By Luciana Lopez
NEW YORK (Reuters) – Berkshire Hathaway chief executive Warren Buffett warned on Saturday that the growing crisis in public pensions will intensify, with "a lot" of bad news to come.
In his annual letter to Berkshire shareholders, Buffett said: "Local and state financial problems are accelerating, in large part because public entities promised pensions they couldn't afford. Citizens and public officials typically under-appreciated the gigantic financial tapeworm that was born when promises were made that conflicted with a willingness to fund them."
Buffett pointed out a 1975 memo he wrote to Katharine Graham, then chairman of The Washington Post Company, about the pitfalls of pension promises and the importance of investment policy.
In that memo, which is 38-1/2 years old, Buffett said the first rule regarding pension costs is "to know what you are getting into before signing up."
He wrote: "There probably is more managerial ignorance on pension costs than any other cost item of remotely similar magnitude. And, as will become so expensively clear to citizens in future decades, there has been even greater electorate ignorance of governmental pension costs."
Many state and local governments are struggling to meet their obligations to retirees, stemming from the economic crisis which put enormous pressure on state and municipal budgets as well as poor decision-making.
On Saturday, Buffett said: "During the next decade, you will read a lot of news – bad news – about public pension plans. I hope my memo is helpful to you in understanding the necessity for prompt remedial action where problems exist."
In the 1975 memo, Buffett said it is "next to impossible to decrease pension benefits in a large profitable company – or even a large marginal one."
He said that language allowing companies to terminate or alter their pension plans had been eroded by law.
Over the past year, Detroit's bankruptcy filing and then Puerto Rico's shaky finances – because of loss of industry, coupled with lavish pensions – have rattled investors and economists.
Last year, municipal bond funds hemorrhaged $62.6 billion in net outflows, according to Lipper, a Thomson Reuters unit. That's more than four times the previous outflow record of $15 billion in 1994.
But as the bonds have tumbled, yield-hungry investors have once again started diving in. Those funds have seen net inflows for six of the past seven weeks, their best such performance in a year.
"I think that the key issue for the municipal market is to distinguish the state and the local governments that have made changes and are paying in from the ones that haven't and have major problems," said Natalie Cohen, the head of muni research at Wells Fargo Securities.
"That's not to deny that it's not a problem," she said.
Moody's Investors Service, where municipal bond downgrades made up four of every five rating changes in U.S. public finance last year, said in January that despite increased stability overall, pockets of pressure remain throughout the country.
(Reporting by Luciana Lopez, editing by Gunna Dickson)