As Brad Shannon reports in the Olympian, suggestions made by the state actuary for improving the solvency of the state pension system will result in a further squeeze on the state’s troubled budget.

In a new report, actuary Matt Smith recommends that lawmakers lower rate-of-return expectations on pension investments to about 7.5 percent over the next 50 years. The current expectation is 8 percent for the roughly $62.3 billion in pension funds that the Washington State Investment Board is managing.

The report, published late last month, also says assumptions about inflation, the rate of employee wage growth and the number of public employees should be tempered.

If implemented now, the change would be dramatic, but Smith calls for phasing the changes in over time.

Following Smith’s advice this year would boost the amount of taxpayer money that the Legislature must invest in employee pensions by $368 million in 2013-15 alone. Local governments would see increases of $298 million, and employees would pay $248 million more, according to Smith’s report.

However, Smith also is recommending a 10-year phase-in that would cost the state just $38.5 million in the 2013-15 budget cycle, with local governments paying an additional $32 million and employees $4.3 million.

The Research Council looked into pension in a policy brief we published last April. In Reforming Public Pensions, we examined various ways of estimating investment returns for pension systems. What may look like small differences magnify over time, with substantial implications.

The Center for Retirement Research at Boston University estimates that state and local public pensions were underfunded by about $700 billion in 2009, but some economists estimate the underfunding is really upwards of $3 trillion.The discrepancy occurs because states, including Washington, use the actuarial method of accounting in valuing assets and liabilities. Accordingly, Washington smooths gains and losses over an eight-year period and assumes a return on investment of 8 percent (it was increased from 7.5 percent in 2001). Eight percent is the average among the states (the lowest is 7 percent and the highest 8.5 percent). Using their assumed interest rates, states discount future benefit costs. In short, states are expecting that investment returns will lessen the need for contributions to cover benefits. This assumption downplays the risk that returns will be down in a particular year.

Washington is in much better shape than many states. Still, the actuary’s recommendation properly recognizes the increased risks. As has been said many times in other contexts, the future’s not what it used to be.