Much has been said about the trouble with public-sector pensions. Many state and local plans are underfunded and, unless policy and accounting changes are undertaken, some major plans will run out of assets to pay benefits over the coming years. That means these plans will have to operate on a pay-as-you-go-basis, forcing budgetary tradeoffs and tax hikes. Public-sector pensions often come with legal guarantees. For instance, Illinois and New York offer a constitutional guarantee of promised benefits.  Many other states offer statutory protections. That’s why economists make the case that pension benefits are like general obligation debt and should be valued and funded on a risk-free basis. 

Public employee health care benefits are a different story. These do not enjoy the same legal protections as pensions. And worse for workers, health care is where the real financial pressures are building. First, public employee health care benefits are largely unfunded and currently operate on a pay-go basis. The Pew Center estimates state health care benefits total $381 billion. Half of the states account for 94 percent of the liability, driven by the generosity of some state plans. These are pricey benefits for governments to offer their employees. Josh Barro finds that public employee health care plans offer lower deductibles, lower co-pays, and lower employee contributions for coverage than private sector plans. 

The problem may be even more acute in cities. A recent Pew Center report looked at 81 cities’ pension and health care costs. Thirty-two cities have no money set aside for health care benefits. Together these cities face an unfunded liability of $118.2 billion in health care costs. 

One of those cities is Chicago which faces retiree health care costs totalling $805 million. Pensions liabilities total $20 billion. (On a market valuation basis this is far higher.)

Chicago’s public-sector workers have a pretty good health care deal and enjoy a 55 percent subsidy. They like their plan, but they may not be keeping it. This week, the mayor’s office announced that change is on the horizon.

City Comptroller Amer Ahmed wanted to reassure the city’s 30,000 workers who “were worried we were gonna dump them onto some Obamacare thing we didn’t know anything about.“

Indeed, that is exactly what the mayor is planning to do. According to the Chicago Tribune, all city employees will be asked to either pay for their own insurance, or seek subsidies under the Affordable Care Act as of January 1, 2014, as part of a three-year transition off of the current benefit. There is an exemption for police and firefighters between the ages of 55 and 64 who are not yet eligible for Medicare and whose health benefits are guaranteed under a union contract. Those who retired before 1989 (about 5,500 retirees) are also exempt.

Spokesmen for the city’s unions expressed outrage and are hoping that he reconsiders the move.  

Is the mayor’s action an indication of what other cities may be considering as an exit strategy for the rising costs of employee benefits? Certainly it is going to be on the table.