(FORTUNE Magazine) – WHILE BANKS, S&Ls, insurance companies, and nearly everyone else in the financial services industry has a case of the shorts, America's public employee pension funds have an embarrassment of riches. And like a lot of wealthy folks, they are becoming the victims of holdup artists. With ever more states and cities facing nasty budget deficits, the politicians who run them are trying to grab some of the $878 billion set aside to pay for the retirement of teachers, firefighters, police, sanitation workers, and other public employees. The pilfering of the golden nest eggs is alarmingly widespread. In the past two years more than a third of the states have cut or delayed contributions to their pension funds, seized money outright from pension accounts, or begun to debate similar measures. This is no time to be confiscating pension assets. While contributions have fallen slightly over the past three years, payouts to pensioners have been rising sharply (see chart). As a result, cash flow -- the difference between annual contributions and benefits paid over the year -- has narrowed for the public funds, to $6 billion from $16 billion. According to Chris McNickle of Greenwich Associates, a research firm that compiles data on pension funds, the gap could shrink to $2 billion or less by the end of 1991. The immediate victims of any cut in contributions or attachment of assets are the public employees whose retirement funds are being raided. But taxpayers may be on the hook too: They could have to make up the difference if, thanks to the raids, public plans lack the wherewithal to pay retirement benefits in the future. The most egregious assault on pension funds occurred in California last summer. As the July 1 start of the fiscal year neared, Republican Governor Pete Wilson was staring at a $14 billion budget deficit. So to help make ends meet, Wilson decided to take $1.6 billion from the coffers of the $63 billion California Public Employee Retirement System. Known as Calpers, the fund covers most state workers except teachers, who have their own plan. Wilson also tried to replace the 13-member Calpers board with a new nine-member group that he would control. Dale Hanson, the system's irate chief executive, called this scheme a ''hostile takeover.'' The backlash against the governor came immediately. State employees blocked the driveway to the capitol's garage to protest looting the fund and packing the board, and they overwhelmed their representatives with calls, telegrams, and visits. Wilson threatened them with salary reductions, furloughs, and layoffs of up to 20,000 workers if they succeeded in foiling his plans. Robbery and blackmail, cried Fortney H. Stark, the liberal Democratic Congressman from Oakland. He accused Wilson of conspiring to turn workers' savings into a ''giant slush fund'' that would ''hide the real cost of government.'' In the end, the California legislature prevented Wilson from reconfiguring the board but let him have the $1.6 billion from the pensioners' cost-of- living account anyway. California's Third District Court of Appeals will decide on the constitutionality of the legislators' action by March or April. The Illinois Supreme Court is hearing a similar case. As the hot Springfield summer wore on, Illinois legislators, anxious to adjourn, were desperately ) hunting for money to comply with the state's balanced-budget requirement. Rather than making tough choices, they told Republican Governor Jim Edgar to take up to $50 million from the state's 250 ''special funds,'' which under the law must be spent on specific purposes like schools, roads -- or pensions. Edgar seized $21 million from the five state retirement systems, making no promise to repay the money, and used it to shore up the general-revenue account. A court ruling on the constitutionality of this move is expected soon. The Illinois snatch is particularly nasty because the public employee pension plans, unlike Calpers, were underfunded to start with. Assets covered only 46% of the present value of projected obligations for judges on up to 65% for teachers. By comparison the national average for public retirement systems is around 80%; private pensions, which are subject to the tough Employment Retirement Income Security Act rules, must strive to be fully funded. Ironically, Illinois passed a law in 1989 requiring itself to push toward full funding of its public plans by 1996, and then fell short by a total of $500 million in employer contributions in 1989 and 1990. MOST ATTEMPTS to siphon money out of public employee pension funds are far more subtle than those in California and Illinois. Typically a city or state will play around with actuarial assumptions on which the funding and the investment objectives of its plan are based to reduce the contributions required. Here's how this works: With the help of historical tables on life expectancies, inflation rates, and so forth, actuaries determine how much money a pension plan will need years from now in order to pay benefits to future retirees. This work requires developing complex forecasting models based on an array of assumptions. For example, how much will salaries increase? Will employees opt for early retirement in ever greater numbers? One of the most crucial projections is the annual rate of return on the pension plan's invested assets. The power of compound interest means that a seemingly small improvement in annual returns -- say, 8.25% vs. 8% -- adds up to a lot over 25 or 30 years. Thus, a marginally higher projection for the rate of return means that an employer can drastically reduce the sums it must put into a plan. A basic rule of thumb: If you increase the expected rate of capital appreciation by one percentage point over 30 years, an employer can cut its current contributions to the fund by 20%. , Louisiana saved $11 million last year in contributions to its teachers' retirement system by upping the projected return from 7.5% to 8.25%. Missouri netted some $20 million by going from 8% to 8.5% last year on its state employees fund. New York City boosted its rate-of-return assumption for city employees from 8.25% to 9% in the winter of 1990, which saved $40 million for the Transit Authority alone and enabled it to hold bus and subway fares to $1.15. Years from now, if the projections for investment returns turn out to have been too optimistic and the plans no longer have enough money to pay benefits, the politicians who instigated the changes will no longer be in office. Taxpayers could well be stuck writing the monthly pension checks for legions of retired civil servants. But it is difficult for employee advocates to fight these changes because actuarial math does not make for vivid public debate. Depending on the full set of assumptions -- salary and payroll increases, early retirement, retiree mortality -- a range of returns could be deemed reasonable to provide sufficient funding for the future. In 1989 the targets used by public retirement systems varied from 5.5% a year to 9%, with 7.8% as the mean. Clearly, 5.5% is too conservative. And, granted, a shrewd outfit like Calpers earned a hefty 12% annually over the last half of the Eighties. But is it so certain that the historic 1980s run-up in stock and bond prices will be repeated in the Nineties and beyond? Hot decades for stocks are usually followed by cool decades, and corporate pension managers certainly haven't rushed to increase their projected returns. Most recent adjustments in public- fund contributions bear the unmistakable mark of the worst kind of politics. In a fall 1991 survey by City & State newspaper, 11 out of 28 of the largest funds said their actuarial assumptions were adjusted upward over the past two years, many in response to political pressure. TEACHERS, the beneficiaries of several of the largest pension systems, have been especially hard hit by political shenanigans. In 1990, New York State, facing a $3 billion deficit, withheld $850 million of contributions to teacher pensions. By switching to a new way of calculating the funding, California is reducing payments to its teachers' retirement system for ten years, including a $400 million cut this year, while planning to make up for the shortfall through sharply higher contributions after 2001. Talk about passing a burden to future generations! ) Texas is reducing contributions to teacher pensions by $85 million over the next two years, boosting the system's unfunded liability to almost $4 billion. The state comptroller has even tried to wrest control over state pensions from an independent board and give it to a committee consisting of the governor, lieutenant governor, and -- you guessed it -- the comptroller himself. THE QUESTION of whether pols have the right to put their hands in these cookie jars begs a more fundamental question. To whom does the public employee pension-fund money really belong? The answer: to the beneficiaries and to no one else -- not to the state or to the public at large. A pension fund's assets represent deferred employee compensation and thus constitute private property. Pension trustees are the the guardians of this property. But the trustees are often appointed by elected officials or must run for office themselves, so they are apt to give in to pressures that allow the funds to serve political objectives at the expense of the pensioners. Wrongly so, argues Edward Regan, New York State's Republican comptroller and sole trustee of the state's $44 billion retirement system: ''Do public officials have a right to use pension fund assets for budget balancing and other government purposes? The answer is a clear no.'' Regan, however, is at odds with Governor Mario Cuomo, a Democrat, who is eager to have pension funds make investments for the purpose of enhancing the economy of New York State. In bona fide fiscal emergencies, the enlightened self-interest of current employees and retirees might dictate lending some pension plan assets to their imperiled employers. Otherwise, the bankrupt state or city might not be able to pay benefits to its retirees at all -- and might have to fire large numbers of government workers. New York City's pension funds invested in municipal bonds as part of Gotham's mid-1970s rescue. But the trustees were able to demand a 9 1/4% rate of interest, several percentage points higher than the prevailing rate for tax-exempt issuers. They also received federal guarantees of repayment and special immunity from their fiduciary obligations that would normally prevent them from investing in a related party or one with a poor credit rating. The arrangement clearly worked out well for the city and for the pension funds. Detroit essentially copied the New York example during its financial crisis of 1981. So did Philadelphia in 1991. Its credit rating having fallen below investment grade, Philadelphia could not continue its annual practice of selling short-term tax-anticipation notes in the fall and paying them off in the spring when tax revenues flowed in. So the city turned to its pension funds in January for $37.5 million in loans as stopgap financing. The pension trustees, serving as lenders of last resort, exacted a brutal toll: the prime rate plus fees equaling around 2% of the principal. The city paid off the loans by April 15, giving the pension funds an annualized return of 27%. Without that exceptionally high return, the fiduciaries would not have been able to justify the risk. J. Chester Johnson, president of Government Finance Associates, a New York City consulting firm, advised Philadelphia on the transaction. In his previous job as a Deputy Assistant Treasury Secretary, he oversaw the federal government's loans to New York City in the 1970s. He says that governments should consider borrowing from pension funds only in ''desperate circumstances.'' Such cases would include helping out a municipality close to bankruptcy or an issuer that had lost its investment-grade rating and had dire cash-flow needs with no access to capital markets. Does either of these circumstances fit California, the eye of the current storm? It is hard to believe Governor Wilson, who justifies the pension raid as ''urgency legislation,'' when he argues in his brief to the court of appeals that California's fiscal crisis threatens the state's ''ability to provide and fund for essential services.'' Although recently downgraded by Standard & Poor's, California still has that coveted triple-A credit rating from Moody's. It all goes to show that politicians will say almost anything to get their mitts on somebody else's cash.

CHART: NOT AVAILABLE CREDIT: FORTUNE CHARTS/SOURCES: GREENWICH ASSOCIATES, NATIONAL ASSOCIATION OF STATE RETIREMENT ADMINISTRATORS/NATIONAL COUNCIL ON TEACHER RETIREMENT Public pension plan assets are increasing. . . . . .but payments are catching up to contributions. . . . . .and most plans are still underfunded