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Home Publications Blogs Beat the Press Contrary to What the NYT Asserts, Not All Economists Believe that Pension Funds Assume Too High a Rate of Return

Contrary to What the NYT Asserts, Not All Economists Believe that Pension Funds Assume Too High a Rate of Return

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Friday, 08 July 2011 05:30

The NYT, which has repeatedly printed news stories implying that public pensions are hugely underfunded, wrongly implied that economists all agree that public pensions have overly optimistic return assumptions for their pension funds. This is not true. In fact, most pensions are now making assumptions that are completely consistent with the expected return on their assets based on widely accepted projections for the growth of the economy and the growth of profits.

In fact, it is almost impossible to produce a plausible set of returns (capital gains and dividend payouts) that is consistent with a substantially lower rate of return than what the pension funds are assuming. If the economists who claim that the pension funds are assuming too high a rate of return believed what they say, then they should be able to write out return projections that would support this contention in just a few minutes. Given the trillions of dollars at stake in this debate, laying out a set of return projections would seem to be a reasonable price for being taken seriously.

This argument is explained more fully in a 2005 Brookings Paper that I co-authored with Paul Krugman and Brad DeLong.

Comments (3)Add Comment
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written by BeckleyLawyer, July 08, 2011 6:36
Brookings paper link does not work.
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written by foosion, July 08, 2011 7:58
Google reveals the paper
http://www.fordham.edu/economics/mcleod/BakerDeLongKrugmanBPEA2005.pdf
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written by foosion, July 08, 2011 8:09
The two most common stock return forecasting tools are e/p and Gordon dividend model, both of which give real returns to which you can add inflation. Current bond yield is the most common bond return tool.

e/p: p/e was about 17x (5/31/2011), so e/p is 6%. PE10 is about 23x, so e/p is 4.5%

Gordon: dividend plus growth: dividend yield is about 2%. Long-term real growth per share is about 2%-3%, so 4%-5%

Bonds: 30 year TIPS are 1.7% real and 30 year nominal are 4.3% real. This implies an inflation rate of 2.6%

Real stock returns should be in the 5% range and real bond returns in the 2% range. Nominal returns should be about 7.5% and 4.5%. A 50/50 or 60/40 portfolio would be about 3.5% real or 6% nominal.

All this comes with a large degree of uncertainty.

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About Beat the Press

Dean Baker is co-director of the Center for Economic and Policy Research in Washington, D.C. He is the author of several books, his latest being The End of Loser Liberalism: Making Markets Progressive. Read more about Dean.

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