1. Invisible Windfall: The Distribution of Pension Wealth Enhancements During the 1990’s and Their Long-Run Consequences AEFP Annual Meetings Boston, MA March 15-17, 2012 Cory Koedel, University of Missouri Shawn Ni, University of Missouri Michael Podgursky, University of Missouri & GWBI Fellow 1

2. Invisible Windfall Like many other states, Missouri enacted large enhancements to teacher pension benefits during 1990’s Little analysis of the effects of these enhancements in any state Large windfall ($2.4b) and very unequally distributed. Experienced teachers had large windfall gains. Net benefits for young teachers much smaller and possibly negative. Benefits favored higher SES and low minority schools Peculiar structure of gains and elastic behavioral response of teachers likely to make ultimate costs much larger than anticipated (“peak value” to “peak plateau”) Teacher quality effects probably small and possibly negative 2

3. Invisible Windfall Like many other states, Missouri enacted large enhancements to teacher pension benefits during 1990’s Little analysis of the effects of these enhancements in any state Large windfall ($2.4b) and very unequally distributed. Experienced teachers had large windfall gains. Net benefits for young teachers much smaller and possibly negative. Benefits favored higher SES and low minority schools Peculiar structure of gains and elastic behavioral response of teachers likely to make ultimate costs much larger than anticipated (“peak value” to “peak plateau”) Teacher quality effects probably small and possibly negative 3

4. PSRS 1995 Formula factor 0.023, early retirement by 55-25 rule, COLA cap 65 percent 1996Implement unrestricted “25 and out” 1997COLA cap increased from 65 to 75 percent 1998 1999Formula factor raised to 0.025 for full retirement (with corresponding upward adjustments for early retirement) 2000Implement Rule of 80, FAS changed to highest three years of salary 2001COLA cap increased to 80 percent 2002Formula factor increased to 0.0255 if YOS ≥ 31 (new factor applies to all service years for eligible individuals) Table 1. Key Parameters of the Missouri Pension System, 1995 – 2002 (there were no changes after 2002). Initial Parameters as of 1995 are Reported in Row 1. 4 Key Enhancements

5. 5 Educators in public schools in the United States are nearly universally enrolled in defined benefit pension plans. Most plans are administered at the state level and share a common structure. The following formula is used to determine the annual benefit: Final Average Salary DB pensions: F = formula factor, YOS = years of service, FAS = final average salary Note: Missouri teachers (PSRS) are not covered by Social Security

6. 6 For each teacher the present discounted value (PDV) of pension wealth at time s, with collection starting at time j where j ≥ s, can be calculated as: Pension Wealth Real interest rate = 4%, Inflation Rate = 3% Salary growth modeled on MO data

7. Life Cycle Pension Wealth Accrual for Typical Teacher: 1995 Rules 7

8. 1996 Rules 8

9. 1999 Rules 9

10. 2000 Rules 10

11. 2002 Rules 11

12. 12 How Big Were the Gains?

13. 13 199519961997199819992000200120022003 20062009 Total K-12 Enrollment † 781,000792,000801,000809,000813,000811,000814,000 817,000 827,000 831,000 Teachers 49,49151,12552,92354,50455,94357,40058,25658,92659,699 60,904 63,411 Avg. Age 41.3 41.2 41.141.0 41.1 41.0 Avg. Experience 13.213.112.912.712.512.312.011.9 11.8 11.5 Avg. Current PW ($) 91,387104,300107,012109,080120,071127,348124,628126,078127,256 121,643118,439 Counterfactual (1995) N/A94,37695,56697,52798,86897,78695,22496,09397,740 94,97193,876 Difference --9,92411,44611,53321,20328,20329,40429,98529,516 26,67224,563 Avg. Peak-Value PW ($) 280,867284,146289,200291,923319,167331,929332,155337,180339,034 329,965340,489 Counterfactual (1995) N/A284,146285,720288,407290,111286,873285,583289,512291,118 283,370292,410 Difference---03,4803,51629,05645,05646,57247,66847,916 46,59548,079 Avg. Expected PW ($) 207,108 244,086 Counterfactual (1995) N/A 206,329 Difference--- 37,757 Teacher Contribution (% of Earnings) 10.5 11.513.0 Total Enhancement Value – Current PW ($ Millions) N/A5076066301,1861,6971,7131,7671,762 1,624 1,558 Total Enhancement Value – Peak Value PW ($ Millions) N/A01841921,6252,5862,7132,8092,861 2,838 3,049 Total Enhancement Value – Expected PW ($ Millions) 2,394 Table 2. Summary of Pension-Enhancement Effects in Missouri. Counterfactual Pension Wealth Computed Using 1995 Pension Parameters. 2009 Dollars.

14. 14 199519961997199819992000200120022003 20062009 Total K-12 Enrollment † 781,000792,000801,000809,000813,000811,000814,000 817,000 827,000 831,000 Teachers 49,49151,12552,92354,50455,94357,40058,25658,92659,699 60,904 63,411 Avg. Age 41.3 41.2 41.141.0 41.1 41.0 Avg. Experience 13.213.112.912.712.512.312.011.9 11.8 11.5 Avg. Current PW ($) 91,387104,300107,012109,080120,071127,348124,628126,078127,256 121,643118,439 Counterfactual (1995) N/A94,37695,56697,52798,86897,78695,22496,09397,740 94,97193,876 Difference --9,92411,44611,53321,20328,20329,40429,98529,516 26,67224,563 Avg. Peak-Value PW ($) 280,867284,146289,200291,923319,167331,929332,155337,180339,034 329,965340,489 Counterfactual (1995) N/A284,146285,720288,407290,111286,873285,583289,512291,118 283,370292,410 Difference---03,4803,51629,05645,05646,57247,66847,916 46,59548,079 Avg. Expected PW ($) 207,108 244,086 Counterfactual (1995) N/A 206,329 Difference--- 37,757 Teacher Contribution (% of Earnings) 10.5 11.513.0 Total Enhancement Value – Current PW ($ Millions) N/A5076066301,1861,6971,7131,7671,762 1,624 1,558 Total Enhancement Value – Peak Value PW ($ Millions) N/A01841921,6252,5862,7132,8092,861 2,838 3,049 Total Enhancement Value – Expected PW ($ Millions) 2,394 Table 2. Summary of Pension-Enhancement Effects in Missouri. Counterfactual Pension Wealth Computed Using 1995 Pension Parameters. 2009 Dollars.

15. 15 199519961997199819992000200120022003 20062009 Total K-12 Enrollment † 781,000792,000801,000809,000813,000811,000814,000 817,000 827,000 831,000 Teachers 49,49151,12552,92354,50455,94357,40058,25658,92659,699 60,904 63,411 Avg. Age 41.3 41.2 41.141.0 41.1 41.0 Avg. Experience 13.213.112.912.712.512.312.011.9 11.8 11.5 Avg. Current PW ($) 91,387104,300107,012109,080120,071127,348124,628126,078127,256 121,643118,439 Counterfactual (1995) N/A94,37695,56697,52798,86897,78695,22496,09397,740 94,97193,876 Difference --9,92411,44611,53321,20328,20329,40429,98529,516 26,67224,563 Avg. Peak-Value PW ($) 280,867284,146289,200291,923319,167331,929332,155337,180339,034 329,965340,489 Counterfactual (1995) N/A284,146285,720288,407290,111286,873285,583289,512291,118 283,370292,410 Difference---03,4803,51629,05645,05646,57247,66847,916 46,59548,079 Avg. Expected PW ($) 207,108 244,086 Counterfactual (1995) N/A 206,329 Difference--- 37,757 Teacher Contribution (% of Earnings) 10.5 11.513.0 Total Enhancement Value – Current PW ($ Millions) N/A5076066301,1861,6971,7131,7671,762 1,624 1,558 Total Enhancement Value – Peak Value PW ($ Millions) N/A01841921,6252,5862,7132,8092,861 2,838 3,049 Total Enhancement Value – Expected PW ($ Millions) 2,394 Table 2. Summary of Pension-Enhancement Effects in Missouri. Counterfactual Pension Wealth Computed Using 1995 Pension Parameters. 2009 Dollars.

16. 16 199519961997199819992000200120022003 20062009 Total K-12 Enrollment † 781,000792,000801,000809,000813,000811,000814,000 817,000 827,000 831,000 Teachers 49,49151,12552,92354,50455,94357,40058,25658,92659,699 60,904 63,411 Avg. Age 41.3 41.2 41.141.0 41.1 41.0 Avg. Experience 13.213.112.912.712.512.312.011.9 11.8 11.5 Avg. Current PW ($) 91,387104,300107,012109,080120,071127,348124,628126,078127,256 121,643118,439 Counterfactual (1995) N/A94,37695,56697,52798,86897,78695,22496,09397,740 94,97193,876 Difference --9,92411,44611,53321,20328,20329,40429,98529,516 26,67224,563 Avg. Peak-Value PW ($) 280,867284,146289,200291,923319,167331,929332,155337,180339,034 329,965340,489 Counterfactual (1995) N/A284,146285,720288,407290,111286,873285,583289,512291,118 283,370292,410 Difference---03,4803,51629,05645,05646,57247,66847,916 46,59548,079 Avg. Expected PW ($) 207,108 244,086 Counterfactual (1995) N/A 206,329 Difference--- 37,757 Teacher Contribution (% of Earnings) 10.5 11.513.0 Total Enhancement Value – Current PW ($ Millions) N/A5076066301,1861,6971,7131,7671,762 1,624 1,558 Total Enhancement Value – Peak Value PW ($ Millions) N/A01841921,6252,5862,7132,8092,861 2,838 3,049 Total Enhancement Value – Expected PW ($ Millions) 2,394 Table 2. Summary of Pension-Enhancement Effects in Missouri. Counterfactual Pension Wealth Computed Using 1995 Pension Parameters. 2009 Dollars.

17. 17 How Were They Distributed?

18. 18 Avg. Pension-Wealth GainsAvg. AgeAvg. Experience Gains Decile (lowest to highest) One 4,02139.04.7 Two12,78532.03.8 Three16,07231.64.4 Four19,67036.76.6 Five25,06540.38.8 Six31,99742.510.9 Seven40,99444.013.6 Eight52,68445.216.5 Nine69,76147.920.6 Ten104,52450.525.4 Table 3. Distribution of Enhancement-Driven Gains in Expected Pension Wealth Across the 2009 Teaching Workforce. Gains are Relative to Baseline Expected Pension Wealth Using the System Parameters and Exit Rates from the Pre-Enhancement Period. 2009 Dollars.

19. 19

20. 20

21. 21 Model AModel B Student Share on Free/Reduced Lunch -146.4 (11.6)* -117.9 (10.7)* Urban Middle/High -514.5 (1086.1) Suburb Elementary 3,958.2 (956.1)* Suburb Middle/High 1,593.8 (962.0) Rural Elementary -5,396.8 (756.1)* Rural Middle/High -6,263.9 (789.7)* Year 2009 R-Squared 0.010.03 N 59,249 Table 6. Relation between Enhancement-Driven Gains in Expected Pension-Wealth and Teachers’ Schooling Environments in 2009.

22. 22 Expected OutcomesPeak-Value Outcomes Contribu tions Pension Wealth Net Pension Wealth ContributionsPension Wealth Net Pension Wealth Teacher ProfilePension Regime Age Experience Pension Rules Expected Contributions 241199510.5374785145713,61484243185161100918 241Post-200214.5530526405512,09411365820897095312 Difference: 1557412598-29762941523809-5606 Teacher Internalizes District Cost 241199521.07495651457-23499168488 18516116673 241Post-200229.010610564055-42050227316208970-18346 Difference: 3114912598-185515882923809-35020 Table 5. Projected Total Pension Wealth for a New Teacher in 2012 under Different Pension Regimes and Contribution Scenarios. Entering teachers probably worse off

23. 23 Did they change teacher behavior?

24. 24 Teacher Turnover 1992-94 and 2006-08

25. 25 Conditional Distribution of Experience for Teachers Exiting With 20-40 Years Experience

26. 26 199320022007 Mean Experience 27.127.626.4 Median Experience 282928 Mean Age58.755.756.5 Median Age 595556 N87516121648 Experience and Age of Teacher Retirees: 1993, 2002, and 2007 (Missouri )

27. Conclusion 27