The Pension Crisis and Startups

Startup companies rarely show a net profit.  Because of that, they rarely pay tax on income.  This causes many startups to ignore local government waste and issues that they don’t think affect them.  But, those issues do ultimately affect them in different ways.

What’s standing in the way?

  1. Fear
  2. Really bad legislation that limits who can do business with the government
  3. Public unions

Pando Daily recently had an article that pointed out tech people should care about the public pension crisis.  Pension managers are under pressure and are responding by assuming more risk.  Public pensions are beginning to allocate more of their money to alternative investments.  Because more money is being allocated, it is driving up market valuations.  Public pensions also own a fair amount of public tech company stocks.  If there is a 2000 type crash their balance sheets might look even worse than they do today.

On the flip side, Wirepoints looked at the problem a little differently.  They focused on Illinois, but the situation is applicable to any municipality across the country.  The Public Pension crisis is a huge threat to the viability of tech startups. It’s a threat to the viability of almost every business, except big public corporations.  It is woefully difficult to prove why.

How is this relevant to a startup?

Joliet, for example, has $250 million in unfunded debt for public safety pensions and the city has already had to cut its work force by about 100 employees the past few years. Rockford owes $180 million and its manufacturing base is decimated. The list goes on and on.  Moline’s police fund was 41 percent funded in 2010. In Cairo, the firefighter system was 24 percent funded. As a group, police pensions outside Chicago were 56 percent funded in 2012, according to a Bloomberg article yesterday

Here is how it matters.  When some University of Illinois students did a study on how to create a self sustaining viable tech center in Chicago, the number one deterrent to attracting participants was violence.  But, detractors will argue, “Joliet isn’t Chicago”.   Technically they are right, but cities and suburbs are symbiotic and don’t exist in vacuums.

“But, startups don’t locate in areas where all this is going on.”, detractors say.  That’s true.  The perception persists.  The perception makes it harder to attract talent.  Occasionally, some of that violence spills over into the areas the startups do frequent.  Not very often, but once or twice a year.  Behavioral Economics and the way people mentally account for information magnifies the problem.

When the municipalities cannot afford to meet their pension debt two things will happen.  First, they will raise taxes increasing the cost of living and increasing the already high burden on taxpayers.  This will cause people to move away.  Second, they will cut back and lay off people.  Laying off policemen will increase the risk of living in a particular area.  Crime will most certainly rise.  That will cause people to move away.  Again, that’s going to make it hard for startups to attract and keep talented people.   It also increases the cost to run the startup.

The numbers bear me out.  States with a severe pension crisis lost citizens to other states.  California, New York and Illinois have lost population to places like Arizona, Nevada,  Texas, Tennessee and Florida.  This means readily accessible customers are decreasing.  Most startups are not geographically focused, but when there are “rats in the lab” next to your office its a lot easier to quietly test things and see what works.  Las Vegas, Austin and Nashville have nascent tech sectors that are beginning to grow.  TechStars even put a location in Tampa.

Decreasing population also changes the fabric and quality of life in a city.  Chicago is a great place.  It’s not great because of the big public companies that are located here.  It’s great because of the hot dog stands and unique local businesses.  When people leave it’s tougher for those businesses to survive.  The chains can afford to stay.

Silicon Valley and New York City both have great cultures that cannot be duplicated anywhere else.  They have access to quality of life geographical advantages unavailable to other cities in the US.  You can’t duplicate Carmel.  But, people are making tradeoffs.  They are leaving and visiting when they need a fix.

Here is the other problem.  Try debating or analyzing the issue and solving it. Public pension debt is boring to 99.5% of the people out there.  They use normative theory tied up in emotion to look at it.  “Police officers are good, so we should pay them.”  Or, “I don’t mind paying more taxes as long as it goes to teachers, police officers and fireman.”.  It’s the incorrect way to frame the problem.

Most of the mainstream press hasn’t looked at the problem honestly.  It doesn’t fit their narrative.  Because the problem is really hard to write about, or report in one minute soundbites, they have ignored it.  Reporting on balance sheets and income statements doesn’t sell.

Detractors will try to change the course of debate.  Instead of finding solutions, they debate how the discussion will be framed.  They inject emotion into it.  They try to get people fired up.  They mobilize fake factions to look like there is some sort of movement going on.  They deliberately make things difficult for the average person so they get bugged enough about it.

Most politicians will try to solve it like this:  “Well, we all have to pay our fair share.  We need public protection because I am tough on crime. We all voted to raise taxes to make sure the problem goes away and you will have nothing to worry about now.”.  That doesn’t work either.  Usually the real solution is tax hikes, along with issuance of more long term debt.  The problem still exists.

How should we solve it?  The only way is to privatize the bulk of public pensions. We can’t afford to offer defined benefit pensions to any public employee.  Additionally, employees need to pay more into their pensions.   We have to change cost of living increases, and change retirement ages because people are living longer.  The system is structured so taxpayers never feel the pain of increased size and scope of government until its too late.

States and cities also need to begin privatizing most of the things government does.  Detractors will point out the bad deal Chicago got on parking meters, but Chicago government is unlike most in the US.  States and cities have to adopt technology to decrease the size of their workforce.  Automation works in the private sector, it can work in the public sector too.  All governments need to decrease the tax burden on their citizens. Government spending has a negative or at the most a 1.o multiplier to GDP.  By decreasing the tax burden, more money can be used by private citizens to stimulate economic growth.

Decreasing taxes along with decreasing the size and scope of government will lead down the path to stabilization.  Ironically, this approach will create a lot of opportunities for entrepreneurs.  Government can actually participate in creating a local entrepreneurial ecosystem by limiting its size and scope. Ironically, Chicago is starting to do a good job of opening up data to try and create some efficiencies.

Finding the way out of the dark is scary to a lot of people because it will mean transferring power from a centralized government authority to individuals.  Individuals sometimes are scared when they become free to choose.

The other alternative is bankruptcy.  Having bankrupt government after bankrupt government after bankrupt government won’t be pretty either.  We don’t need a nation of Detroit’s.  I’d rather have freedom.




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