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By Edward Zelinsky

As the American public debated the legislation ultimately enacted into law as the American Taxpayer Relief Act of 2012, no person was more influential than the Oracle of Omaha, Warren Buffett. Much attention was given to billionaire Buffett’s complaint that his federal income tax bracket was lower than his secretary’s tax rate. President Obama invoked “the Buffett Rule” to bolster the President’s successful effort for the Act to raise income tax brackets for high income taxpayers.

In his most recent letter to the shareholders of Berkshire Hathaway, Buffett issued another oracular pronouncement about America’s fiscal health. Buffett warned that many public pension plans are dangerously underfunded:

Local and state financial problems are accelerating, in large part because public entities promised pensions they couldn’t afford….[A] gigantic financial tapeworm…was born when promises were made that conflicted with a willingness to fund them….During the next decade, you will read a lot of news –- bad news – about public pension plans.

Many of those who heeded Buffett’s call for higher tax brackets for the wealthy ignore his current warning about the parlous financial condition of public pension plans. One of the problems of being an oracle is that your listeners will pick and choose which prophecies to follow.

Attached to Buffett’s most recent shareholders’ letter was a 1975 memo on pensions Buffett sent to Katharine Graham, then chair of The Washington Post Company. Buffett’s observations in this now released memo are as compelling today as they were forty years ago. It is easy to grant pension benefits payable in the future while failing to fund that pension promise today as “making promises never quite triggers the visceral response evoked by writing a check.” Typical defined benefit formulas, which gear pensions to an employee’s final salary before retirement, are particularly expensive for the employer to finance since higher final salaries will, at the end of an employee’s career, escalate his pension entitlement. It is tempting, but futile, to assume that the underfunding of defined benefit plans can be remedied by every plan continuously earning above average returns on pension assets: “yes, Virginia, maybe every football team can have a winning season this year.”

All of this explains why many of the nation’s public pension plans are today seriously underfunded: Elected officials promise pension benefits without properly funding them and rely on unrealistic assumptions about future rates of return to deny the reality of underfunding.

Buffett’s observations resonate with particular force in Connecticut where I live. Connecticut competes with Illinois for the distinction of being ground zero in the public pensions crisis. In this election year, neither the Governor nor the legislature will acknowledge that the Nutmeg State’s public pensions are seriously underfunded.

Consider in this context Buffett’s warning that pension plans should not assume that they will earn superior investment returns. Connecticut contends that its pension plans will earn 8% annually. Most other states make similarly optimistic assumptions. The National Association of State Retirement Administrators has recently determined that the average state public pension plan currently assumes that its investments will earn an annual rate of return of 7.72%.

More realistic assumptions about rates of return would expose the underfunding of public pensions described by Buffett. Under the Internal Revenue Code, private sector pensions this month must calculate their obligations to pay retirement benefits using interest rates ranging from 1.19% (for pension benefits payable soon) to 6.76% (for pension benefits payable furthest down the road). If Connecticut or any other state with similarly underfunded pensions assumed these more sobering rates of return (as they should), Buffett’s dire assessment of pension underfunding would be dramatically confirmed.

Equally instructive is the recent contract settlement brokered by New York Governor Andrew Cuomo between the Metropolitan Transportation Authority (MTA) and Local 100 of the Transport Workers Union (TWU). With much fanfare, Governor Cuomo announced that TWU workers will receive increased wages but that the MTA will not elevate fares to cover these increased wages. Only after the cheering stopped did we learn how this alchemy is to be accomplished: by reducing the MTA’s scheduled contributions for pensions and retiree health care costs. Governor Cuomo, the MTA, and the TWU have decided to underfund pensions for MTA workers. No doubt, they will justify this underfunding by predicting superior investment returns on the pension’s investments.

The Oracle of Omaha is, unfortunately, right. Many states and localities will soon have to choose whether to pay pensions promised to retired workers, or whether to put police on the streets and teachers into classrooms, or whether to increase taxes significantly to pay pensions and maintain public services.

It is regrettable that many who marched under Buffett’s banner when he favored higher taxes on the rich ignore his message about the troubled state of public pensions.

Edward A. Zelinsky is the Morris and Annie Trachman Professor of Law at the Benjamin N. Cardozo School of Law of Yeshiva University. He is the author of The Origins of the Ownership Society: How The Defined Contribution Paradigm Changed America. His monthly column appears on the OUPblog.

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Image credit: Pension pension or retirement concept with word on business office folder index. Photo by gunnar3000, iStockphoto.

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By Edward Zelinsky

Public pension plans should not invest in private equity deals. These deals lack both transparency and the discipline of market forces. Private equity investments allow elected officials to assume unrealistically high rates of return for public pension plans and to make correspondingly low contributions to such plans. This is a recipe for inadequately funded pensions, an outcome good for neither public employees nor taxpayers.

Ben Bernanke. Source: United States Federal Reserve.

In this low return environment, public defined benefit pension plans generally assume that they can earn annual investment returns in the vicinity of 8%. Such aggressive return assumptions allow governors and legislators to authorize smaller tax-financed contributions to such public pensions on the theory that anticipated investment gains will fund the retirement benefits promised to public employees.

A primary defense of this practice is that plans’ assumptions should reflect long-term experience. From this vantage, the current low interest rate environment is an historic anomaly. For the long run, the argument goes, public pension plans will earn higher returns.

Whatever the theoretical merits of this approach, it is troubling in practice, an invitation to push into the future the problem of inadequately funded public pension plans. That problem exists today and needs to be confronted today, as the Baby Boomer cohort retires in unprecedented numbers and places corresponding demands on public and private retirement plans.

A second defense of high assumed rates of return is that public pension plans can earn aggressive gains through so-called “alternative” investments such as private equity partnerships. Publicity about Mitt Romney’s IRA has focused attention on the often lucrative results obtained by at least some private equity investors. Many public pension plans have effectively become addicted to private equity deals and their promises of outsized investment returns.

It is, however, doubtful that these promised returns are generally obtained by the private equity industry or that such returns are obtained on the scale sought by public pension plans. Private equity is, by definition, private. Much of the good news we hear about this industry comes from the industry itself. Since there are no active markets for these investments, investors in private equity deals are ultimately dependent upon valuations by the sponsors of these deals.

In a recent paper, Professor K.J. Martijn Cremers of the Yale School of Management concluded that private equity investors have in the last 10 years done no better than investors in the stock market. Others, such as Professor Steven Kaplan of th

By Edward Zelinsky

Media reports have indicated that New York Governor Andrew Cuomo has been considering the use of public pension funds to finance the replacement of the Tappan Zee Bridge and to underwrite other infrastructure investments in the Empire State. This is a bad idea, harmful both to the governmental employees of the Empire State and to New York’s taxpayers. Using public pension monies in this fashion trades the immediate benefits of public construction for the long-term cost of underfunded public retirement plans.

If investment in the new Tappan Zee Bridge yields risk-adjusted, market rate returns, then private investors will step up to the plate and invest. Resorting to special financing arrangements with public pensions signals that a proposed investment does not pass the test of the marketplace. Market rate returns attract private capital. Such investments need not be subsidized with public pension monies.

There are projects which yield social benefits beyond their financial returns to investors. In a democracy, voters (or their elected representatives) can and should be persuaded in open deliberations to finance such projects with their tax dollars.

When governmental officials (however well-intended they may be) resort to special funding arrangements with public pension plans, it indicates that the investment in question flunks both the discipline of the market and the legitimacy of voter approval.

Such projects flout the venerable fiduciary standards for pension investments, namely, prudence and diversification.

An investment shunned by private investors is imprudent. When made by a state pension plan, such a below-market investment impairs the long-term interests of both the employees who depend on the plan for their retirement incomes and of the taxpayers who ultimately finance the plan. A prudent pension investment must, at a minimum, yield a risk-adjusted, market rate return. If pensions make investments rejected by private investors, such below-market investments are imprudent.

Moreover, an investment by New York pensions in New York infrastructure fails the test of diversification. In the private sector, it flouts the rule of diversification for a private retirement plan to invest its resources in the stock of the employer sponsoring the plan. The plan is already dependent upon the economic well-being of the sponsoring employer since the employer funds the plan. Placing the plan’s resources in the employer’s stock doubles the pension’s bet on the employer and its economic condition.

Similarly, if New York’s public pensions invest in New York projects, the pensions are doubling their bets on New York’s economy. These plans already count on New York’s economy for the tax revenues funding such plans. Concentrating New York pension investments in the Empire State is the opposite of diversification; the financial fate of these plans is already tied to New York’s ability to fund them.

The budgetary pressures on Governor Cuomo and other states’ chief executives today are severe. Those pressures make it tempting to turn to public pension funds to finance infrastructure when private investment can’t be obtained and voters cannot be convinced to pay taxes for such infrastructure.

It is precisely at such moments that the sage tests of prudence and diversification play their most important role –  protecting the long-term interests of retirees and taxpayers by precluding pension trustees from making investments which flunk the criteria for sound fiduciary decisionmaking.

The most recent reports indicate that Governor Cuomo may be reassessing the desirability of using public pensions to finance in-state infrastructure investments. Let us hope so. A new Tappan Zee bridge is a great idea. It should be pursued the right way, by formulating

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By Edward Zelinsky

Connecticut’s new governor, Dannel P. Malloy, has appointed six sitting members of the Nutmeg State’s General Assembly to positions in the executive branch. These gubernatorial appointments have engendered a fair amount of discussion since special elections will be required to fill the legislative vacancies resulting from these appointments.

There has, however, been no public discussion of the pension implications of these appointments. Under Connecticut’s retirement plans for government employees, relatively brief service in executive positions results in significant spikes in legislators’ state pensions. This phenomenon is not unique to Connecticut.

The issue of legislators’ pension spikes suggests how difficult it will be for state governments to curb their unruly pension costs. Legislators’ pension spikes are the broken windows of the state pension crisis, emblems of underlying fiscal disorder.

While the details are complex, the basic arithmetic is not: Connecticut state employees (including legislators) are covered by contributory defined benefit pension plans. These plans provide “final average” pensions, meaning that a participant’s pension is based on the highest salary he earns during his last three years of state employment.

To take a simplified, but substantively accurate, example, suppose that a Connecticut legislator serves for twenty years at a constant salary of $30,000 per year. Suppose further that the state’s defined benefit pension plan pays this legislator a retirement annuity equal to his final salary multiplied by one percent for each of his years of state service. In this case, the legislator is entitled to a retirement annuity of $6,000 yearly because $30,000 X 20% = $6,000.

Now suppose that this same individual spends seventeen years in the General Assembly and then works in the executive branch for the last three years of his state career at an annual salary of $100,000. Under the retirement plan’s final average formula, the legislator’s final average salary spikes and thus so does his pension. In this simplified example, the three years of full-time executive branch employment rachet the former legislator’s state pension from $6,000 annually to $20,000 yearly because $100,000 x 20% = $20,000.

In effect, the former legislator’s last three years of full-time executive service at a salary of $100,000 retroactively balloon the value of his first seventeen years of relatively low-paid, part-time legislative service. The result is a tripling of the former legislator’s pension even though he only works at the higher salary for the last three of twenty years in state government. The legislator gets the same pension as does a Connecticut state employee who, over his twenty year career, consistently earned a full-time salary of $100,000.

Another way of characterizing this pension spike is that the governor bestows upon this former legislator a signing bonus for joining the executive branch of state government. Since he works for the governor at the higher executive salary, the former legislator’s state pension increases more than three-fold during his relatively short executive branch service.

Quantifying this signing bonus as a lump sum involves many details and qualifications, such as assumed interest rates, life expectancies, and other actuarial variables. However, under conservative assumptions, in this simplified example, the present value of the former legislator’s increased pension is at least several hundred thousand dollars. Frequently, in practice, the amounts involved are even more.

If Governor Malloy had granted each of his appointees from the General Assembly a $200,000 check as a signing bonus, the public outcry would have been overwhe

Hello all. Welcome to another post! All is well in the studio, and I'm in the middle of a little breather. Two possible projects are being sorted out, and I am taking advantage of the downtime to really attack my sketchbook. I'm really trying to feel out why and how I draw while trying to let go of any idea I have of what is "good drawing." I'm also sorry to say that I am adopting a "my eyes only" approach to the sketchbook; the idea is that I will only focus on progress and experimentation instead of making pretty pictures for other folks to see. So there may or may not be additional sketchbook updates.

Although it was poorly made, listening to a documentary about Henry Darger (In the Realms of the Unreal) brought to light how a person can make art only for oneself. Until this time, I felt all artists crave attention, and I often joke that "all artists want to be famous" as we really just want people to view our work; we need to be validated! But there is certainly something to be said for a man who spent his whole life writing and illustrating a 15,000 page manuscript that no one saw until he was close to death. It makes me wonder where the assumption that I have to show my art comes from and that keeping it to myself feels selfish. But hey, keeping it to myself should keep it honest, right? I already find myself drawing differently and drawing subjects I wouldn't otherwise. So its off to a good start.

While exploring the sketchbook, I am also trying to really explore other aspects of drawing by looking at as many drawings as I can and trying to figure out WHY it appeals to me, reading and researching how drawing works from both an artist's and a viewer's perspective, and trying to discover how one moves from drawing to another technique such as painting; they really are two different beasts. Defining such things can be very frustrating and there are always artists and images that counteract any definition one hypothesizes. however, I feel doing so and asking myself such questions will make me more honest with myself and my work.

I am also trying to "step out of the box" within my regular assignments as a loose continuation of this exploration. A good example of this approach is a recent illo for John at Bloomberg Markets. I was very happy to be contacted by John from a referral by Kam, the Bloomberg designer I worked with last summer on a great assignment concerning Asian stock market regulators. John was looking for a metaphorical image to represent the mistreatment of retirement pensions by General Motors. We discussed concepts and such, and I provided the following sketches:

John wanted to see a sketch of a "pension" license plate that was beat up and rusty. The plate is a Michigan plate to allude to GM and "motor city."

In the other sketches, I wanted to explore the pensions as dwindling. This sketch of an emptying funds gauge fit the bill, but I think it was too static.

I enjoyed this sketch that worked in both my idea as well as John's license plate request. However, it was decided that the size of the image was going to be small, and certain elements of the sketch would be hard to read. The final art:

Initially, the image was "too clean," and John asked that the license plate be dirtier. Upon revision, we were both quite happy with the finished product.

This image was a little intimidating for me as I do not usually work with textures, and I do not usually aim for a more realistic representation. However, I was adamant that those two elements were key to this image being successful so I basically jumped in feet first to scanning textures and making brushes in photoshop. I had not worked in this manner for years! Replaying the creation of this art in my head, I have to say that exciting nervousness of not knowing where the image and just trusting yourself is going is a lot of fun; I hope to push it into more work.

Thanks for reading! Look for a new post next week!
Enjoy the Day,
Chris

Edward A. Zelinsky is the Morris and Annie Trachman Professor of Law at the Benjamin N. Cardozo School of Law of Yeshiva University. He is the author of The Origins of the Ownership Society: How The Defined Contribution Paradigm Changed America.  In this article, Zelinsky discusses the federal government’s promotion of common stock investments for 401(k) participants. He suggests that, in light of the Crash of 2008, that promotion constitutes misguided paternalism.

Even as we contemplate the financial carnage of the Crash of 2008, the federal government sends a strong, paternalistic and, ultimately, misguided message to 401(k) participants: Invest your retirement savings in common stocks.

Congress, in the Pension Protection Act of 2006 (PPA), directed the Secretary of Labor to promulgate regulations specifying the “default investments” to which 401(k) funds will be directed if participants fail to make their own investment choices. Under the regulations issued by the Secretary of Labor, a plan fiduciary obtains immunity from liability for a participant’s investment decisions only if the plan’s default investment constitutes a “qualified default investment alternative.” Among other requirements, a qualified default investment alternative must satisfy one of three mandatory patterns: a “life-cycle” pattern under which “a mix of equity and fixed income” investments changes for the individual participant as the participant ages, a “balanced” portfolio under which each participant has the same “mix of equity and fixed income” investments “consistent with a target level of risk appropriate for participants of the plan as a whole,” or a “managed account” under which an investment manager allocates a particular participant’s account to “a mix of equity and fixed income” assets.

When one cuts through the bureaucratic verbiage, a strong message emerges: 401(k) funds, particularly the funds of younger participants, should be invested in common stocks.

At one level, the PPA and the DOL regulations which implement it reflect a plausible investment theory, namely, that common stocks, for the long run, do better than do more conservative investments. The PPA and the DOL regulations also respond, in light of this theory, to two accurate perceptions about the 401(k) world: First, unless participants direct otherwise, 401(k) plans have historically placed participants’ resources into conservative, low-yield investments like money market funds. Second, 401(k) participants often fail to diversify their holdings out of these conservative default investments.

Hence, the PPA and the DOL regulations channel 401(k) funds toward common stocks by effectively requiring that at least part of passive participants’ accounts be invested in such stocks.

Surveying the wreckage of the Crash of 2008, this looks like misguided paternalism. Many investors who buy common stocks in the current bearish environment are likely do well in the long run. But, as they say, past performance is no guarantee of future success. And some, particularly smaller investors, may sincerely and (from today’s perspective) rationally prefer to avoid the volatility associated with common stocks.

There is, as we have just seen, a reason that the extra projected profit associated with common stocks is labeled a “risk premium.” The passive 401(k) participant who leaves his funds in conservative, low-yield investments looks more reasonable today than he did when Congress passed the PPA in the bull market of 2006.

A defender of the PPA and the DOL regulations could retort that they do not require participants to invest in common stocks, but merely send 401(k) funds to equity investments unless the participants direct otherwise. True. But the PPA and the DOL regulations nevertheless reflect a father-knows-best attitude, taking it as the federal government’s responsibility to privilege its preferred approach to investing and enshrining that stock-based approach in the law.

Before the Crash of 2008, such paternalism looked plausible. At an as yet unknown date in the future, such paternalism may look plausible again. Today, it looks misguided.

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Edward A. Zelinsky is the Morris and Annie Trachman Professor of Law at the Benjamin N. Cardozo School of Law of Yeshiva University. He is the author of The Origins of the Ownership Society: How The Defined Contribution Paradigm Changed America. In this article, Zelinsky discusses the U.S. Supreme Court’s recent decision in MetLife v. Glenn. That decision, he concludes, unintentionally reinforces the trend from defined benefit to defined contribution plans. Under MetLife v. Glenn, employers which sponsor and administer defined benefit pensions operate under a conflict of interest which subjects their administrative decisions to greater legal scrutiny.

Wanda Glenn was an employee of Sears, Roebuck & Company (“Sears”) and, as such, was covered by the Sears long-term disability insurance plan. Metropolitan Life Insurance Company (“MetLife”) both administered and insured the Sears plan. Ms. Glenn applied for continuing disability benefits. MetLife, as plan administrator, denied Ms. Glenn’s application for benefits which, if granted, MetLife, as the plan’s insurer, would itself have paid.

Ms. Glenn sued. Her lawsuit made its way to the U.S. Supreme Court which held in MetLife v. Glenn that, in light of the discretion confided to MetLife by the Sears plan, MetLife’s denial of Ms. Glenn’s disability benefit was to be reviewed judicially under a deferential “abuse of discretion” standard. However, the Court further stated, MetLife, as plan administrator, operated under a conflict of interest since any benefits MetLife granted as such administrator MetLife itself also paid as the plan’s insurer. Hence, in assessing whether MetLife, as plan administrator, abused its discretion, the courts must, among other factors, “take account of the conflict” MetLife faced as a plan administrator which was also the plan insurer. Such conflict of interest might “act as a tie-breaker when the other factors are closely balanced.”

MetLife v. Glenn has engendered extensive discussion. However, so far, one aspect of this decision has gone unremarked: MetLife v. Glenn is one more unintended push from our legal system, nudging employers away from traditional defined benefit plans towards 401(k) plans and other similar defined contribution retirement arrangements. After MetLife v. Glenn, the administrative decisions of employers sponsoring and administering defined benefit pensions will typically be subject to greater legal scrutiny than will be the administrative decisions of employers sponsoring and administering most 401(k) and similar individual account arrangements. This greater scrutiny incents employers to shift from their defined benefit pensions to defined contribution plans.

Embedded in the traditional defined benefit pension administered by the sponsoring employer is the conflict of interest stemming from the employer’s obligation, as plan sponsor, to pay the costs of the plan — just as MetLife, as insurer, paid from its premium revenues the costs of the Sears disability plan. In the defined benefit setting, greater plan distributions to participants and beneficiaries require greater employer contributions to the plan. Consequently, any distribution denial by the employer sponsoring a traditional defined benefit pension implicates the conflict of interest in which MetLife found itself: If the employer as plan administrator denies plan benefits, it thereby reduces its costs as plan sponsor.

In contrast, an employer sponsoring and administering a typical defined contribution plan usually has no such conflict of interest since the individual accounts of such a plan belong to the participants. If, for example, an employer, as administrator of a 401(k) plan, denies a participant a hardship distribution from the plan, that denial does not decrease the employer’s costs; it merely delays the distribution to the participant of his 401(k) account until later. Since there is no conflict of interest in that setting, under MetLife v. Glenn, the employer’s decision will receive greater deference if challenged in the courts.

An important factor causing the decline of traditional defined benefit pensions and the concomitant rise of individual account arrangements like 401(k) plans has been the heavy regulatory cost imposed on defined benefit plans. MetLife v. Glenn represents the latest such cost, an unintentional cost, perhaps a small cost, but a cost nonetheless. Employers who sponsor and administer defined benefit plans are now on notice that, because of their conflicts of interest, their administrative decisions will generally receive less deference from the courts than will the comparable decisions of their competitors sponsoring and administering 401(k) plans who do not operate under such conflicts of interest. By itself, this will rarely cause an employer to terminate its defined benefit pension and shift to an individual account arrangement. But, to paraphrase the Supreme Court, this is the kind of cost which can act as a tie-breaker when the decision is close.

Consequently, Metlife v. Glenn, by reducing the deference ultimately granted to employers which sponsor and maintain defined benefit pensions, represents one more small, but unintended, push away from such pensions.

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Today we are proud to bring you Teresa Ghilarducci (who just published When I’m Sixty-Four) in conversation with Jacob Hacker (author of The Great Risk Shift). These two experts will be debating how to ensure retirement for future generations. This is part two of the which will we be publishing all week, so be sure to come back and check our exchange.

Teresa Ghilarducci taught economics for twenty-five years at the University of Notre Dame and now holds the Irene and Bernard L. Schwartz Chair of Economic Policy Analysis at the New School for Social Research. She is also the 2006-2008 Wurf Fellow at Harvard Law School. Her most recent book is When I’m Sixty-Four: The Plot against Pensions and the Plan to Save Them.

Jacob Hacker is a Professor of Political Science at Yale University and a Fellow at the New American Foundation. His most recent book is The Great Risk Shift: The Assault on American Jobs, Families, Health Care, and Retirement And How You Can Fight Back.

Dear Teresa,

I see these multiple perspectives on retirement every day, in my research and my own life. I visit my dear colleague Bob Dahl, who in his mid-90s continues to publish path breaking books on democracy and political equality. How can I talk with someone so intellectually vibrant and not want to be contributing in that way in my own old age?

And then I remember Elinor Sheridan, whom I wrote about in my book. In her seventies, she was trying to find a job because her 401(k), crushed by the stock-market decline of 2000, had already been depleted. Even with Social Security, the pension she receives from 17 years at a hospital provided a meager standard of living. Elinor had worked her whole life — as a mom and wife (divorced) and then, ironically, as a “risk manager” at the hospital — and now she was not because she wanted to but because she had to. So much for the golden years.

It is good to have someone celebrating retirement as a benefit to our society, rather than a burden on us and future generations. The labor movement may be the “folks who brought you the weekend,” but it was FDR and countless fellow campaigners for a guaranteed retirement income who who brought us retirement as we now know it. And the campaign is not over.

Retirement security is under attack. Corporations are jettisoning traditional guaranteed pensions, Congress is pouring money into tax breaks for individual benefit plans that exclude millions and mostly benefit the affluent, virtue in proposals for partial privatization of Social Security that will put the promise of secure retirement= further at risk.

But this exchange would be pretty uninteresting if all I said was “Amen,” and so let me continue in the vein of disagreement for at least a little while. I have two concerns about the Guaranteed Retirement Account (GRA) vision — the first more philosophical, the second more practical. (And I should note, as a fellow policy wonk, that GRA is a nice acronym, especially when compared with John McCain’s chosen shorthand for his health plan of last resort, GAP, or “Guaranteed Access Plan.” Note to the McCain candidacy: A plan that’s billed as filling gaps should probably have another moniker, though perhaps the McCain folks believe in truth in advertising.)

First, the more or less philosophical concern: Are GRAs the best immediate use of federal resources and the scarcely unlimited running room for new federal taxes — excuse me, “mandatory contributions”? I am not one to go in for the clash-of-generations view so common in official Washington and the news media. (After all, we all get old, and young and old alike support Social Security and say they want a secure retirement.) But I am not sure I am ready to man the barricades for a major new commitment to provide enhanced retirement income when so many needs go unmet for working age Americans and kids. For one, and I say this only half in jest, I would rather have the 5 percent of payroll proposed to fund GARs for my universal health plan
= (http://www.sharedprosperity.org/topics-health care.html). For another, Social Security provides a tattered but still crucial safety net that is sorely lacking in other areas of American economic life—most notably, health care (again, I really want that 5 percent!). My point is not that we don’t need a new campaign for retirement security — we do. It’s just that I”m not sure it should be the first priority of those seeking economic security. The aged look out for themselves pretty well in American politics. Not so the young, the disadvantaged, the cash-strapped working family — though, yes, they will all be old some day and, yes, our pension system fails them above all.

Now, the practical worry. We have a huge 401(k) complex on which millions of Americans rely. In my 2002 book, The Divided Welfare State, I described the slapdash way in which this system came into being (trust me; almost no one knew what they were getting into, though once the floodgates were opened, corporations figured it out pretty quick). But I also made the point that existing systems of social protection, however haphazardly created or inadequate in practice, are fiendishly difficult to supplant with new, more rational arrangements. I called this “path dependence.” But we could just as well call it “political reality.” And it seems to me that the political reality today is that it will be very, very hard to completely redirect existing tax breaks for 401(k) plans and create an entirely new supplementary pension system managed by the federal government.

If that judgment is correct (dispute away), then where does it leave those of us living in the reality-based policy community who recognize that the 401(k) defined contribution model is incapable of providing retirement security for all but those at the top? I argued in The Great Risk Shift thSocial Security, and (2) transform 401(k)s into something that looks like a guaranteed retirement benefit. Without going into the details, I called for making 401(k)-type accounts available to everyone, even if their employer failed to provide them; requiring automatic enrollment through the workplace; and offering progressive “matches” to supplement lower-income workers’ contributions, even if employers do not offer a standard match. And I said that all account balances should be automatically converted into annuities (a guaranteed income for the remainder of one’s life) at retirement unless someone could show they had sufficient wealth to protect themselves against outliving their assets. (providing such annuities through the post office back in the 1930s).

By the way, this would surely cost serious money – which puts it somewhat in tension with my first point about priorities. But it has the virtue that it could be done in stages, with the lowest-cost aspects (automatic enrollment; annuitization, which should be self-financing) coming \ first. Its more important virtue is that it might be possible to do at all.

Fire Away,

Jacob

Thanks for reminding me of Robert Dahl and what was unspoken, our hope we are as incisive in our nineties and in control of our time.

Please know it was both — FDR’s Social Security and union pensions (e.g. those for the Ladies Garment Workers, bricklayers, coal miners, steel, auto workers etc.) that created the middle class and middle class retirement. But, as you point out, the campaign for “decent retirement for all” is not over. Except for the wealthiest men and women, people, now in their 40s and 50s, will likely be the first U.S. history to be more at risk than their parents of experiencing a sharp drop in living standards in old age.

I bristle a bit when accused of not being a reality-based policy wonk. There is not a pension economist on the planet that will defend our system of tax breaks for savings that only help the affluent move money from taxed accounts to tax-favored accounts, costing the Treasury over $80 billion per year. Thus, it is no surprise that the tax breaks - called tax expenditures - have soared while overall savings rates keep on going down. A full 50% of the tax expenditures for 401(k)-type accounts go to only 6% of workers; those at the top earning over $100,000 per year.
70% of the tax breaks go to the top 20%. The most head banging reality of it all is that these people would have saved without the help. The current system has no basis in logic.

Who did this? Who brought old age income security under attack? I used to think it was mostly corporations spending less on pensions because they could get away with it. The shift in market power to employers and away from workers is partly the reason, but a big part of the attack comes from Congress indulging the 401(k) industry. And a dedicated, ideologically-based campaign to transform Social Security into individual accounts (my Chapter 5 covers that intricate history and, as you rightly point out, continuing saga) is the other source of the plot against pensions.

My proposal for guaranteed supplements to Social Security is based in this reality. GRAs obtains pensions for all with no additional risk or federal spending. And, they restore savings rates to the higher rates before the “debt boom” that started in the 1980s.

Philosophically we are on the same page. You didn’t say it right out, but I guess you are just as terrified as I am that high payroll taxes would cause terrible things like widespread tax evasion and an underground economy. I’ve come to appreciate how lucky we are in America that we have almost 100% employer compliance (the stray restaurant and construction sites notwithstanding) in paying social security tax.

Keeping payroll taxes low is philosophical and practical. Nonetheless, I support your plan for an additional payroll tax to pay for health care and for a mandatory 5% contribution to a GRA. First, the government will offset the 5% GRA contribution with an indexed $600 annual contribution.

Second, the “mandatory contribution” is unlike a tax, it will go into an individual’s account under that individual’s name. Third, money for the old doesn’t take away money from the young. One of my best articles has the best title - Do the Old eat the Young? (I also teach a class on social policy with the same name). The ugly fear that supporters of Social Security and pensions compete with government support for working-age Americans and kids is not well founded. You know what? Nations that pay for the old also pay for kids. It is also a pattern in American history. When American families funded their pensions and paid ever increasing Social Security taxes, they voted for increases in property taxes to pay for schools.

Thus, we can plausibly argue for a bread and roses social policy. Your great book, The Great Risk Shift, put working class families’ insecurity front and center. The kids! The kids! Only African American kids have higher poverty rates than older single women. And, you are right, over the last 4 decades, we have drastically cut old age poverty rates while more kids face poverty risks. But did bread leave the mouths of babes to feed the grandmas? No. Tax expenditures - taxes not collected for special reasons, like for oil depletion and for profits of banks operating abroad — between 1974 - 2004 tripled. And the growth in tax breaks, mostly for businesses and the wealthy, far exceeds the growth in social spending. That is where much of the money for cash-strapped working families have gone.

I agree, thought the practical reality of checking the runaway 401(k) industrial complex might be difficult, it is not impossible don’t annihilate Wall Street firms, the government will contract with for-profit professional money managers just as we do for for investing pensions for Federal Reserve employees, Texas teachers, etc. Even Chuck (in the “Talk to Chuck” campaign for Charles Schwab brokerage accounts) and other broker dealers will have something to do. Employers can still keep their 401(k) plans, but their merits have to be r al, not based on the tax breaks going to the bosses. So, though it is difficult to implement policy as if we are “starting from scratch” because of “path dependence” this 401(k) path is fairly new - the tax breaks have soared only recently. And, if we can keep tax breaks for 401(k) contributions up to $5,000 per year - not up to, in some cases, $46,000 — we only spend $25 billion per year for GRAs for all, funded with $600 federal contributions for everyone.

So, don’t throw me out of the reality-based policy community. Guaranteed Retirement Accounts, with all due respect, is a more effective, straightforward plan than your plan that relies on clever psychological jujitsu with automatic this and thats. You aim to raise pension coverage rates by taking advantage of human laziness through auto enrolling, auto annuitizing and - you should add — auto investing. Fundamentally, relying on voluntary, commercial accounts does not address huge leakages from high retail fees, leakages from churning and scams, and leakages from early withdrawals and, the biggest leak of all, the fact most employers do not bother to sponsor a pension plan at all.

The best part about the GRAs is that it addresses the two Americas. The GRAs gives every American worker with a Social Security number what only some lucky workers have. Workers with government, corporate and union defined benefit plans, and college professors in TIAA -CREF have low cost, not-for-profit financial institutions handling our pensions. The other Americans have nothing, or pay retail fees for leaky 401(k) accounts. The GRAs close that access gap - everyone has access to a low fee, professional, quasi-governmental, financial institution that guarantees an inflation-protected competitive market return.

Jacob, we can get health and pension security. No?

Teresa

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