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Mass. needs more realistic goal for pension fund returns

 State Treasurer Steve Grossman wants lawmakers to trim the annual pension rate of return to 8 percent.
State Treasurer Steve Grossman wants lawmakers to trim the annual pension rate of return to 8 percent.(Dina Rudick/Globe Staff)

In some ways, lowering expectations for returns on the state’s pension fund investments is an easy call. Current state law requires the Massachusetts pension board to assume an 8.25 percent annualized rate of return, but in recent years that has come to seem too optimistic. Massachusetts needs to start stepping its pension expectations down — but in a deliberate way, to limit the impact on government agencies that will need to contribute more.

State Treasurer Steve Grossman is now asking lawmakers to trim the target to 8 percent, the number used by many public pensions in the country. This is a reasonable first step. Setting too high a target lets policymakers off the hook; in effect, they can promise public workers benefits funded with money that probably won’t materialize. A more cautious target reduces the risk that future taxpapers will be left with the tab for today’s pension promises.

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Massachusetts’s pension funds have averaged a nearly 9.6 percent annual return since 1986. Public plans across the country have averaged an 8.5 percent return over a similar period. Yet returns in the most recent decade have been tepid, and states that aim too high often end up making riskier investments in the hope of hitting their target.

Proponents of deeper and faster rate cuts argue that 8 percent is more than what most private funds and many public ones hope for. California reduced its target from 7.75 to 7.5 percent; Rhode Island went from 8.25 to 7.5 percent.

Still, there is plenty of guesswork involved —­ and there are reasons not to go below 8 percent too quickly. Assuming less money from investments forces cash-strapped state and local governments and future pensioners to start socking away more money immediately. This is a stiff challenge amid a tentative recovery.

Over time, though, Massachusetts’ $50 billion pension fund must somehow make up an estimated $24 billion shortfall, a gap created by a combination of recent poor returns and the increasing lifespan of beneficiaries. If the expected return drops to 8 percent, the gap will grow by another $1.7 billion.

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Unfortunately, lawmakers have sent mixed signals about the urgency of the problem. A set of pension reforms last year should help; they provide less generous benefits to new public workers, and increased contributions from beneficiaries and the state. Yet the Legislature also stretched out the deadline for full funding of pensions until 2040, and it increased the portion of public pensions that are subject to cost-of-living increases. Money that goes into pension increases is money the state can’t spend on education and infrastructure.

Lawmakers need to signal that the state is taking its obligations seriously and dutifully chipping away at them every year. For now, that means moving the target rate to 8 percent — and reserving the option of going lower if the evidence dictates.