pension liability on the books and show a rosier picture to employees than the truth.
A much accurate system is the Present Value of Benefits accounting system, which assumes employees will retire at a normal age after receiving typical salary and benefit increases. Obviously using a more real assumption will lead to a higher pension liability but this would be closer to the true picture.
