Another Financial Time Bomb Is Ticking Away : Pensions: Companies have overpromised and undercontributed to their retirement plans. Will taxpayers bear the burden?
For the Pollyannas who think that a savings-and-loan-type debacle couldn’t possibly afflict the country’s pension system--think again. Many of the largest U.S. companies have been skimping on their pension con tributions for more than a decade. As a result, the gap between promised benefits and assets available to pay for them is growing relentlessly.
The Pension Benefit Guaranty Corporation recently published its annual list of the 50 companies with the most poorly funded pension plans. Their combined shortfall rose by more than 30% during the past year, to $38 billion. That’s up from $14.2 billion in 1990.
Just one company--General Motors--separately admits that its unfunded liability swelled to $24 billion in 1993. To help close the gap, GM wants to issue $5.7 billion in new stock to the pension plan. Never mind that those shares would be worthless if the company ever went bankrupt. GM wants it both ways. It gave away the store by promising workers far more in retirement benefits than it could ever deliver. Now it wants to extricate itself from its pension problem without putting up the cash.
But GM is hardly alone. Lower interest rates will mean that investment returns will fall considerably short of the rosy projections of many pension plans.
The issue nobody wants to face is that it takes savings to pay for a decent retirement. But saving is neither easy nor painless. Indeed, America’s low saving rates is a serious national problem. Through their pension plans, workers should salt away 15% of salary every year over a career lasting 35 years to prepare for a decent retirement.
The Clinton Administration has not been much help. In March, a task force was assembled to come up with some answers. Unfortunately, the usual interests cowed task-force members into thinking that the problem could be downplayed and left to another administration. But as the S&L; debacle so clearly showed, forbearance and delay make the problem worse--and it is getting worse.
Tinkering around the edges of this financial cancer won’t spare taxpayers from a pension-system bailout. Radical surgery is needed--and soon.
Next year, Congress will have to confront five questions:
* Who should be protected and from what? Support for more secure pensions developed after a string of business disasters 30 years ago. Typically, workers under age 50 not only lost their jobs but all their pension benefits as well.
A simple remedy was available: The link between pension funds and the fortunes of employers could have been severed. Unfunded pension liabilities could have been prohibited and contributions transferred to financially solid insurance companies, mutual-fund managers or bank trust departments.
Instead, what is in effect a bankruptcy-for-profit scheme was established as part of the Employee Retirement Income Security Act of 1974. Its incentives, for management and workers, encouraged continuing financial mayhem in the back alleys of the nation’s capital markets.
Insurance, particularly subsidized government insurance, reduces the reluctance to make risky investments. Coinsurance is the only solution.
The insured must remain exposed to significant risks to control the “moral hazard.” Otherwise, their behavior might become so irresponsible that the arrangement itself collapses. This happened in the S&L; debacle.
* What should be insured? Today, guaranteed pension benefits are frozen in nominal terms when a plan terminates. But subsequent inflation has an uneven effect. Younger participants--even with federal insurance--still can lose up to 90% of what they expected. Older participants might lose only 10%. A consistent, equitable and effective distribution of coinsurance becomes possible when real benefits are insured. If a terminating plan had assets covering only 40% of projected benefits, insurance for half the loss would leave every participant with 70% of expected pension payments.
* Can regulation work? Disagreement and confusion are rampant even among pension professionals concerning the proper measurement of benefit obligations. Meanwhile, the plans are no strangers to a plethora of exotic investments. And regulators have tremendous difficulty determining the value of these assets.
A new bureaucracy would be needed to monitor effectively the 65,000 pension plans covered by federal insurance. In the unlikely event that a fail-safe standard could be adopted and then enforced, chances are that it would be seriously compromised later.
Finally, there is one cruel irony: forcing weak companies to fund previous unfunded liabilities actually will increase the risks for taxpayers. Predictably, dying firms will use the additional pension assets to “gamble for redemption” by making riskier investments.
* Is pension insurance appropriate for reviving depressed industries? Those present at the creation have attested that the guarantee was intended to prop up America’s smokestack industries. Unfortunately, fictitious actuarial and accounting practices, in the presence of the guarantee, give owners, managers and unions the incentive to bankrupt their firms for a profit. They will extract more dividends, inflated salaries and other emoluments than the companies are worth.
* Can private insurance help? Because regulation alone can’t stop the bleeding, market forces should be brought to bear. Since 1980, special-insurance companies, all with triple-A credit ratings, have been set up to guarantee municipal bonds and other debt.
Protection for taxpayers could be achieved by requiring plan sponsors to secure a small portion of their pension benefits with a guarantee from such companies. After some transition, all liabilities of privately insurable plans could be secured this way.
Then if the combined credit worthiness of the pension plan and its sponsor were so weak that private insurance could not be obtained, benefits should be frozen. These companies have no business making false promises to their workers. They must be stopped.*
