The Real Causes—and Real Solutions—to the U.S. Pensions Crisis
A pension crisis of major dimensions is growing in the US across all three forms of defined benefit plans (DBPs)—public, private single employer, and private multi-employer plans.
Corporate America and its political friends have begun to use the economic crisis that commenced in 2007 as an opportunity to initiate and expand yet another offensive aimed at further undermining defined benefit pensions in the U.S. Having already begun in 2009-10 with a new attack by governors on public employees’ pension plans, the Corporate Offensive over the subsequent eighteen months has expanded to include new coordinated attacks on private sector multi-employer and single employer DBPs as well.
Contrary to corporate, press and politicians’ claims, the crisis in pensions has had nothing to do with pension benefit increases for the workers. In many cases pension benefits have been frozen or actually reduced over the past decade and especially so since 2008.
Rather the crisis is directly attributable to government and corporate policies that have been implemented over the past thirty years—including, but not limited to, two decades of government encouraged management practices reducing pension funding, stagnant jobs and wage growth since 2001, massive speculative investment losses by pension funds, the collapse of the economy, jobs, and pension contributions after 2007, and the failure of the US economic recovery to restore jobs and wages the past three years, 2009-12.
Brief Overview of the Pensions Funding Gap
Multi-employer defined benefit pensions in the 1990s averaged shortfalls in funding (i.e. ratio of assets to liabilities) of only a very manageable $30 billion throughout the decade.
A 2009 Report by the Pension Benefit Guarantee Corporation, the quasi-government agency responsible for ensuring pension funds stability and solvency in the private sector, had a funding shortfall of $355 billion. A similar scenario applies to ratios and shortfalls in funding for single employer pensions, with funding shortfalls of approximately $407 billion. The highly respected Pew Center’s 2008 estimated public sector pensions gap for 2008 of $452 billion.
But the shortfalls in all the defined benefit pensions are overwhelming the result of economic conditions, government policies, and corporate practices over the past 12 years. In 1999, state public employee pensions were 103% funded, according to the Pew Center. Similarly, private pensions—multi-employer as well as single employer—were in good shape at the beginning of 2000. Whatever has happened is therefore clearly a consequence of events and policies since 2000.
Employers sense an opportunity today to falsify the facts regarding the causes of defined benefit pension shortfalls, and to use that falsification to attack and dismantle what’s left of defined benefit pensions that now cover barely 18% of the workforce compared to three decades ago when the percentage of coverage was two thirds or more. What facts are being conveniently ignored in this new corporate offensive?
Corporate Manipulation of the Pension Funding Gap
Corporations have not hesitated to take advantage of the funding gap that they themselves have largely created, with the help of compliant politicians.
On the multi-employer side, the employer new offensive is evident in a series of banks’ reports claiming the funding gap is even greater than it is. By making extreme low-ball assumptions on returns, banks’ research departments and corporations argue the gap for multi-employer plans is significantly higher than even the PBGC has estimated. Their conclusion is major reductions in pension benefits are therefore required, even though pension benefit payments are not the source of the problem.
This strategy of overestimation of the funding gap, cherry-picking the worst assumptions and then extrapolating the losses in a straight line out for decades, has been adopted as well by governors and state politicians intent on cutting pension benefit payments to resolve a crisis workers did not create.
A typical, extreme case is New Jersey governor, Chris Christie, who over-exaggerates an estimated $2.5 trillion funding gap in 2010—i.e. six times greater than that estimated by the respected Pew Center. Christie’s answer to the shortfall in New Jersey is a massive gutting of public employee pension benefits. However, Christie conveniently hides the fact that his state, New Jersey, only made 31% of the required contributions to its employee pension fund in 2009, thus contributing significantly to its relatively low funding ratio of 66%. Like Christie, governors complaining the most about State pension funding gaps are typically those who created those gaps by refusing repeatedly to make the required contributions to their pension funds in the first place.
Single Employer Pension funds are also under a similar direct attack, exemplified by the latest efforts of American Airlines to project massive losses in its fund as a way to justify dumping it on the PBGC and thereby shedding $9 billion in contributions it should have made, but didn’t, for decades. American Airlines for decades has been one of the most egregious practicers of ‘pension contribution holidays’, refusing year after year to make legally required contributions to its fund, and thereby ensuring it would be under-funded.
Fundamental Causes of the Pension Funding Crisis
The deterioration in defined benefit pensions over the past decade has had virtually nothing to do with providing more generous benefits for workers. Nor is it the case that workers are retiring in greater numbers all at once. The causes of the pension shortfalls are due to reductions in employer contributions to the pension funds for multiple reasons, to speculative investments gone bad and massive losses in pension funds over the preceding decade, a major collapse in jobs since 2000 due to repeated and protracted recessions, jobless recoveries, and shifting of jobs offshore that have further undermined total pension fund contributions, and government policies since 2008 that have ensured pension fund returns on investment are reduced to below-normal historical rates of return..
The following is a partial summary short list of a dozen true causes of shortfalls in defined benefit pension funding.
- Two recessions since 2000 and two bouts of ‘jobless recoveries’ (2002-05 and 2009-12) resulting in sharp reductions in contributions to the funds
- Structural unemployment due to offshoring and free trade that has in addition to #1 progressively reduced jobs and therefore contributions, especially in tech and manufacturing industries
- Government allowed ‘pension contribution holidays’ that permitted suspension of employer contributions for decades, thus further lowering the contributions base of the funds
- Employer manipulation of actuarial assumptions, like phony overstated rates of return and projected hirings that never happen, that covered up the shortfalls
- Government rules that allow the diversion of pension funds to cover 20% of rising employer health care insurance costs
- De-unionization of the workforce, resulting in employers suspending private pension plan participation for new workers, thus further reducing contributions
- Shift in U.S. job markets to part time and temp ‘contingency’ jobs and workers by tens of millions, who are excluded from participating (and thus contributing) to DBPs
- Legislation and court decisions over the past decade that have promoted 401k plans and conversion to ‘Cash Balance Plans’, diverting contributions to what would have been to defined benefit pension funds
- Phony business bankruptcy policies that have permitted easy dumping of pensions on the PBGC, the Pension Benefit Guaranty Corporation that ensures DBPs, encouraging employers to underfund the pensions to create justifications for dumping the pensions
- Easing of restrictions allowing companies to leave multi-employer plans and for single employers exiting the PBGC
- Pension Protection Act of 2006 that allowed pension funds to partner with high-risk speculators like hedge funds, resulting in pension funds’ headlong rush into speculative investing in subprime mortgages and other high risk real estate and financial markets, the consequence of which was massive fund losses in 2000-02 and again in 2008-12
- Low rates of return in general over the last decade on investments by pension funds, attributable largely to the protracted recession since 2008 and, even more so, to the Federal Reserve Bank’s still continuing policy of zero interest rates for four consecutive years
Fundamental Solutions to the Pension Crisis
Pension funds are financial institutions. They perform much like commercial banks by lending to other non-financial institutions.
In 2008-09, the Federal Reserve bailed out the banks to the tune of $9 trillion by providing zero interest loans to banks for the past four years. The Fed also bought up bonds, especially mortgage notes, from the banks at their full value instead of their real depressed market values, thus further directly subsidizing the banks. The Fed in this manner not only bailed out banks and investment banks, but big conglomerates like GE and GM and their credit arms. So why shouldn’t it similarly provide assistance to financial institutions like the pension funds?
Given that the real causes of current pension fund shortfalls are: insufficient contributions by employers, bad investments by fund managers as a result of high risk speculation and losses, government rules allowing the undermining of pensions, and poor rates of return on investments by funds due to government economic policies since 2000—real solutions to the crisis should tackle the real causes.
Therefore, Congress, the President, and the Federal Reserve should:
- Provide short term 2 to 5 year bridge loans as needed to pension funds temporarily whose funding falls below 70%--i.e. funding provided at the same rate the Federal Reserve has been bailing out banks for the past four years, at a rate of 0.25% interest.
- Allow pension funds to issue their own bonds, much like corporations now issue bonds, and the Fed purchase those bonds long term, 10 and 30 years, to provide additional funding as necessary to pension funds.
- Prohibit pension funds from partnering in investments with hedge funds and other high risk financial institutions and financial instruments.
- Cities and local municipalities should be reimbursed for losses due to banks’ fraudulent and false promotion of derivatives and interest rate swap deals of the last decade, just as other institutional investors have been reimbursed for fraudulent subprime mortgages deals of recent years.
- Pension funding contribution holidays should be legally banned. Diversion of pension funds’ resources to subsidize employer health plans should be further prohibited.
- Corporate bankruptcy laws should be amended to prevent dumping of single employer plans. All non-pension assets in bankruptcy should be ruled subordinate to pension assets, requiring all other assets disposed of before pension funds are considered.
- Restrictions on employers exiting from multi-employer plans and from the PBGC should be strengthened.
- Public employee plans’ spending on consultants should be limited by law to no more than 1% of annual contribution levels.
- Employers should be prohibited from exempting ‘contingent’ workers from participation in plans, and should be required make pension fund contributions for all part time and temporary workers proportional to their total hours worked.
- Restore jobs and wage growth. The most important long run source of restoration of pension fund solvency is the creation of jobs at an historically acceptable rate.
- A sustained economic recovery—not the current ‘stop-go’ economy—that would raise rates of return on normal pension fund investments to restore losses of recent years
The crisis in Defined Benefit Plans is a crisis that has been brewing for decades, but that has appreciably worsened since 2000 and significantly further deteriorated after 2007. It is a crisis of falling and insufficient contributions fundamentally and not a crisis of excess liabilities or benefit payments to workers. Employers, both private and public, are now using the crisis they created that reduced contributions for decades to attack benefits. Fundamental solutions to the pension funding problems in DBPs must rectify the source problems on the contributions side of the fund ledger.
Jack Rasmus is the author of the April 2012 book, “Obama’s Economy: Recovery for the Few”, published by Pluto Books and Palgrave-Macmillan, which includes a final chapter on ‘An Alternative Program for Economic Recovery’.