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How to Build a High-End High-Rise

A Step-by-Step Guide

September, 2016

So, you want to build a high rise. Maybe you’ve got a couple hundred million dollars burning a hole in your pocket and an acre or two of vacant land in Kakaako, and you’re wondering: How can I get in on the action? Right now, a half-dozen high rises are going up around town, and another handful getting ready to break ground. So, just in case you were thinking of adding your own giant condominium tower to the Honolulu skyline, we’ve made it easier for you by putting together this step-by-step guide.


The obvious approach would have been to follow the construction of a single high rise from beginning to end. Unfortunately, the typical high rise takes almost three years to build, and that’s not counting the many years it usually takes for permitting or design. But we didn’t want you to have to wait that long.

It turns out that, as part of its Ward Village development, the Howard Hughes Corp. has three high rises going up right now, all within a couple of blocks of one another, and all in different stages of construction.  Waiea is almost complete; Anaha still has about six months to go; and Aeo is just coming out of the ground. That gave us a convenient way to telescope the process of high rise construction, dividing it into three stages. Along the way, we focus on parts of the construction that highlight just how much you’re going to have to depend on distant, often unseen partners to build your high rise.


STEP 1
COMING OUT OF THE GROUND

Before you start to build, you have to prepare the site. If you’re lucky, you start with bare dirt. More likely, you’ve got old structures to demolish, and pavement or old concrete slabs to remove. Even then, you’re probably not done. Much of Kakaako was built on low marshland. Aeo’s property, for example, was only a few feet above the water table. To gain a little elevation, the general contractor, Layton Construction, trucked in thousands of tons of gravel fill, then spent weeks compacting the ground so it would bear the enormous weight of the building. That also makes it possible for the backhoes to trench so you can bring in utilities from the street.

In a sense, though, construction starts with a soil scientist boring test holes in the ground. This is crucial, because your skyscraper is going to perch atop scores of narrow concrete piles that reach as far as 90 feet below the surface. These are augur-cast pi-lings, meaning they’re drilled into the ground with a powerful augur, then, the resulting holes pumped with concrete as the augur is removed. While the concrete is still wet, a cage made of reinforced steel bars – rebar – is lowered into the hole. Once the concrete cures, you’ve got a piling.

It’s the friction of the earth against the rough surface of these pilings that actually holds your skyscraper in place. That’s why you need so many. It’s also why the soil engineer is crucial. By studying the soil beneath the building, she calculates how much friction it will generate. That determines how deep you have to bore the holes for your piles. In some places, it might be 60 feet; in others, nearly 100 feet.

The deeper you have to dig, the more time it takes and the more concrete and steel you have to use. That all costs more money.

Once the pilings are in, they’re tied together by pile caps and grade beams. “Grade beams” is a misnomer, because they eventually lie below grade. Trenches are dug to expose the tops of the pilings, then lined with plywood or steel formwork, and filled with concrete and rebar. When the concrete sets, the formwork is removed and the trenches backfilled with gravel and dirt.

Pile caps are similar, but they tie together pilings that have been clustered to support major load-bearing features, like the elevator shaft or structural columns. Once the grade beams and pile caps are in place, the slab can be poured to tie the whole structure together.

Congratulations, your high rise has come out of the ground.

Left: Much of Kakaako is close to sea level. At high tide, the areas excavated for pile caps and grade beams can fill with salt water. Right, top to bottom: 1. Trenching reveals how much fill is used. 2. Clusters of piles exposed for pile cap. 3. Exposed rebar, ready for the next course of forms and concrete. 4. Building a high rise starts with digging.

Left: Much of Kakaako is close to sea level. At high tide, the areas excavated for pile caps and grade beams can fill with salt water. Right, top to bottom: 1. Trenching reveals how much fill is used. 2. Clusters of piles exposed for pile cap. 3. Exposed rebar, ready for the next course of forms and concrete. 4. Building a high rise starts with digging.

 

STEP 2
GOING UP

The articulating boom that delivers concrete to the top of the building is directed by remote control.

The articulating boom that delivers concrete to the top of the building is directed by remote control.

Congratulations, your high rise has come out of the ground. Thus begins the rhythm of construction. Floor after floor, formwork is built over the stubs of walls and structural columns. Rebar cages are fabricated and lowered into place. Utilities are led through conduits and ductwork. Then comes the slurry of concrete. The floors are poured, and the formwork filled, and the walls gradually rise, always with a toothsome row of rebar jutting out the top, ready to accommodate the next course of formwork and concrete. In fact, this is where it becomes clear that, although your high rise may ultimately look like it’s made of glass and steel, at heart, it’s a colossus of reinforced concrete.

1. Hoppers of extra concrete are hoisted by crane. 2. The concrete pump boom swivels on a tower of its own. 3. Until the new concrete has cured, the floor is supported by a forest of jackstands.

1. Hoppers of extra concrete are hoisted by crane.
2. The concrete pump boom swivels on a tower of its own.
3. Until the new concrete has cured, the floor is supported by a forest of jackstands.

One striking feature  to most modern high rises is the  engineering in the floors. They may look like simple slabs, but technology has evolved to make them thinner so you need less concrete and can have more headroom and more floor space to sell. You’re going to use the same method to strengthen your floors that they do at Anaha: post-tensioning.

Concrete is heavy and, when you pour a big slab, it tends to sag in the middle. This creates tension in the concrete and, while concrete is very good at handling pressure, it doesn’t take tension well. (That’s why concrete is always reinforced with steel.) To correct for sagging, hundreds of powerful cables are run through conduits in the floor and the concrete is poured over them. When the concrete is hard enough, jacks are used to pull the cables tight and the ends are secured to the edges of the floor. The effect is like a trampoline, with the post tensioning putting the concrete into compression instead of tension. In the old days, it used to take 14 days for the concrete to get hard enough. With modern concrete, the floors are ready in two to three days, greatly accelerating construction.

One key feature of high rise construction is the ability to pump concrete to the upper floors. That requires a massive pump and a giant, articulating boom to deliver the concrete to every point on the floor. The pump can stay on the ground, but the boom is attached to the pump by a large- gauge pipe that runs up the inside of what will eventually be the elevator shaft. That’s because the boom has to climb to keep up with construction. To accommodate that upward movement, it’s mounted on top of a self-climbing platform that also fits inside the elevator shaft. It’s a massive machine – 40 feet long, 12 feet wide and three stories tall – that uses hydraulics to hoist itself up tracks that are temporarily bolted to the walls of the elevator shaft. The construction crew often fit out the lower levels of this contraption with a microwave and bathrooms, using it like a temporary lunchroom, says Larry Schrenk, the director of construction in Hawaii for Howard Hughes. “On really big skyscrapers, they actually put in a Subway sandwich shop so the crew never has to come down.”

When the last floor is poured, the platform is disassembled and lowered to the ground by the crane.

STEP 3
FINISHING UP

The roof of Anaha’s garage doubles as the amenities deck and is completely waterproofed. It will eventually house the members’ club house as well as a pool and other waterworks. One end of the pool will be glass and hang out over the property.

The roof of Anaha’s garage doubles as the amenities deck and is completely waterproofed. It will eventually house the members’ club house as well as a pool and other waterworks. One end of the pool will be glass and hang out over the property.

So, your high rise has topped off.

The last floor (which is actually the roof) has been poured. The windows are all in. Now, it’s time to make the space livable. In some ways, this is the part of the process that most resembles the building of single-family homes.

To frame the interior walls, steel studs are bolted to brackets that have been attached to the ceilings and floors. Plumbers and electricians rough in the utilities. Then come the armies of drywall workers. The sheetrock is screwed to the studs. It’s mudded and sanded several times, then primed and painted. The ductwork is connected to the HVAC system. The hardwood floors are installed and the tile-work finished. Carpenters come to hang the cabinets in the kitchen so the appliances can be fitted into place and hooked up. It’s all very familiar to anyone who’s ever watched a house being built.

But there are still differences. For example, some of the penthouses at Waiea have a private swimming pool on the lanai. That calls for pool masons and specialty plumbing. Another example is the floor. Despite intensive efforts by the contractors to get the concrete even when they pour the floors, they’re rarely level. “You can’t imagine how it snowballs if you have a floor that’s even just an inch out of level,” says Howard Hughes’ Larry Schenk. “You’d be able to see that in each room. The lines where the walls or cabinets meet the floors would go up and down.”

Top: Many wires are routed through ducts concreted into the floor. Middle: Additional concrete is frequently needed to level the floors. Bottom: High-end buildings require high-end cabinetry and amenities.

Top: Many wires are routed through ducts concreted into the floor.
Middle: Additional concrete is frequently needed to level the floors. Bottom: High-end buildings require high-end cabinetry and amenities.

That’s not acceptable, particularly if you’re building a high-end condo like Waiea. To remedy this problem, once the walls are in, gangs come through and fill the low spots with an easy flowing layer of mortar. The high spots get chiseled away. This takes place all over the building, because you can’t install the hardwood or the tile until the floors are absolutely level. “We literally spend millions of dollars just getting things back to flat,” Schenk says.

Sometimes there are special considerations. Howard Hughes wants Ward Village to be the largest LEED certified community in the country. That imposes restrictions on the construction process. For instance, the ductwork and blowers for the air-conditioning system are put in fairly early in the finishing process, but they all have to be sealed in plastic. If the ducts and gratings were left exposed, they would likely be filled with dust during the drywall installation. But your AC system will have to be dust-free if you want LEED status. So the plastic can’t come off the ductwork until the construction is almost done.

The buyers of an expensive condominium unit often customize their finishings. Model units give them some design options and show the view.

The buyers of an expensive condominium unit often customize their finishings. Model units give them some design options and show the view.

One other thing: If you’re building a luxury high rise, like Waiea or Anaha, your buyers will often want custom finishes. That means you’ll be working with boutique suppliers and will need a way to track and store the products they send you. In other words, you’re looking at coordinating with more supply chains. And you’ve got to make sure the right products end up in the right units. To ensure that happens, every unit has its own “bible” hanging on the door. This folder can run to several pages and lists specifications for all the finishes in that unit.

HB-09-16-High-Rise_12When you build your own high rise, you also have a “bible,” albeit a figurative one. It contains the building plans and architectural drawings; the spec sheets and supply lists; and the schedules, with their critical path analyses and Gantt charts. Nowadays, all this information is digital, credited in programs like AutoCad or Revit. If you were to print them all up, though, they would come to thousands and thousands of pages. Sadly, there’s no shorter way to explain how to build a high rise. So we’d like to close our little guidebook with an admonition you often see on products: “Some assembly required.”

Please see instructions before you begin.


UNDERSTANDING THE SUPPLY CHAIN

The Concrete World

Your concrete is part of a vast, international industry.

HB-09-16-High-Rise_2By volume, it’s the most traded man-made substance on Earth, yet it has a deceptively simple composition: gravel, sand and cement. The gravel and sand provide the strength; the cement binds them. Cement production involves baking a mixture of crushed limestone and clay at 1450˚C to produce quicklime, which is mixed with a few other ingredients to create a hard substance called clinker. The clinker is then blended with a small amount of gypsum and ground to a find powder: the famous Portland cement.

Although Hawaiian Cement is one of a handful of local companies that mix and sell concrete, it’s the only source of cement in the Islands. All its cement is from Asia Cement. This massive Taiwanese conglomerate delivers as many as 10 shiploads a year to the deep water port at Kalaeloa. Last year, that came to $23 million of cement.

HB-09-16-High-Rise_3Hawaiian Cement has a pretty sophisticated system to handle all that cement. When it’s unloading a bulk carrier, the fine powder is moved pneumatically, sucked like a fluid from the hold of the ship and pumped into a pair of, hemispheric storage tanks that tower over the docks.

From there, a computerized overhead pneumatic system allows the company’s drivers to load the trucks themselves. In boom times, as many as 90 trucks a day pass through the Kalaeloa facility.

Of course, by weight, concrete is mostly aggregate – gravel and sand.

Hawaii, despite its famous beaches, has a shortage of sand. Hawaiian Cement has to import that from British Columbia, where’s it’s quarried from ancient dunes beneath the spruce and fir forests. About three times a year, a bulk carrier brings in about 40,000 metric tons of sand; so much that it takes 50 trucks five days to cart all of it from Kalaeloa to the Halawa facility.

In lesser quantities, Hawaiian Cement imports other ingredients. Certain chemicals can be added to concrete to make it flow better, or cure faster or slower. Some federal contracts require the use of fly ash, a byproduct of burning coal, as a substitute for some of the cement in concrete. All of these products are made elsewhere, adding to the layers of people involved in building your high rise.

The only local ingredient in your concrete will be the gravel. At its Halawa facility, Hawaiian Cement quarries, crushes, and grades millions of tons of gravel a year. Since the aggregate is what gives concrete most of its strength, this local basalt is what ultimately holds your high rise up. And, in an industry that’s famously dirty (worldwide, cement production accounts for 7 percent of human-produced greenhouse gases), Hawaiian Cement runs a surprisingly green operation. Concrete, for example, is water intensive – both for mixing and for dust suppression – but Hawaiian Cement recycles non-potable irrigation water from a nearby farm. They also scrupulously monitor Halawa Stream to make sure runoff from the gravel yard doesn’t alter the pH of the water. They even accept old concrete, crushing it to recycle the aggregate.

Concrete has to be tested. It takes as much as 50,000 cubic yards of concrete to make a high rise. That means mixing thousands of batches of concrete. Because of subtle irregularities in the cement, no two batches are necessarily alike. But your concrete has to meet strict engineering standards. It’s particularly important that the concrete harden quickly to keep construction on schedule.

HB-09-16-High-Rise_4That requires testing, says Gavin Shiraki, sales manager for Hawaiian Cement’s Concrete and Aggregate Division. “The contractor has a third-party lab that checks the concrete on a daily basis,” Shiraki says. Hawaiian Cement conducts similar tests. For every batch of concrete, several samples are taken and formed into four-inch cylinders. Then, at intervals, those cylinders are crushed in a powerful press to measure their strength. Only when the concrete reaches its prescribed hardness can you remove the forms and jack stands and move on to the next floor. Before you complete your high rise, thousands of these little concrete cylinders will be crushed.

 

It Looks Like It’s All Glass

The dominant feature of a high rise is frequently its glass facade.

In fact, with a curtain wall, sometimes that’s all you can see. Not surprisingly, that makes glass one of the project’s larger budget items. “The glass contract for Anaha is about $30 million. That’s over 10 percent of the total cost of construction,” says Larry Schenk.

So, if you want to understand why building a high rise is so expensive and complicated, the glass is a good place to start.

When you build a single-family home, most of the key elements are available at your local hardware store. In fact, the house was probably designed around the specs of standard windows, doors and hardware. That’s not the case when you’re building a high rise. Each high rise is unique and everything is made to fit. Especially the glass. As Schenk points out, “None of the exterior glass of Anaha is off-the-shelf. It’s all custom.”

All that customization means that, to build your high rise, you have to deal with an elaborate, highly specialized supply chain.

First of all, the technical name for modern plate glass or window glass is “float glass.” The term refers to the manufacturing process. For most of the 20th century, plate glass was made by flattening a blob of molten silica sand and a few other ingredients between a pair of steel rollers. This technique was cheap and yielded a relatively smooth surface, but the resulting panes of glass still had to be polished on both sides to be truly transparent. This was time-consuming and expensive. Then, in the late 1950s, an Englishman named Alastair Pilkington devised a quicker, cheaper approach. Instead of using metal rollers, the molten glass was poured evenly onto a bath of molten tin, where, because of the two materials’ difference in density, it floated like oil on water. Because the glass spread evenly over the tin bath, it was perfectly smooth on both sides. The thickness could be controlled by modulating how quickly the molten glass was poured onto the tin, and how long it took to cool.

Acccording to Dennis Jean, the senior project manager for AGA, the glass contractor for Anaha, the float glass for the building is manufactured by a California company called Guardian Glass at its Kingsburg plant. Guardian adds a tinted reflective coating to the raw glass to make it more energy efficient. Sometimes, it also adds spandrels to make it opaque. Then, they ship the glass to the next company in the supply chain: Northwestern Industries in Yuma, Arizona.

At NWI, the glass is cut to size and fabricated into individual window units. Each unit is composed of two panes of quarter-inch glass, with a half inch of space between them, and enclosed around the edges with a polymer seal. Sometimes, argon gas is injected into the space for additional insulation. These finished units are then trucked to AGA’s plant in Livermore, California, where they’re fitted into custom-made aluminum frames, packed into custom crates called “bunks,” and shipped in containers to Hawaii.

That’s the easy part.

A key design feature of Anaha is the curved glass at all four corners of each floor. If your skyscraper is going to use curved glass, that adds another step to the supply chain. Instead of Yuma, the raw glass is shipped from the Guardian factory to Standard Bent Glass, a specialty glass fabricator in Pittsburgh. There, each pane is heated until it’s plastic enough to bend over special forms. Only after the glass conforms to the proper radius can they fabricate the individual, double-paned units. Those are then installed in their custom aluminum frames, crated and shipped to Honolulu.

Getting the glass here is only half the job. It still has to be installed. On site, AGA’s local glaziers are responsible for the custom-made mounting brackets and molding that hold the windows in place. They also install each window. For curtain walls – the kind where the entire surface of the building is glass – they bolt the windows to aluminum brackets that were embedded in the edge of each floor when the concrete was poured. In this system, the weight of the glass is carried entirely by the brackets. For “window glass,” the weight of the glass rests on top of the floor or a wall; the brackets merely hold it in place.

The whole contraption is fabulously complex. “For Anaha,” Jean says, “each glass panel has 147 different parts: brackets, bolts, screws, glass, etc.” Maybe more to the point, almost every one of those 5,000-plus panels is unique.

Onyx Has Its Own Specialists

If you want to build a high-end skyscraper, you  have to include high-end finishes.

HB-09-16-High-Rise_14Each of those has its own supply chain, often with tentacles that reach around the globe. For example, the designers at Waiea wanted to use book-matched slabs of pink onyx to line the walls of the showers in several penthouse units. It turns out, though, there aren’t many sources for pink onyx. The giant slabs in Waiea came from an old, family-run quarry in Iran. But the trip from the mountains of Persia to Kakaako is circuitous. Bruce Kumove, whose company, BMK Construction, is responsible for the onyx, walks us through the process.

It starts with a man named Raoul Luciano, a Swiss stone expert who acts as a sort of third-party inspector and quality-control consultant. “This guy is the best,” Kumove says. “He did the stone at the new World Trade Center in New York and the stone for the Getty Museum. He’s been in the business for 35 years and has offices in London, New York, Los Angeles and Houston. This is all he does.”

Luciano’s main job was to make sure Waiea got onyx that would work for book-matching. That means taking a thick slab and slicing it into two thinner slabs, then opening them, like a book, so that the vein patterns in the onyx radiate symmetrically from the centerline. Onyx is quarried in giant blocks – in this case, with nine-foot faces – so it’s hard to assess the color on the inside. “Luciano hand-picked which blocks to use so they would mirror properly,” Kumove says.

Although the Iranian quarry had the best pink onyx, it wasn’t able to finish the stone to the standards Waiea required. “Once Luciano selected the blocks,” Kumove says, “they were put on 40-foot semi-trailers. They were so large that, if you were lucky, you could get three blocks to a trailer.” Then, the blocks were trucked through Turkey and Eastern Europe to Italy. It took six months to get the stone from the quarry in Iran to Italy.

Processing the marble took another eight months. The big blocks were cut into slabs using a gang-saw. This is a gigantic industrial device with a rack of evenly spaced saw blades at the top and a hydraulic lift at the bottom. It works by setting the onyx on the lift and hoisting it inexorably through the scything rack of saw blades, cutting the stone as clean as sliced bread. Then the slabs are carefully numbered so that adjacent slabs can be used for book-matching.

Cutting onyx is slow, but it’s not the only time-consuming process, Kumove says. “Onyx is a very unstable and brittle material. It cracks very easily because it’s full of cavities. So, once they cut the book-matched slabs, they have to fill the cavities with epoxy and polish it. They also apply a layer of epoxy and mesh to the backs of the slabs. That’s why onyx is such an expensive stone: it’s so difficult to work with. There’s also a lot of wastage. You might get 20 slabs out of a block, but 50 percent might be waste. And it takes a lot of time for all this to happen.”

Even after the onyx is crated and shipped, the international nature of the stone industry doesn’t end. “There aren’t a lot of people that understand how to deal with book-matched onyx,” Kumove says. “It takes experienced marble masons. To make sure the job is done right, we have a special crew that we built especially to handle these slabs. Most of them are Ukrainian.”


CHOREOGRAPHING THE WORKERS

Building a high rise calls for a lot of coordination between workers. Clockwise from top: 1. Concrete worker signals the boom operator. 2.The temporary elevator requires an operator. 3. Boom operator supervises concrete pour. 4. Metal formwork gives the concrete its final shape.

Building a high rise calls for a lot of coordination between workers. Clockwise from top: 1. Concrete worker signals the boom operator. 2.The temporary elevator requires an operator. 3. Boom operator supervises concrete pour. 4. Metal formwork gives the concrete its final shape.

The job of your general contractor is to organize all the different construction activities. Every subcontractor needs space and time for staging and loading. They need to be able to work without interference from other subcontractors. They have to be able to get supplies when and where they need them, so they need some of that scarce crane time.

And it’s not just the subs that need coordinating. As the contractor, you’ve got to deal with moving utilities, traffic stoppages and temporary structures to protect pedestrians. You’ve also got to respect the needs of your neighbors, some of whom may also be tenants.

For example, to make sure Pier 1’s and Nordstrom Rack’s stores would still be able to access their loading dock, Howard Hughes designed Anaha so the bottom level had enough vertical clearance for a semi-trailer to pull in under the building and do a three-point turn.

As each newly poured floor cures, work surges forward on the floors below. Each floor is divided into distinct areas, and crews rotate through them to do their work in the proper order. A gang comes through to mark the profiles of the non-load-bearing walls and permanent furnishings on the floors. Other gangs rough in the plumbing and electric. Still another gang comes through to install the windows. And all of this work reaches a crescendo after the glass goes in. Once the floor is weather proof, the finishing can begin.

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Trump’s Effect on Hawaii

The state’s congressional delegation lays out five risks, two opportunities and five strategies for Hawaii in the Trump era.

April, 2017

Interviewed for this story are the four members of Hawaii’s congressional delegation, all Democrats:

Sen. Mazie Hirono
Sen. Brian Schatz
Rep. Colleen Hanabusa
Rep. Tulsi Gabbard


FIVE RISKS

1 OBAMACARE

(The repeal of Obamacare would) have an impact on everybody on Medicare in Hawaii," says Sen. Mazie Hirono.

(The repeal of Obamacare would) have an impact on everybody on Medicare in Hawaii,” says Sen. Mazie Hirono.

One of the biggest changes proposed by President Trump is a repeal of the Affordable Care Act, with no specific replacement yet agreed upon. An estimated 20 million people nationwide receive health insurance through the ACA. In Hawaii, the potential loss of the ACA is mitigated by the state’s long-existing Prepaid Health Care Act, which had already provided health insurance to many of the categories of people covered by Obamacare elsewhere in the nation.

“In general, Hawaii and Massachusetts have been the two states that had the most difficulty complying with the exchange requirements of the ACA,” Hanabusa says. “That’s because we already had what I consider to be the best health care systems in the country.”

Those systems will largely remain in place if Obamacare is repealed, but many of those who keep their overall coverage will still lose some benefits. “It’s going to have a huge impact on everybody on Medicare in Hawaii,” Hirono says. “They will end up paying more for prescription drugs, for example. And they won’t get the kind of preventive care they get under ACA, even though a lot of them don’t realize that yet.”

Similarly, people who are self-employed or between jobs will either lose their coverage, or at least the subsidies that make their coverage affordable. Obamacare requires health insurance companies to cover people with existing medical conditions; many Republicans say they will continue that provision, but no longer require people to have health insurance coverage or pay a penalty. That requirement helped subsidize the premiums of less healthy people; without those subsidies, it’s likely that health insurance premiums will skyrocket.

2 IMMIGRATION

Hirono notes that Trump’s anti-immigration policies will be another risk for Hawaii, especially given his choice of Jeff Sessions as attorney general.

“Sen. Session’s position on immigration is very clear,” she says. “When I first got elected to the Senate, Democrats were in the majority. Since the majority members preside, I took many turns presiding over the Senate. Sen. Sessions would come down to the floor of the Senate on a regular basis to express his opposition to any kind of comprehensive immigration reform.”

That opposition was in the context of one senator among a hundred. As attorney general, Hirono says, Sessions will wield wide prosecutorial discretion. For instance, he could help decide what happens to the young people in the Obama administration’s Deferred Action for Childhood Arrivals program. That program allows some undocumented immigrants who entered the United States as minors to receive a renewable two-year period of protection from deportation and eligibility for a work permit.

“At his confirmation hearings, when he was asked if he would start deporting the DACA people, he wouldn’t say he wouldn’t,” Hirono says. “We have about 300 DACA people in Hawaii. And there are many more undocumented aliens not in DACA; they won’t come out of the shadows for fear of providing information that could be used against them in some way.”

Hirono is relatively confident that people who enrolled in DACA are safe for now. “I think there would be such a hue and cry if the DACA participants were targeted for deportation, because part of what they were told was that their information would not be used for those purposes – although there was always a caveat that could change.”
Noting she’s an immigrant herself – the only immigrant in the Senate – Hirono says, “I will do everything I can to make sure they’re not among those who are deported, just because they participated in DACA. Remember, DACA allows these young people to go to school, join the military, participate in the life of our communities in a way that brings them out of the shadows.”

3 ENVIRONMENT

Hanabusa, who sits on the Natural Resources Committee in the House, says one of the most important issues for Hawaii is how Trump and the Republican-controlled Congress approach key environmental issues, such as the Endangered Species Act. “For example,” she says, “there have long been attempts by the Republicans to, in effect, limit the number of endangered species, not allowing new species to be added to the list.”

Hawaii is the extinction capital of the world, and the Endangered Species Act has been a key tool in protecting some of the state’s most fragile habitats. Diluting the ESA, or limiting enforcement of its provisions, could affect everything from military training protocols to land-use practices in the state.

There’s also climate change. As a tropical island chain, Hawaii is especially vulnerable to the effects of climate change: rising sea level; the loss of coral reefs due to ocean acidification and warming sea surface temperatures; the increasing frequency and intensity of major storms; and the gradual loss of unique ecosystems. But Trump and many in the Republican majority are climate-change skeptics and support domestic oil extraction, fracking and the resuscitation of coal mining. All of these accelerate climate change. That’s why Trump’s nomination and the confirmation of Scott Pruitt – a climate-change denier and advocate of the oil, gas and coal industries – to head the Environmental Protection Agency is likely to have the most effect on Hawaii.

4 RUSSIA

All these issues – Obamacare, immigration and environmental policy – have long been part of the basic divide between Republicans and Democrats. But Hanabusa says the Trump victory has introduced new risks, though their specific impact on Hawaii may be more attenuated.

“One area that I feel will be a problem,” she says, “is the whole issue of the security briefings that we’ve received about the role of Russia in our election. It has nothing to do, necessarily, with this particular administration’s beliefs about Russia; it has to do with finding out exactly what happened. To have the three major intelligence agencies agreeing (that the Russians interfered in the election) I think is a major statement. So, I see lines drawn on this specific issue, but I don’t necessarily see it as Democrat versus Republican, because you hear Republicans, like John McCain, who feel there really needs to be an investigation of the actions taken by the Russians.”

Hanabusa, like all members of the House, has seen the classified version of the report on Russian meddling in the election. She say’s she’s confident in the conclusions drawn by the intelligence agencies.

“I think they were very careful, perhaps even too conservative in their conclusions. Maybe that’s a better way of putting it. I think that they could probably have gotten further than they did. But, that notwithstanding, there’s still the fact that they’re not finished with their investigation.”

5 UNKNOWNS

"We remain well situated to attract further Department of Defense investment." -Sen. Brian Shatz

“We remain well situated to attract further Department of Defense investment.” -Sen. Brian Shatz

Russia is a known risk, Hanabusa says, but it’s the unknown risks that are more worrying.

“I think the real issue for Hawaii is that we don’t know what a Trump administration is going to look like,” she says. “The concern I have is the fact that Trump got elected in such an unconventional manner. He wasn’t elected by the party; he’s an outsider. You don’t even know whether or not he’s interested in re-election. And it’s the desire for re-election that tempers what his next step will be.”

Trump isn’t the only source of worry, Hanabusa says. She points out that Republicans in Congress have also introduced some new and novel risks, though their exact impact isn’t clear yet. She gives the example of the Holman Rule, a procedure that allows any member of Congress to use the budget process to reach down to any individual in the federal government and cut their salaries. First enacted in 1876, before the advent of merit-based employment in the federal government, the Holman Rule was rescinded by Democrats in 1982. This year, though, reviving the rule was one of the first affirmative acts of the Republican-controlled House.

To federal employees, the return of the Holman Rule looks like a scary attempt to undermine the independence of the civil service – especially combined with early moves by the Trump administration to identify federal employees who disagree with administration policies. In a heavily Democratic state, like Hawaii, there are undoubtedly a lot of federal employees who would fit that category.

“People may not take the rules of the House seriously,” Hanabusa says, “but they have major implications. The Holman Rule is one component of that. There are also components regarding subpoenas. All this gives you an idea where they’re headed. But, when they implemented the Holman Rule, you have to wonder, How do they want to use this? What do they think they can do with it?”

TWO OPPORTUNITIES

1 MILITARY SPENDING

Increased military spending in Hawaii largely depends on whether the new administration sustains Obama’s “pivot” to the Asia-Pacific region. This plan reflects the growing importance of the region and shifts military resources so that, for example, 60 percent of the country’s naval fleet would be based in the Pacific. After all, the Pacific Command, based at Oahu’s Camp Smith, is responsible for 55 percent of the Earth and includes the world’s three largest economies: the U.S., China and Japan. Trump hasn’t said much specifically about the pivot – either on the campaign trail or as president – but he has advocated for a major increase in military spending. That bodes well for Hawaii, which depends heavily on military spending to balance the ups and downs of the tourism industry.
In some ways, the Asia-Pacific pivot and the potential increase in military spending in Hawaii predates and is independent of the Trump presidency, according to Schatz.

“There are some specific opportunities for Hawaii over the next four years that exist regardless of who’s the president,” Schatz says. “And we remain well situated to attract further Department of Defense investment.”
He points out that retired Marine Corps Gen. James Mattis and Rex Tillerson, the new secretaries of defense and state, both support the pivot, as do key members of Congress.

“My judgment is that Trump hasn’t thought very deeply about it, but that he will defer to his secretaries on this. And, at the legislative level, we now have a bipartisan consensus around Hawaii’s critical role. So, when it comes to the shipyard at Pearl Harbor, the Pacific Missile Range Facility on Kauai, the Pohakuloa Training Facility on the Big Island, the Jungle Operations Training Center at Schofield, all of the service branches are full speed ahead when it comes to defense investment.”

Gabbard, a member of the House Armed Services Committee, as is Hanabusa, notes there’s a similar consensus in the House. “I also see an interest and growing commitment in Congress to pass not only an authorization bill, but an appropriation bill in a timely fashion. One of the challenges for the private sector, as well as the military, is that when you have temporary continuing resolutions and temporary funding bills that only last for a month, or three months, or six months, that lack of certainty is quite harmful to our military capabilities. You can’t plan training activities, and it ultimately costs more in the long run. So, passing a funding bill where you know how much you have to spend for the year has been the No. 1 request from our military leaders in Hawaii.”

Although Trump hasn’t spoken much specifically about the pivot, he has said he wants to build more ships. That could bode well for Pearl Harbor, according to Hirono.

“ ‘Ships’ means ‘Navy’,” she says. “And the Navy’s presence in the Asia-Pacific is very much here in Hawaii.”
But Hirono expresses caution amid all the noise about increased military spending.

“There’s an issue as to how we’re going to pay for the over $350 billion increase in military spending over the next four years,” she says. “I certainly wouldn’t want to sacrifice the domestic programs that are so important. Not to mention that national security isn’t only dependent on what we do with the military; it’s also the appropriations and money that we give to the State Department, the FBI and Homeland Security. Those are all nonmilitary areas that are just as important for our national security. Then, there’s the state of our economy. If our economy is not flourishing, of course, that also affects our national security and our ability to do things for our country and our people. It’s all tied together.”

All the same, military spending looks like one area where Trump will prove to be an asset for Hawaii.

“Everybody knows I’m not a Donald Trump fan,” Schatz says, “but one thing I’ll say for him: He’s not a small-government guy. So, from the standpoint of being worried about a massive reduction in federal funding, that’s a little lower on the list than other risks, like geopolitical instability and unlawfulness.”

2 INFRASTRUCTURE

"The Armed Services Committee is the most partisan in the House." -Rep. Colleen Hanabusa

“The Armed Services Committee is the most partisan in the House.” -Rep. Colleen Hanabusa

Trump’s willingness to spend also bodes well for infrastructure investment in the state.

“Hawaii is not different from most other places,” Gabbard says. “The infrastructure needs we have across the state, in each of our counties, is great. This is the same challenge in many states in this country, and it’s an area where both Democrats and Republicans and this administration, I think, have an opportunity to work together and actually get an infrastructure bill passed. This would be good for Hawaii and for communities across the country.”

The question, of course, is: Why would the Republicans in Congress pass an infrastructure bill now when they steadfastly refused to increase infrastructure spending during the Obama administration? Maybe it’s because now Republicans are working with other Republicans, rather than across the aisle. Whatever the reason, Trump has created momentum in Congress to do something about infrastructure, Gabbard says.

“Republicans are talking about the need to pass an infrastructure bill, and the president has already begun to meet with different building-trade unions, as well as with Democrats and other Republicans to begin forming an idea of what an infrastructure bill would look like. Democrats in the Senate are putting forward their own ideas. So, on both sides, there’s interest and an appetite for working together and passing this legislation.”

It’s easy to overstate this consensus, though. Democrats, still stinging from the Republicans’ treatment of Obama, remain skeptical. Also, the two parties have widely divergent philosophies about how to pay for any infrastructure bill. Trump’s “plan,” for example, is largely funded through an 82 percent tax credit for private investment. In other words, investors would build roads, schools, airports and bridges largely on the taxpayers’ dime, and then own them and collect the tolls or rents. To Democrats, that looks like a government handout to wealthy investors. Democrats, on the other hand, want to pay for infrastructure through taxes, ideally on the rich; but the tightfisted Republicans in Congress have long balked at new taxes of any kind.

So, while everyone seems to want an infrastructure bill, it’s not clear there’s a plan they can all agree on. Gabbard remains optimistic.

“I think it’s premature to say there’s any one, specific plan that’s been put forward. There have been a lot of different ideas, and I think some have potential and others don’t. The point is that the conversation is happening, and that’s what’s necessary in order to end up with a final product. Hopefully, that will be able to pass Congress with bipartisan support.”

FIVE STRATEGIES

1 COMMITTEES

Broadly speaking, Hawaii’s congressional delegation agrees on the big issues in the Trump era. The real question is: How should they address those issues?

One thing working for them is that all four Hawaii members of Congress serve on committees that are strategically important for the state. In the House, both Gabbard and Hanabusa are on the Armed Services Committee. Hanabusa also serves on the Natural Resources Committee, and Gabbard is on the Committee on Foreign Affairs. Between them, the two congresswomen are well situated to participate in the debates that most affect Hawaii. The problem is that the House of Representatives is a purely majority-rule body. That means Democrats in the House have almost no power. To get anything done, they have to work with Republican allies. That’s easier on some committees than others. Given Hawaii’s reliance on military spending, it’s fortunate that Armed Forces is one of the easiest committees on which Democrats can find Republican allies.

“The Armed Services Committee is the most bipartisan in the House,” Hanabusa says. “So, if we’re able to share our concerns about how we address the Asia-Pacific, in terms of China and North Korea and those issues, if you can find a partner on the other side of the aisle who shares similar concerns, we can get a lot of things done.”

She points to her work on the National Defense Authorization Act with Randy Forbes, the former Republican congressman from Virginia. The NDAA, which funds the military, is the one piece of legislation that always passes the House in a bipartisan manner, she notes.

“When I was in Congress before, Randy Forbes and I had a series of meetings about, ‘What does the pivot to the Asia-Pacific mean?’ Working together on that issue, we were able to put what I consider to be necessary pieces of legislation in place through the NDAA, and we were able to address a lot of the Asia-Pacific questions. That was only because Congressman Forbes and I shared the same interests and concerns.”

Gabbard offers similar examples of partnering with Republicans on issues important to Hawaii.

“One is the Native Hawaiian Education Act,” she says. “This was a piece of legislation that Sen. Inouye and Sen. Akaka had championed when they were in the Senate. It required reauthorization, but it faced opposition from some Republicans and even potentially some Democrats. I was able to work in a bipartisan way with both Republicans and Democrats to be able to get this legislation included in a larger education bill that passed the House of Representatives. This wasn’t something that was necessarily easy to do, but by having a working relationship with my colleagues on both sides, treating them with respect and Aloha, this kind of collaboration resulting in passing legislation is possible.”

2 RULES

Collaboration isn’t the norm in the House. That’s because the Republican majority of 237 to 193 (with five vacancies) is large enough that the votes of Democrats, like Gabbard and Hanabusa, typically carry no practical weight. It’s also why House Democrats are sometimes forced to resort to political stunts, like their sit-in on the floor of the House over gun control last June.

Even in the Senate, where you need 60 votes to get some things done, Democrats are sometimes obliged to resort to symbolism – for example, boycotting confirmation hearings, even though Republicans would simply change the quorum rules and vote with no Democrats present. These tactics may not affect legislation, but they have meaning, according to Hirono.

“Majority rule is a lot more challenging,” she says. “So, in a place like the House, the voice of the loyal opposition becomes ever more important. That’s why, when they held the sit-in, it was an important symbolic action. And symbolism can go a long way. Look at the Women’s March, for example. You can call that symbolism if you want, but I think that, to the extent that all these millions of people marched all over the world, and that they continue their engagement, that will make all the difference.”

Senate rules make that chamber of Congress much more bipartisan than the House. Consequently, Hawaii’s senators are better positioned to block some of Trump’s proposals. Hirono serves on five committees, including the Armed Services Committee, where, as the ranking member on the Subcommittee on Seapower, she can be an important voice for Pearl Harbor and the shipyard. But it’s Schatz who’s probably best positioned to resist some of the more controversial proposals of the Trump administration and the Republican majority. As a member of the powerful Appropriations Committee, and the ranking member of the Subcommittee on Military Construction, Veterans Affairs and Related Agencies, Schatz has real say on how Congress actually spends our tax dollars.

But, regardless of their committee seats, the members of Hawaii’s congressional delegation still have to make strategic decisions about how to deal with Trump and the Republican majority. This is a dilemma faced by every Democrat in Congress. Some believe Democrats should pick their battles and cooperate when Trump proposes things like increased infrastructure spending, or paid family leave – policies that have long been planks in the Democratic platform.

Others advocate full resistance. They say the party should do what the Republicans did to Obama: Oppose everything the Republicans and the Trump administration propose. Hawaii’s Congressional delegation isn’t that revolutionary and they look for opportunities to work with Republicans. According to Hanabusa, Russia is one area where Democrats can find enough Republicans who share their concerns about Trump.

“I think you’ll find Congress will come together on that,” she says. “It’s not just a matter of whether (Russian intervention) affected the victory of Donald Trump or the loss of Hillary Clinton; it transcends that. It’s about the integrity of our system and whether we’re going to allow a foreign power, or the leader of that country, to interfere with something as sacred to the people as our electoral system. I think that’s going to be a major surprise. I don’t thing they will stick to the party line. I think you’ll find both sides agree on that. I think you’ll also find the House Oversight Investigation Committee will hold meetings on that.”

3 SENATE

Any hopes for resistance to the Trump agenda likely rests in the Senate. Not long ago, that opposition would have centered around the confirmation hearings for Trump’s cabinet nominees. Hirono and Schatz voted against most of Trump Cabinet nominees, but all those who didn’t withdraw were confirmed despite Democratic opposition.

This highlights how the Senate’s vaunted 60-vote rule has diminished since the Democrats, under then-Majority Leader Harry Reid, changed the rule that required 60 votes to confirm presidential nominees. Now, except for Supreme Court nominees, approval only takes a simple majority. That’s what every Trump Cabinet nominee got, though Betty Devos needed a tie-breaking vote from Vice President Mike Pence. This raises questions about how Hawaii’s two senators will approach Trump’s nomination of Neil Gorsuch to the Supreme Court.

“I will be spending a lot of time going forward on the Supreme Court nominee,” says Hirono, who sits on the Judiciary Committee. “That person could have a very pivotal impact on individual rights. For example, this court has, I think, tipped the scales in favor of corporations against individuals. I can cite a number of cases that exemplify this: Lilly Leadbetter, Hobby Lobby, Citizens United. Many of these were five-to-four decisions, so the next person on the Supreme Court could make the difference.”

At press time, a Supreme Court nominee still needs a super-majority of 60 votes to avoid a filibuster in the Senate. The question is whether the Democrats will be willing to use a filibuster to try to block Gorsuch (or any Trump nominee) from taking the bench. If they do, they risk Republicans invoking the so-called “nuclear option,” using the same procedure as Harry Reid to get rid of the filibuster for all executive nominations. Even given that risk, Hirono is unequivocal about her willingness to use the filibuster to protect issues important to her.

“If the nominee is someone that raises concerns regarding fairness, access of individuals to the courts, and things like that, I would do everything I could to raise those concerns. I really care about the potential of overturning Roe v. Wade.”

4 APPROPRIATIONS

"On both sides, there's interest and an appetite for working together on infrastructure." -Rep. Tulsi Gabbard

“On both sides, there’s interest and an appetite for working together on infrastructure.” -Rep. Tulsi Gabbard

Regardless of what happens with the Gorsuch nomination, the Senate’s 60-vote rule still applies to legislation. That’s part of what makes Schatz’s role as a member of the Appropriations Committee so important. The House of Representatives may pass a budget on a simple majority vote, but Appropriations has to pass a bill that actually authorizes how that money is spent. Ending debate and bringing that bill to a vote will still require 60 votes.
Perhaps more important, Schatz says, the Appropriations Committee is one of the last bastions of bipartisanship in Congress.

“It takes a certain kind of senator to even want to be on that committee anymore, because there’s not a lot of fighting. There’s negotiating, but we try to hold each other and our priorities harmless from whatever battles are happening on the Senate floor or in the country. So, although I’m never overconfident, I’m reasonably certain that, when it comes to people like Thad Cochran and Pat Leahy, when it come to myself, as the top Democrat on the Military Construction and Veterans Affairs, and Related Agencies Subcommittee, this is about what’s in the country’s best interests and what’s in our own states’ best interests. It’s especially true that my being the ranking member on the Military Construction Subcommittee puts us in a better position to make sure that resources continue to flow into Hawaii. There’s never zero risk and, with Donald Trump as president, there are tremendous challenges ahead. But, when it comes to making sure that federal investment continues to come to Hawaii, the Appropriations Committee is where the rubber hits the road.”

Schatz’s optimism about the Appropriations Committee extends to its role in limiting Republican plans to gut Obamacare. The House can act alone to cut the program’s funding, using a procedure called reconciliation. But they can’t pass a new law without going through the Senate. “So, they can only ruin the current law,” Schatz says. “They can’t do any fixing without 60 votes, and without the participation of multiple committees: the Health, Education, Labor and Pensions Committee; the Finance Committee; and the Appropriations Committee. My judgment is that it is now more likely than not that the Republicans will either leave the Affordable Care Act alone, or make minor tweaks and call it something else.”

Schatz also thinks the political and economic realities of gutting Obamacare are causing many in the Republican majority to lose their nerve.

“I’ve learned, since 2016, that I’m not very good at predicting,” he says, “but I think it’s fair to say that they’re realizing the promises they’ve made on the Affordable Care Act just don’t add up in terms of the math. Just to take one part of this: They promised to provide coverage to people with pre-existing conditions; they want to extend coverage to young people until they’re 26; and yet they want to eliminate the individual mandate. That will not work. We need a risk pool to be able to subsidize people who may require more expensive care.

“The Republicans didn’t have to worry about any of that as long as Barack Obama was president; they could pass all these irresponsible bills (confident he would veto them), But now it’s, ‘You break it, you bought it.’ They don’t have President Obama as a foil anymore, so if they muck with the health-care system and make it worse – and they’re certainly going to make it worse – they’re going to own that. They’re terrified of that prospect.”

5 ENVIRONMENTAL RISKS

Even on the environmental side, where Trump and the Republican majority are probably most at odds with the Democrats, Schatz is curiously optimistic. Although he and Hirono were both among the most ardent critics of Scott Pruitt, Trump’s controversial choice to head the Environmental Protection Agency, Schatz doesn’t believe the survival of the nation’s major environmental laws is at stake. More to the point, he’s confident the election of Trump doesn’t spell disaster for Hawaii’s delicate environment.

“On the Appropriations side,” he says, “we think that we have a pathway for dollars to continue to flow to Hawaii for environmental priorities. Of course, on the policy side, it’s fair to say we’re not hopeful about making progress on any new laws. But the Endangered Species Act, the Clean Water Act, the Clean Air Act – those all remain federal law. So, regardless of the pronouncements of the new administration, they are duty-bound to obey the law.”

Schatz’s argument can be extended to address how Democrats should deal with Trump’s propensity to ignore the truth: It’s OK to search for common ground with Republicans, but you have to stake out principles that are non-negotiable.

“There’s a tendency in this administration for the president to declare things to be true that he wishes to be true, and to try to short circuit the arduous process of making or changing public policy. While I understand we’re not going to make a ton of environmental progress under Trump, there’s no reason to accept that we’re going to backslide on the bedrock of environmental law in this country. That includes clean air, clean water and endangered species protection.”

Schatz pauses a moment for emphasis before adding, “That’s an area where I’m perfectly willing to engage and fight.”

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Hawaii Employee Retirement System: Underfunded by $7 Billion

BY DENNIS HOLLIER

The state got just what it was expecting in its Christmas stocking. Unfortunately, it was another lump of coal – more bad news about the state of Hawaii Employee Retirement System, which covers both state and county employees. In its five-year report, the actuary firm of Gabriel Roeder Smith & Company claims the system’s future liabilities now exceed the assets set aside to pay for them by $7.1 billion. That’s nearly $5,500 for every man, woman and child in the state.

Worse still, because of the arcane rules governing actuarial accounting, those figures don’t fully incorporate the system’s huge market losses in 2008 and 2009. Consequently, an additional $1.5 billion will be added to the state’s unfunded liability over the next two years. This means the state’s legally required contribution to the pension system will increase to more than $671 million a year by 2015.

The actuary’s findings were hardly a surprise to those familiar with the state’s pension system. In fact, Wes Machida, the conscientious new ERS administrator, spent much of the holiday season playing Grinch, briefing legislators and members of the incoming administration on what to expect in the report.

 

ERS's III, 721 members include all qualifies state and country employees

    Pension benefits for state and county workers, once earned,
are guaranteed by the state constitution; they cannot be
reduced even in a budget crisis.

 

One of the most remarkable aspects of the current shortfall is how quickly it has grown. As recently as 2000, the pension system covering government workers for the state and Hawaii’s four counties was 94 percent funded. This year, by some measures, the funding ratio has declined to less than 60 percent, and the prospects for paying down the deficit appear more and more remote.

 

There are a couple of factors behind the relentless growth of the pension liability. The first is that, like most state retirement systems, the ERS is a defined-benefit system. In other words, state and county employees are guaranteed set benefits when they retire, based on how many years they have worked and their average salaries at the time of retirement. In addition, those benefits, once earned, are guaranteed by the Hawaii Constitution; they cannot be reduced, even in response to a fiscal crisis such as the state’s recent budget shortfalls. This is typical of defined-benefit systems. In 1979, when New York City went bankrupt, it reneged on hundreds of millions of dollars owed to contractors and bondholders, but never failed to make pension payments to retirees.

 

To pay for these enormous liabilities, the ERS – again, like almost all state pension systems – is a “pre-funded plan.” In theory, enough assets are set aside and invested each year to generate income to offset future liabilities. A pension is said to be “fully funded” when current assets are projected to pay for all future liabilities. Funding comes from three sources: employee contributions, employer contributions and interest earned on the system’s assets. Each contributes to the shortfall.

 

Increase in ERS membership

      Click to enlarge image.

Digging a Hole

In Hawaii, employee contributions are set by law at around 12 percent of payroll for firefighters and police, and 6 percent for other employees. According to Machida, employee contributions amounted to $361 million in 2010, which included $187 million in one-time payments as members changed plans within the system, leaving $174 million in normal employee contributions.

The amount paid by state and county employers is also governed by statute, which prescribes an “actuarially required contribution,” or ARC, sufficient to fully fund the system within 30 years. As lifespans have increased and payrolls have expanded, the counties’ and state’s required contributions have soared: In 2000, the ARC was about $175 million; by 2010, it had reached more than $550 million – $400 million for state employers, and in excess of $150 million for the counties. Even so, the unfunded liability has grown.

The system’s investment earnings scenario isn’t any rosier. Here, too, state law predominates, setting the pension fund’s anticipated rate of return on its investments at a robust 8 percent. But this number has little bearing on the system’s actual earnings. In the past 10 years, returns only reached as high as 8 percent four times. In fact, the system’s market earnings over the past decade have averaged only 2.8 percent, not even keeping pace with inflation. With such inflated earnings expectations, not only is income overestimated, but future liabilities are underestimated.

Assuming Liability

Employer contribution in millions

     Click to enlarge image.

There are, in fact, a slew of other actuarial assumptions that affect the size of the pension system’s liability. For example, Machida notes, the system assumes an average life expectancy of 83 years. Every year, though, actual life expectancy increases. “The average life span of a female schoolteacher is over 90 years,” Machida says.
Other assumptions are more financial. “For example, there were more promotions than expected,” Machida says. “Salary increases were projected at 3 percent or 4 percent; but professors, for example, at one point were given a 9 percent to 11 percent raise. Police officers were getting a 9 percent raise.” Similarly, more benefits were added to the pension system without consideration for how we would pay for them. It will be hard to get back these costs.

Distressingly, most strategies to address the system’s weaknesses hinge on manipulating some of these manini-seeming assumptions: extending the age of retirement; changing the definition of “base pay”; changing the way cost-of-living allowances are calculated. Because the benefits of retirees and existing employees are protected by the state constitution, any changes can probably only apply to new hires. That means the cost of addressing the system’s long-term liability will have to be spread over a small pool of members.

Annual pension payments in millions

     Click to enlarge image.

 

Machida says these assumptions aren’t the main reason the state’s unfunded liability has grown so dramatically. He ascribes most of the increase to an old rule that allowed legislators to seize any annual earnings over 8 percent and apply them to the state’s ARC. In 2001, the worst year, the state used approximately $150 million of these “excess” earnings to help balance the budget. Between 1999 and 2003, according to Machida, more than $350 million in excess earnings were diverted from the pension system. “In 2004, with the assistance of (then) Governor Lingle, we introduced legislation to take that away,” Machida says. But the damage has been done. “If that money had not been taken,” he says, “the system today would be almost fully funded.”

Whatever the proximate causes of the pension-system shortfalls, the effect is a vicious circle: When current income and contributions aren’t enough to pay current benefits – a condition that began in 2006 and is projected to accelerate rapidly for the next five or six years – the only option is to sell off portfolio assets to cover the difference. In 2011, the ERS is projected to cannibalize nearly $200 million in portfolio assets; by 2020, that figure could reach $600 million a year. That’s the opposite of a “pre-paid pension fund.”

How to Fix It

Fixing this problem is going to take time. The formula, according to Machida, is straightforward. C+I=B: contributions plus investment earnings must equal benefits paid. To make that equation balance, each variable will have to be tweaked. First, the employer’s contribution must increase. “This isn’t an option,” it’s a necessity, Machida says. Failure to comply with state law would have disastrous effects on state and county bond ratings.

The scale of the increases necessary will be painful. The recent actuarial report by Gabriel Roeder Smith already raises the ARC to 19.7 percent of payroll for firefighters and police, and 15 percent for general employees, which should yield $671 million a year by 2015. Even that won’t be sufficient. To generate the extra $182 million needed, the actuaries recommend increasing those figures to 27.3 percent and 18.8 percent, respectively, which will yield an additional $43 million. The ARC already constitutes about 10 percent of the state’s general fund budget; it’s hard to see where the additional revenue will come from to pay for the increase.

Dollars contributed to the plan in FY 2010

The interest variable in the pension equation also comes into play in the actuaries’ calculation. By assuming an additional 1 percent yield on the system’s investments, they add another $117 million to the pot. (Although they don’t mention it in their report, raising the assumed rate of return also lowers the current unfunded liability.) But, as Machida points out, raising the targeted investment return comes with higher levels of risk, which further could jeopardize ERS assets.

In fact, making up the state’s unfunded liability on the left side of the pension equation is probably impossible in the long term. That means legislators are left with the politically difficult option of reducing retiree benefits. Machida outlines the possibilities:

• Raise the retirement age;
• Increase the number of years it takes employees to become vested;
• Change how final salaries are calculated; and
• Constrain future payroll growth.

Some version of all of these reductions will likely be necessary, but can the Legislature make them happen?

Estimated yields based on actual and market value of assets

     Although, by statute, the ERS assumes its portfolio will earn 8
percent annually, its actual performance has been erratic at best.
Since 2001, market earnings have averaged only 2.8 percent.
 Click to enlarge image.

To begin with, as Machida points out, the benefits of existing employees are protected by the state Constitution. That means new hires will likely bear the brunt of any changes in benefits. Calvin Say, the longtime Speaker of the House, acknowledges the challenges faced by the Legislature. “I’ve introduced a number of bills to deal with the unfunded liability,” he says. “One that I had was to increase the retirement age from 55 to 60 so you can contribute to the trust fund longer. But you can’t address these changes with present employees. You can’t change this for the current retirees. It’s all going to be based on new employees.”

Kalbert Young, the Abercrombie administration’s incoming director of the state Department of Budget and Finance, makes much the same point. “I would say that the governor is interested in looking at what are the available means for resolving the liability issue,” he says. “Admittedly, though, it’s a very big number; and given the condition and depth of the problem, our timeline for resolving it may not be in the near term.” In other words, future state and county employees will be paying the tab for generations.

EUTF fond in even worse

That’s assuming today’s politicians can enact the necessary changes. Machida points out that, because they will likely only affect new hires, any prospective reduction in employee benefits are probably not subject to collective bargaining. Nevertheless, it’s difficult to envision the Legislature enacting major reductions without at least the tacit support of the public unions, by no means a sure thing. House Speaker Calvin Say remarks on how difficult it’s been trying to make these kinds of changes in the past: “For me, it’s been a sincere effort to try to control both the employers’ and the employees’ contributions,” he says. “But present employees do not understand that. They don’t want Calvin Say to force them to pay more for their pension contribution. But something’s got to give.”

Say remains optimistic. “Overall, I feel very confident, because, at the end of the day, the state government is obligated to fulfill its responsibility. So, yes, we’ll address that unfunded liability one way or the other. It will probably be through the guise of taxation.”

The Big Picture

“But time is of the essence,” says Machida. That’s because, as glum as the Gabriel Roeder Smith report seems, it may still understate the size of the problem. To understand why, it helps to put Hawaii’s retirement system in a national context. Since 2000, the number of states with fully funded pension systems has declined from 26 to four, according to a recent report by the Pew Center on the States. Hawaii is in the bottom quartile, one of 19 states described as having “serious concerns.” Remarkably, Pew data do not even include the effects of the Great Recession of 2008. Once those losses are incorporated into the picture, the perspective will be much worse.

Despite its baleful conclusions, the Pew report is squarely in the mainstream of actuary standards. It relies on the states’ own analyses and draws its conclusions using normal actuarial accounting procedures. There is a growing number of analysts, though, who believe that traditional actuarial accounting and its assumptions are part of the problem and help mask the true scale of the states’ pension crises. The most inflammatory of these is Joshua Rauh, a researcher at Northwestern University’s Kellogg School of Management, whose 2010 report suggests the states’ total unfunded liability may be several times larger than the findings in the Pew report. For example, he predicts Hawaii’s ERS will go broke in 2020.

Not surprisingly, Rauh’s conclusions have been largely discounted in the public pension community. “Among public pension actuaries,” says Keith Brainard, executive director of the National Association of State Retirement Agencies, “I think you would find the overwhelming perspective that Joshua Rauh’s findings and recommendations are inappropriate.” Even ERS administrator Machida – by no means an apologist for the status quo – downplays Rauh’s conclusions: “The ERS is not going to run out of money in 2020.”

But Rauh isn’t alone in raising questions about the size of the unfunded liabilities facing state pensions. For example, Andrew Biggs, of the American Enterprise Institute, uses a standard financial process called “options pricing” to reach much higher figures. In the case of the Illinois State Employees’ Retirement System, his analysis more than doubles the state’s total liability, from $23.8 billion to $47.3 billion.

Applying the same formula to Hawaii’s total liability swells our unfunded liability from $7.1 billion to more than $14 billion. Of course, the calculation isn’t that simple. It’s worth noting, though, that even pension actuaries are beginning to look at other ways of measuring pension liabilities. All of these suggest that our total liability is higher than the $18.8 billion actuarial valuation in the Gabriel Roeder Smith report. Rauh, basing his discounting rate on 30-year Treasury notes, calculated Hawaii’s total liability at $24.2 billion. The state’s own actuaries calculated a total liability of $21.5 billion when they used the market value of assets instead of the traditional actuarial method. Pessimism is clearly becoming part of the mainstream.

In fact, the actuary’s report to the ERS board in December included some startling language. Under the heading, “What does this all mean?” the report states: “If the assumptions are met for all years beginning July 1, 2010, and the current contribution policies remain, the system is not expected to run out of money. But it is very close.” (Italics added.) Worse still is how long the actuary says it will take to fully fund the system, given the same set of assumptions: never.

Pension Benefits

In FY 2010:

$925 million was paid by the plan to about 39,000 retirees and beneficiaries.

 

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The Billion Dollar Gamble: State Investment

BY DENNIS HOLLIER

Photo: istockphoto.com

What a difference a billion dollars makes.

Until recently, the state treasury – officially, the Treasury Management Branch of the Financial Administration Division of the Department of Budget and Finance – has operated in relative obscurity. With its staff of seven or eight employees, the treasury acts as cash manager for the state government. Its primary responsibility is to make sure the state always has enough cash reserves to meet its ongoing obligations: payroll, debt service, pension contributions, etc.

The treasury also manages the day-to-day investment of so-called excess funds: monies collected, but not yet spent, by state agencies. As it happens, that’s a lot of money – more than $3 billion at last count. Even so, these investments are hardly sexy, consisting mostly of safe, low-yield, highly liquid instruments like U.S Treasury securities, Federal Agency securities, collateralized CDs and something called SLARS, student loan auction rate securities. In other words: boring, boring, boring.

Then, in February 2008, the market for those auction rate securities collapsed. Overnight, the state’s $1 billion investment in SLARS ceased to be either safe or liquid. And suddenly, the treasury didn’t seem so boring after all.

Where the money goes

So, where did it go wrong? Georgina Kawamura, director of the Department of Budget and Finance, and the official state treasurer, describes treasury operations as a juggling act. “Here’s the day,” she says. “We get daily reports from the banks to let us know our ‘checking account’ balance. We also know, on a daily basis, what investments will mature.” These figures, combined with information about payments that will go out, constitute the calculus of the day’s excess funds, the funds available for investment. This begins yet another juggling act.

For the most part, treasury investments are scheduled to mature around large payments. Scott Kami, administrator of the Financial Administration Division (FAD), which oversees day-to-day operations of the treasury, gives the example of payday. Payroll, he says, averages about $8 million per pay period. “Normally, we schedule about half of that to mature on Friday, and the other half to mature on the following Monday. Because, historically, that’s how the checks clear.”

Armed with that information, treasury accountants can now contact brokers, banks and other financial institutions to find investment opportunities. In this way, the treasury’s responsibilities of cash management and investing are always intertwined. Every debt obligation and every dollar of excess cash must be meticulously tracked because, as Kawamura points out, “All the money is invested. All of it is earning interest.”

And yet, in a scathing report on the Department of Budget and Finance released in March, state auditor Marion Higa turns most of these mundane details on their head. For example, the treasury uses an almost indecipherable, handwritten, color-coded monthly calendar to monitor its investments. It calculates excess cash from manually prepared worksheets rather than electronic spreadsheets like Excel. And it deals with brokers through a decidedly informal system of e-mail and faxes.

Still worse, Higa says, is the treasury’s lack of oversight. The report notes that the FAD failed to prepare and review bank reconciliations, failed to produce a monthly investment report, and routinely allowed investment classes to exceed their statutory limits. In her view, it was this lax supervision that allowed the SLARS calamity. When the independent accounting firm Accuity conducted the state’s fiscal year 2008 certified annual financial report, it also said flawed internal controls led to the SLARS purchase. In her report, Higa points out that treasury staff never even saw the offering documents for these investments. Those documents clearly state many of the risks pertaining to SLARS.

The state uses a handwritten monthly calendar to monitor the
treasury’s $3 billion portfolio.

What Are SLARS?

Auction rate securities are basically debt instruments consisting of bundles of securities – in this case, student loans. The interest rates are set through periodic auctions: sellers offer securities at the lowest rate they’re willing to accept; buyers indicate the highest rate they’re willing to pay and how many they want to buy at that rate. This process is designed to determine the lowest interest rate at which all available shares of a security can be sold at par. This is called the clearing rate, and it serves as the interest rate for that entire issue of SLARS until the next auction. In the event an auction fails, the rate is set based on a pre-established relationship to some benchmark, usually the London Interbank Offered Rate, or LIBOR. Naturally, brokers assure buyers that auctions never fail.

To be fair, these auctions appeared to work efficiently for more than 20 years. And because the auctions usually happened every seven, 28 or 35 days, investors like the state treasury could treat SLARS as liquid investments, even though the underlying securities might not mature for 35 years. But sustaining that liquidity meant that all the available SLARS had to sell at every auction. That didn’t always happen, but the underwriting broker quietly bought enough to keep the auction from failing. Between auctions, brokers often tried to unload these securities on their customers.

Nevertheless, in 2007, when the financial markets began to implode, these securities began to accumulate on the wire-houses’ books, and brokers regarded them nervously. They encouraged their sales divisions to push ARS aggressively, even though insiders knew the auctions were becoming tenuous. Another sign of some distress in the market was the steady increase in interest rates, which, in the case of SLARS, eventually reached 7.35 percent (compared with 2.07 percent for two-year CDs.) For most investors, higher interest rates reflect higher risk. And yet, in the six months leading up to the market failure, the Hawaii treasury’s holdings in SLARS went from $427 million to over $1 billion, and from just 14 percent of the state’s portfolio to nearly 30 percent.

Of course, the state of Hawaii wasn’t the only investor surprised by the failure of the ARS market. Thousands of individuals and hundreds of institutional investors were caught off guard. A diverse group of government entities – states, counties, water-district boards, et al. – now found themselves stuck with these now long-term investments. Although most individual investors eventually recouped their investments through settlements with the wire houses that underwrote the auctions and government regulators, institutional investors have been obliged to write down their ARS as part of the “mark to market” standards of generally accepted accounting practices. In the summer of 2008, for example, the state acknowledged a $114 million impairment on its certified annual financial report as a result of its SLARS holdings. Though Hawaii may have the largest holdings, it hasn’t taken the worst blow. Jefferson County, Ala., is verging on bankruptcy due to the failure of the auctions.

Closer to home, Maui County found itself stuck with more than $30 million in SLARS when the market crashed. Like the state, Maui seems to have relied on assurances by a broker, in this case, Merrill Lynch, that these were highly liquid securities. Also like the state, Maui invested heavily in SLARS in the months leading up to the market failure.

Different Responses

Despite the similarities between Maui and the state, there have been striking differences in how they responded to the SLARS debacle. For example, the state continues to defend its investment. “The one thing that gets lost in this whole discussion about ARS,” says Scott Kami, “is that the securities themselves are very sound investments. There hasn’t been any default on them, and we continue to get all our interest paid when it comes due.” Moreover, he says, the yield on the state’s ARS, approximately 1.9 percent, is higher than that earned by the state’s other investments. He points out the yield on 30-day CDs is almost zero.

Kawamura takes another tack. “I think people have put too much emphasis on the write-down,” she says. “Everyone thinks we’ve lost money. We have not.” She acknowledges that accounting principles required the state to estimate an impairment on its SLARS holdings. She also admits that if the state were to sell its holdings today, it would likely incur an additional $250 million loss. But Kawamura views these as purely paper losses. “That’s assuming that you’re going to sell,” she says. “Of course, we haven’t sold, and we don’t intend to.”

But Maui County treasurer Suzanne Doodan is not convinced by the state’s arguments. “I spouted those same lines for the first few months,” she says. “But these are no longer short-term instruments; you have to compare them to 30-year investments.” So, while the state’s 1.9 percent yields on SLARS may look good compared to current rates for bank repos or short-term CDs, they’re low even compared to the 4.75 percent yield on a 30-year U.S. Treasury note. SLARS might have been attractive as short-term investments, but they are liabilities as long-term investments.

This difference in perspective led Maui to pursue a different strategy than the state. This January, the Maui County filed a federal lawsuit against Merrill Lynch, the broker that sold them the SLARS. (To see Maui’s lawsuit filing, click here to download the PDF file.) Like other institutional investors around the country, Maui alleges Merrill sold SLARS as “cash equivalents” even though it knew, or should have known, these investments were unsuitable for Maui’s needs.

The state declines to discuss whether it’s pursuing legal action related to SLARS. “We’re obviously letting our attorneys take care of reviewing our options,” says Kawamura. Tung Chan, commissioner of securities at the Department of Commerce and Consumer Affairs, acknowledges receiving complaints “against these companies – Citi and Merrill – related to ARS.” DCCA policy, though, is not to disclose the name of the complainant. It remains to be seen if the state, in steadfastly defending its investment in SLARS, has lost its opportunity for legal recourse.

“I wonder if they missed the date to file,” Doodan says. “I think it’s a two-year statute of limitations.”

A Better Way

There are other important differences between Maui and the state, according to Doodan. “To my knowledge, the state has only used two brokers for years and years and years,” she says. “In contrast, we go out to at least five, six, seven, eight brokers. And every few years, we go out and solicit new brokers.” It’s also interesting, she notes, that, while Maui has suspended doing business with Merrill, the state continues to use the same broker who sold them the SLARS as bond underwriters. (This same broker, Pete Thompson, of Morgan Stanley Smith Barney, played a key role in persuading the Legislature in 1998 to add SLARS to the list of acceptable investments for the state treasury.)

There is another difference between Maui and the state. To coordinate its investments and cash-management obligations, Maui uses sophisticated, Web-based software called QED. This program was specifically designed for treasury operations and automates many basic functions of a treasury. It continuously updates the status of investments, including the current value of securities. It also provides templates for more than 600 different reports, most of which can be produced almost instantaneously. This ease of reporting simplifies the supervision and oversight of the county treasury. That’s probably why more than 40 states and thousands of counties and smaller government entities use QED.

For its part, the state relies upon a software program called Microsoft Dynamics, which is primarily a program for enterprise solutions or customer contact management. Although it has been adapted to be used for financial purposes, it doesn’t address many of the specific needs of a state treasury. As one expert put it, “This is like hunting an elephant with a shotgun.” This may help explain the treasury’s failure to routinely produce the reports called for by its own investment policies. It may also explain why the state’s investment activities are largely tracked on manual worksheets or even handwritten calendars.

Most state treasuries are far more transparent and seem to sustain much more oversight than Hawaii’s. New Mexico – an apt comparison with Hawaii because of its population of 2 million people and treasury of about $5 billion – offers an excellent model for an efficiently run treasury. “I can tell you,” says chief investment officer Sheila Duffy, “we have a lot of oversight in New Mexico. And we like it.”

Structurally, that oversight takes the form of two standing committees. The Treasury Investment Committee, Duffy says, consists of treasury officials and two securities experts from private industry. The other oversight group, the Board of Finance, supervises the broader activities of the state treasury, which corresponds roughly with Hawaii’s Department of Budget and Finance. Neither group is passive.

“We have a once-a-month report, a book really, that we deliver to the Treasury Committee” and to Board of Finance, Duffy says. This substantial report – produced automatically using QED software – summarizes the treasury’s existing investments, including asset details, yields, and trends compared to a benchmark. These reports and the minutes from committee meetings are available on the treasury’s Web site, along with numerous other reports and resources. In contrast, although Hawaii’s state treasury policy requires monthly status reports for the director of the Department of Budget and Finance, this report hasn’t been prepared since 2007, according to the state auditor. Moreover, there’s no outside authority to review such a report.

The Cure

How can Hawaii improve its often informally structured, poorly supervised and cloistered state treasury? And what can we do about its extraordinary burden of SLARS?

As for the auction rate securities, the answer may be nothing. “For now, our liquidity issue is covered,” says Kawamura, by which she means that, as the treasury’s longer-term investments mature – and they’re allowed by statute to carry some investments out to five years – these are gradually replaced with the SLARS. And the state seems intent on either holding onto them until maturity – another 35 years, in some cases – or waiting until it’s possible to sell them at par. That might seem farfetched. After all, the allegations of fraud, negligence and collusion that have been leveled at the wire houses have stigmatized SLARS as an investment. But some believe the SLARS market will revive; Kami said as much in his Dec. 27 testimony at the state Legislature. Even Maui County finance director Kalbert Young holds out hope.

“I would point out,” Young says, “since the SLARS market failed in February 2008, there’s been a slow return of activity in this market.” He doesn’t mean the actual resumption of successful auctions – not yet, anyway – but that the underlying securities have started looking increasingly attractive to investors. “We’ve been getting calls from other institutions interested in buying our ARS,” he says. “Not at par, of course, but better than it was. Even Merrill Lynch was willing to purchase some.” Nevertheless, Young says, “we still want to pursue our legal filings.”

Improving Hawaii’s treasury operations may prove easier. It’s simple enough to look to the examples of other states, like New Mexico and New Jersey, that have modernized their treasuries. Software solutions typically come with extensive consulting services and are cost effective. (QED costs less than $100,000 a year, after the initial setup.) But the most important lessons probably come from history.

After the disastrous 1994 bankruptcy of Orange County, when the county treasurer’s wild, unsupervised speculation in risky derivatives cost the county over $2 billion, the California state auditor issued some familiar-sounding recommendations: Have a Board of Supervisors approve the treasury’s investment policies; appoint a committee to oversee investment decisions; require frequent, detailed reports from the treasurer; and establish stricter rules governing the selection of brokers and investment advisers.
Those sound a lot like the recommendations of the Hawaii state auditor. They’re also suspiciously close to the kinds of best practices employed in New Mexico. In other words: boring, boring, boring.

Risky Strategies

State’s mix of risky & safe, traditional investments

CASh

Demand Deposits1
$229,770,000

Cash with Fiscal Agents
$5,980,000

U.S. Unemployment Trust
$265,499,000

Investments

Investments Time Certificates of Deposit2
$618,192,000

U.S. Government Securities
$528,130,000

Student Loan Auction Rate Securities3
$1,006,975,000

Repurchase Agreements4
$1,151,620,000

Total Investments
$3,304,917,000

Total Cash and Investments
$3,806,166,000

1. The state routinely failed to reconcile bank statements. In addition, funds were often left in sub-accounts that did not earn interest.

2. At least five times, the state exceeded the 50 percent limit on CDs from a single issuer.

3. The state’s portfolio of SLARS remains at roughly 30 percent of its total investments.

4. Repurchase agreements exceeded the 70 percent statutory limit in four out of 12 months.

Source: State auditor’s report

 

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The Hegemony of HMSA

The hegemony of the Hawaii Medical Service Association is nearly complete. For better or worse, it touches almost every facet of healthcare in the state. It has cowed some of the largest insurance companies in the world, and humbled its tiny local competitors. It has given Hawaii’s consumers the lowest average health insurance costs in the nation, and burdened our healthcare providers with some of the country’s lowest reimbursement rates. It is one of the most influential institutions in the state. And it’s not going anywhere.

Nearly a monopoly

Most people are well aware of the company’s near monopoly as the largest supplier of health insurance in the state. According to J.P. Schmidt, the state insurance commissioner, HMSA controls nearly 70 percent of the market. Even that number understates its dominance. Kaiser Permanente, with roughly 22 percent of the state’s health insurance market, is usually thought of as HMSA’s largest competitor. But it’s not entirely clear that health maintenance organizations like Kaiser compete directly with preferred-provider organizations like HMSA. Consumers seem to clearly prefer one business model or the other, a fact reflected in the two companies’ stable market shares. Among the companies offering PPOs — by far the more popular form of health insurance — HMSA’s market share climbs to nearly 85 percent.

But the company’s dominance on the demand side is more remarkable. That’s because, in order to stay in business, nearly every doctor, hospital and clinic in the state has to sell their services to HMSA. Economists call this a monopsony — a market situation in which many sellers compete for a single buyer — and just like a monopoly, it concentrates enormous power in a single player. And this aggregation of power may be irreversible. A 2003 American Medical Association report to the U.S. Department of Justice noted: “There may well exist a ‘tipping point’ in health insurance markets, where an incumbent’s market share is so large that new entry is impossible.” In fact, HMSA’s market share really hasn’t changed in decades.

Government’s role

That hasn’t stopped J.P. Schmidt from trying. Since taking office in 2003, one of the insurance commissioner’s primary focuses has been to lure new insurers to Hawaii. Part of that is simply creating a regulatory climate more conducive to doing business. “One of the things that helps attract insurers is the approach of the regulators,” Schmidt says. “Some states take an adversarial attitude; I think that actually works to the detriment of the state. Insurance companies are less interested in working in that environment. They also employ more gamesmanship — hiding and dodging and weaving to avoid sanctions from the regulator.”

 

Schmidt has also tried to address specific regulatory and market conditions that deter new insurers from coming to Hawaii. He’s looked into regulating the size of HMSA’s burgeoning surplus (nearly $500 million), which competitors view as an obstacle to competition. They fear HMSA can use the surplus to subsidize unfair rates, under-pricing possible competitors. For the past several years, Schmidt has also unsuccessfully pushed for the Legislature to remove the existing 4.5 percent premium tax exemption. “Nonprofit companies, like HMSA, are exempt from the premium tax,” Schmidt says. “That’s an immediate 4.5 percent handicap for for-profit companies. That’s simply too high a hurdle for most of them to overcome.”

J.P. Schmidt,
Hawaii state insurance commissioner

So far, Schmidt’s main accomplishment has been reintroducing rate regulation, after a two-year hiatus. This means insurance companies again have to submit rate changes to the insurance commissioner for approval. “We review them to make sure that the assumptions in the rate are properly supported,” Schmidt says. “Then, we approve the rate if it’s not excessive and it’s not inadequate or unfairly discriminatory.” Although the regulation prevents overcharging, its main purpose seems to be protecting competitors from unrealistically low rates. It’s a backhanded way to prevent HMSA from using its enormous reserves in a price war with competitors.

Still, rate regulation certainly hasn’t noticeably troubled HMSA. In fact, HMSA and Kaiser, which both opposed its reintroduction, now say they favor rate regulation and competition in general. “People should have a choice,” says Steve van Ribbink, HMSA’s CFO. “And we’re encouraged by the fact that about 700,000 people have chosen HMSA. We appreciate their business. As for rate regulation, I think it’s fine. I think it gives people comfort to know somebody’s looking at the rates, that no one’s being dealt with unfairly.” Even so, he’s quick to add, “But it hasn’t changed how we go about doing things.”

Big deal for Summerlin

Perhaps the most promising sign for rate regulation occurred this winter, when Summerlin Insurance, a Nevada-based company, outbid HMSA to insure the 600-plus employees at The Honolulu Advertiser. Schmidt had been courting Summerlin for some time. “We began to talk to Summerlin my first year on the job,” Schmidt says. “They had been doing some business in the state as a third-party administrator for union plans, so they had some networks built up, and that provided them some comfort coming into the market.” Nevertheless, Summerlin — which declined to comment for this story — remains a small player in Hawaii and its arrival hardly represents a dramatic change.

Bill Donahue, executive director of the 700-member Hawaii Independent Physicians Association, says there isn’t any new competition resulting from the return of rate regulation “and there never will be.”

Bill Donahue,
executive director of
Hawaii Independent Physicians Association

“During the 1970s, we passed a statute called the Prepaid Healthcare Act,” he says. The first of its kind in the United States, the PHCA requires that all employers provide health insurance for their employees. It placed a tremendous economic burden on the state’s employers, but Hawaii has the highest rate of health insurance coverage in the country. “It was a wonderful and tremendously progressive piece of legislation,” Donahue says.

As do most revolutionary changes, this one came with unintended consequences. Requiring employers to provide coverage is meaningless without establishing what must be covered, so PHCA required that any health insurance company had to offer coverage equivalent to “the prevailing plan.” Since HMSA controlled the majority of the market, that meant any new insurer’s plan had to match what HMSA offered. (Moreover, both HMSA and Kaiser have representatives on the commission that decides whether new entrants to the marketplace meet these standards.) The result is that HMSA determines what constitutes health insurance coverage in the state.

“Let’s say you were Aetna or United Health,” Donahue says, referring to two of the largest medical insurers on the Mainland. “If you came here, you would be coming into a marketplace where your competitor dictates the rules.

“And that’s in addition to the problem of the premium tax,” he says. “You’re already operating at a 4.5 percent disadvantage.”

Furthermore, Donahue, like many other industry observers, says there’s no large population in Hawaii to entice large, national insurers. “We’re a small marketplace in the middle of the ocean,” he says. “What are there, like 1.3 million people here? That’s like Boston, but without Rhode Island or New Hampshire or the rest of Massachusetts nearby.”

Niche players

Commissioner Schmidt, of course, also has hopes for the so-called “little sisters”—companies like Summerlin, the Hawaii Medical Assurance Association and the University Health Alliance. He points out that UHA is increasing membership, and HMAA, which once operated almost like a closely held corporation, is creating an independent board and seems eager to grow. “The additional competition is, I think, a very good thing for the people of Hawaii,” Schmidt says. Donahue demurs. “They’re just niche players,” he says. “They have relationships with certain employers, but they’re not in a position to make a break-out move.”

It’s an opinion confirmed in conversations with executives at the little sisters. Rodney Park, CFO of HMAA, points out, “We never try to take on 300- or 400-employee companies; we focus on mom-and-pops. They’re looking for service. They don’t have an HR department or know all the nuances of insurance. A lot of the time, we deal directly with the proprietor.” Although this approach has garnered HMAA a consistent share of the market, that share has always been less than 5 percent.

UHA COO Howard Lee notes that, with more than 50,000 members, UHA is probably the third-largest commercial insurer in the state; but it’s still dwarfed by the 700,000-plus membership of HMSA. “If we continue to be successful, we would like to expand our market share,” he says. “But we have to make sure that we’re prudent so we can be here for the long run.” Modest ambitions like these reflect a kind of fatalism about the dominance of HMSA.

John McComas, CEO of AlohaCare and a respected observer of the health insurance industry, points to another HMSA advantage. “They have the vast majority of the employers in the state,” he says. This “utilization experience” — the actuarial data that comes from handling so many groups for so long — is the lifeblood of the insurance industry. “It allows you to predict with a great deal of accuracy what your expenses are going to look like. Other groups don’t know that.” This means other insurers — especially newcomers like Summerlin — lack the basic information to make long-term pricing decisions. And yet, for the employers who purchase insurance, price is typically the major consideration.

McComas notes, “In order for me to take a group away from HMSA, I have to offer better benefits or lower premiums. And it can’t be 2, 3 or 4 percent lower — that wouldn’t be worth the trouble. Employers are saying, ‘Come to me with a 15, 20, 25 percent decrease in my healthcare costs.’ ” But the truth is, other insurers will never be able to compete with HMSA on price. “Because HMSA is such a large buyer, they have much more leverage in negotiations with hospitals and physicians,” McComas says. “Consequently, HMSA is probably going to have the best hospital rates out there.” This is the value of a monopsony.

Of course, neither monopolies or monopsonies are all bad. Even Bill Donahue, who describes himself as “one of the biggest critics of HMSA,” is quick to point out some of its saving graces: lower rates for consumers, financial assistance for doctors and hospitals to modernize their record-keeping, and online care for those unable to visit their physician.

Hawaii has the Lowest Premiums

Average Single Premium Per Enrolled Employee (Employer-Based Health Insurance, 2006)

Rank

Employee
Contribution

Employer
Contribution

Total

United States

$782

$3,336

$4,118

1

Hawaii

$355

$3,194

$3,549

2

Arkansas

$713

$2,854

$3,567

3

Idaho

$572

$3,001

$3,573

4

Nevada

$537

$3,046

$3,583

5

Mississippi

$741

$2,963

$3,704

6

Tennessee

$749

$2,998

$3,747

7

North Dakota

$682

$3,105

$3,787

8

Kentucky

$682

$3,109

$3,791

9

Kansas

$767

$3,066

$3,833

10

Utah

$847

$3,041

$3,849

 

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