Everybody loves DB plans and the guarantee of future investment returns implicit in them. That “tail risk” has been the ruin of more companies than one can count – think AMR, Delta, GM, the entire steel industry to name just a few. That’s why we need the PBGC – to clean up the wreckage when these plans fall to pieces. At the end of the day, it’s taxpayers who have to underwite too much of the promised benefits.

DC plans aren’t any better in concept, but at least they don’t imply promises they can’t keep.

Regarding Appadurai’s point, there may be more business news, but most of it is written by reporters who are woefully uneducated in business, economics, and accounting. WSJ, the Economist, and the FT are almost always high quality. There are other pockets of educated media – some NYT business coverage, especially Dealbook and certain feature writers such as Bethany McLean. I often don’t agree with Felix’s conclusions, but I’ll admit that he’s generally knowledgeable about business, finance, and economics topics. Most business journalists, never mind general or political journalists, aren’t very knowledgeable on business or economics topics, though. I’m amazed by the number of times that I see reporters write “balance sheet” when they mean “income statement”.

Please feel free to correct me, as I recall it;

20 or so years ago the great evil afflicting employers was the defined-contribution pension. It seemed that because that pensions were being well managed, they were accumulating stunning amounts of money. Seemingly, they were more profitable than the companies that were contributing to them.

The great crime then, was that if allowed to continue, defined-contribution pensions could end up paying beneficiaries far in excess of the pathetic amounts originally envisioned, when that money could be used for something much better right now.

See, those pathetic fixed payments were really all that employers morally owed, and the defined contributions were resulting in over funded pension plans, and that was just terrible. Well, that situation was remedied.

That was how we got to the criminally generous defined benefit pension of today.

Much of my animosity to DB plans stems from my years in the public schools. It was funded primarily by an 11% employee contribution, and benefits were calculated on years, age, and final salary. Seems like a reasonable deal, no?

Except in my case, I started late (too many years of education) and knew that I wanted to take some years off to raise my family. Had I remained in the system, I would not have received credit for the investment returns from that decade. Nor could I have received Social Security benefits (paid on self-employment and outside income throughout the years).

Moreover, I would have been trapped in the job well into my 60s. Was that a commitment that I wanted to make at the age of 35? Instead I left the system, received my contributions back (with just a paltry 2% interest added), and invested them on my own.

Traditional pension plans are a trap for all involved. Your alternative sounds much more fair, much more flexible.

Felix, I agree — replace DC plans with DB plans, but then get the actuarial profession to create better funding standards that pre-fund plans, and then get the IRS to call off the dogs when it reduces tax revenue.

I think that employers using clout to negotiate lower fees on defined contribution plans is likely a better path to success than this defined benefit plan idea, which has a variety of structural and practical complications.

If I participate, am I allowed to withdraw my funds at any time? If so, as other commenters have noted, we’re then back to the problem of individuals hurting their returns by selling low and buying high. Also, many DB plans invest in part in illiquid assets – real estate, private equity, timber, etc. – so large withdrawals during a downturn would dramatically change asset allocation percentages. A large part of how DB plans operate is based on the fact that the payments they’ll be making are fairly predictable, at least over the near to medium term.

Also, as an individual I probably don’t want to keep the same asset allocation over my lifespan, which is implicitly what I’m doing if I put my money alongside a DB plan. When I’m young, I want an equities heavy allocation, and I then should transition gradually to a fixed income heavy allocation as I age.

Otherwise, you make some excellent points!

How does the average person even begin to know how to invest for their retirement in a defined-contribution fund? What percentage of the population really understand what a bond is, and how price and yield are connected? Who do they turn to for advice, how much will the advisers charge? I looked over a friend’s 401(k) investments and thought that he was being overcharged for bad investments while paying his “financial advisor” a very hefty percentage. Although a professional who was college educated, he stayed with his plan because he knew nothing about investing.

At the extreme, San Diego is looking to move from defined-benefit to defined-contribution for new hires. Yet the city withdrew from the Social Security program long ago. In retirement, all the pensioners will have to live on will be what they have put away in their defined-contribution plans. One hopes the new employees will have monster investing skills.

I’ve done a lot of historical research involving prices in the 60′s and 70′s, and there have always been periods when the stock market would perform badly for a number of years. Bear markets can endure much longer than many think. The bull market of the 80′s and 90′s was mainly due to lower interest rates pushing up P/E’s.

Over a very long time period, such as 10 years, stocks almost always do outperform bonds. The equity premium adds up to a substantial number *if* the investor spreads out their buy and sell orders over a long time span.

The only thing defined-benefit funds have over defined-contribution funds is that investment managers are graded on relative performance. Both DB funds and hedge funds lose money in transaction costs vs. unmanaged funds. But unlike many DC investors who buy and sell at the absolute wrong times, they stay totally invested in the stock market at all times.

I’m under the impression that the returns to DC plans are low mainly because with most 401Ks the default option is (still) a money market plan, and a plurality of DC participants never get beyond the default. So the problem is not rents extracted by the industry, but rather risk aversion (or ignorance) by participants. That’s also an argument for DB plans, but a different one – DB plans function more like insurance, as risk sharing mechanisms. (As well as effectively a forced savings mechanism.)