Fixing America’s Pension Insurer
June 16th, 2010 - 5 Comments
Last week in The Wall Street Journal, Charles Millard, former director of the Pension Benefit Guaranty Corp. (PBGC), wrote about the challenges facing American pensions and made four recommendations to help the PBGC better insure underfunded pensions. Smeal’s Ron Gebhardtsbauer, faculty-in-charge of the Actuarial Science Program, responds below. Gebhardtsbauer is the former chief actuary for the PBGC and served as the senior benefits adviser for the U.S. Senate Finance Committee when Millard directed the PBGC.
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Charles Millard makes a good point in the first sentence of his WSJ editorial when he says that some workers’ pensions may be in jeopardy because the private pension system is underfunded. However, it is not as big a problem as his readers may infer, and it’s definitely not the biggest retirement problem.
In the PBGC’s 36-year history, it has been called on to pay the pensions of about 1.5 million people, a number that is much larger than desired, but still less than 1 percent of the workforce. It is small, because, for starters, most companies don’t go bankrupt and most workers don’t have a traditional pension. Another reason why this is a problem for only a small group is the PBGC generally pays the full pension to over 90 percent of its retirees.
However, as Millard notes, there is a moral hazard in the pension funding rules. A weak company with a fully funded pension plan can invest all of their pension assets in stocks and be 60 percent funded after a major crash, and then dump their pension promises on the PBGC.
In my testimony before the Senate HELP Committee in October, I noted that the pension funding rules are pretty good (in fact, they are too rough for the typical healthy company), but Congress needs to close the above loophole for weak companies. One way would be to charge weak companies a large risk premium if they want to hold a large percentage of stocks. However, the weak companies then might not pay the premium, so in that case, the PBGC would need the authority to prohibit too much stock in the pension plans of weak companies.
The PBGC should also be given the authority to require a special workout with the weak company (just like banks do with corporate borrowers that can’t pay off their loans). The PBGC could keep the company responsible for their pension promises, give them a temporary reduction in their pension contributions, and reduce the largest pension promises to top brass.
I also agree with Millard’s third recommendation to allow the PBGC to go back to investing in more equities (even though that’s the reverse of what we recommend for private sector pension plans). I had a tough time getting others on the Hill to appreciate his point in 2008, because the stock market wasn’t doing well. Currently, some members of Congress (particularly the Democrats) are criticizing Millard (a Republican) for encouraging the PBGC to hold equities when he headed up the PBGC. It’s a surprising twist, because when I was the PBGC’s chief actuary in the 1990s, the political parties were on the reverse sides of the debate.
I’ll also note that if the PBGC had followed Millard and invested in stocks in 2009, it could have $10 billion more in assets today. Now I know there are good studies that say the PBGC should immunize (invest only in bonds that match their liability payouts), but the PBGC is not a private sector company that has to have assets greater than liabilities, so it can wait out the down market cycles. In fact, the PBGC’s assets are large enough for it to pay benefits for at least a couple decades.
In addition, the bond idea locks in the PBGC’s deficit, so the bonds-only supporters would need to increase taxes and/or premiums immediately, but I don’t hear them supporting that idea. A reason the PBGC should not invest in equities might be if we think there is no longer a risk premium for investing in stocks, but I don’t think there are many people who believe that for the United States. Japan has had terrible experience in its stock market for 20 years, but I don’t think we are in the same situation as Japan, either.
I’ll be interested in what others think about this last point, since it is the most controversial one. Please comment.