Opinion

The Great Debate

The truth about pension reform

This article was written in response to “How should John Arnold approach pension reform?” (February 16) by Felix Salmon.

Felix Salmon’s recent post about my involvement in pension reform and Mayor Chuck Reed’s efforts in California contains serious mischaracterizations.

Salmon repeatedly claims that my wife, Laura, and I and our foundation, LJAF, “support plans making it easier for governments to default on existing promises.” Nothing could be further from the truth. We strongly believe that pension reform should not aim to cut or eliminate benefits, and we believe equally strongly that workers deserve to be a part of a fiscally sound, responsibly managed retirement savings system that provides a path to retirement security. Our communities need a simple, transparent system that holds governments accountable to pay for promises to workers. The current system falls far short of this goal. State and local governments have accrued at least a trillion dollars in pension debt, which has led to benefit cuts in 48 out of 50 states. It is unfair to workers to place them in a system where governments’ failures to fully fund retirement promises can necessitate unexpected benefit changes. For the past three years, we have worked to protect workers by encouraging governments to responsibly address their pension problems through reforms that are comprehensive, sustainable, and fair.

In the interest of furthering constructive debate based on facts and not rhetoric, I offer specific comments on Salmon’s recent blog post.

Insofar as there’s a pensions problem, it’s in large part a function of how labor negotiations work in the real world. Local governments, operating on a tight budget, can’t offer the kind of pay raises that the unions demand — and so the unions accept juicier pension benefits in lieu. The present value of the pension benefits is invariably larger than the amount of money the unions would accept as a simple raise — but so long as the current government doesn’t need to pay anything, both the government and the unions are happy. The unions get valuable rights for life, while the government gets to leave for its successors the question of how to pay for them . . . None of this will be easy: the whole reason why pension obligations started ballooning in the first place was that local governments didn’t have the money to hand out pay raises. So the unions will push back against these ideas: they like any system which makes it easier for them to accrue valuable benefits at negligible up-front cost to the government.

The real reasons America’s pensions are hurting

State and local pension plans are underfunded, in many cases dramatically. Enough so that, in the next decade, many states will have to cut benefits or services, raise taxes, or receive some form of a bailout. Matt Taibbi’s latest in Rolling Stone blames the situation on a convenient villain — Wall Street. But it’s far more complicated than that. State and local plans are underfunded because of terrible accounting standards, local governments who underfunded their plans, and plan trustees who gave away sweeteners that robbed plans of their assets. That is the inherent problem with traditional pensions, or any type of compensation that is back-loaded (payments pledged for the future). It’s too easy to over-promise today and not set enough money aside, but either retirees or taxpayers eventually have to pay up. It’s tempting to blame Wall Street, but that does not solve the problem. It enables public employees to lobby against their own long-term interests.

Traditional pensions, called Defined Benefit (DB) plans, are supposed to protect workers. Workers are promised that a fraction of their highest salary will be paid to them upon retirement and for the remainder of their lives. Around their peak of popularity, in 1980, about 38 percent of private sector workers had a DB pension, but today fewer than 15 percent do. Nearly all public sector employees still have a DB pension.

By contrast, most people in the private sector finance their retirement with an account they manage themselves. They decide how much to contribute and bear the investment losses. If their account is up when they retire, they get a richer retirement. If it is down, they get a poorer one. The advantage of DB plans is that they spread investment risk across different cohorts. High-return cohorts subsidize the low-return ones. Everyone is protected from a poorer retirement by giving up the upside. If you adequately fund the plans it can be an efficient form of risk sharing.

Social Security as solution, not problem

Social Security is not the problem – it is the solution.

Washington is filled with talk of a looming “retirement crisis.” The discussion focuses on funding Social Security and usually includes calls to cut benefits – either by changing payout formulas or raising the retirement age.

But the real problem is not the long-term solvency of Social Security. Rather, it is the fact that millions of Americans are facing an insecure and underfunded retirement.

The best way to address this retirement issue would not be to cut Social Security but to expand it, as Michael Lind, Steven Hill, Robert Hiltonsmith and I argue in a new paper released Wednesday. By increasing the public portion of the American retirement system, we can spend the same or less on retirement as a share of the economy while making the system as a whole much more progressive and stable.

Pensions and the coming savings boom

jamessaft1James Saft is a Reuters columnist. The opinions expressed are his own

The explosion in company pension fund shortfalls in Britain nicely illustrates issues which will dominate economics and investment in coming years: the re-pricing of risk, a disillusionment with equity markets, and the boom in savings these shortfalls will help to drive.

Under current accounting rules, the pension funds of companies in Britain’s FTSE 100 index are together 96 billion pounds ($170 billion) underfunded, more than double the deficit of a year ago and an all-time record, according to a report from pension fund consultants Lane, Clark & Peacock.

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