IV.THE CLEARINING OF THE PERFECT STORM:WHAT DOES THE FUTURE HOLD FOR DEFINED BENEFIT PENSION PLANS?

Discussion

David Blitzstein
United Food and Commercial Workers International Union

Introduction

    I will make a few introductory comments before discussing the three reports that make up this important symposium on the future of defined benefit pension plans. First, the title of this session--"the clearing of the perfect storm"--suggests that the financial crisis that decimated the funding status of defined-benefit (DB) plans starting in 2000 is over and that the status quo will return and we are merely here to discuss ways to stabilize the DB system and make it available to more workers.
    I believe something more fundamental has happened. I believe the DB pension system, a retirement system that has been in decline for thirty years, has received a near-fatal financial blow that threatens its institutional survival and that much of the damage has not been recognized. Even the descriptive label--"the perfect storm" is misguided, in that it suggests that what has taken place is an aberration--the extraordinary confluence of a stock market crash during an economic period of historically low interest rates.
    My interpretation of what has happened to DB plans is based on a more institutional analysis. I believe we are experiencing system failure caused by poor public policy, failed regulations, flawed governance systems that are rife with conflicts of interest, and an investment paradigm that has totally undermined the financial integrity of a retirement system covering more than 40 million Americans. That is my experience as both a union pension negotiator and a pension trustee for the past twenty-six years, and that is the framework from which I analyzed these three reports.
    Weller and Baker's "Smoothing the Waves of the Perfect Storm" is a good place to start because it aptly addresses one of the fundamental flaws in the current funding rules of ERISA. Poorly crafted public policy on tax incentives related to the deductibility of employer contributions created an environment that encouraged contribution holidays in good economic times and ensured that employer contribution would rise dramatically during economic downturns, when employers could least afford volatile cost increases.
    In fact, until the recent financial crisis, regulators and pension practioners failed to comprehend how volatile the ERISA minimum funding rules really are. This volatility is further magnified by the maturity of pension plans and the leveraging effect between assets and contributions. As a result, when events such as 2000¿2002 occur, the minimum funding rules generated a tripling and quadrupling of pension costs for employers, which, not surprisingly, is often unsustainable.
    Weller and Baker present an insightful financial-economic model that should be required reading for retirement policy makers. I would further recommend that this financial economic modeling approach be applied by more academic and government researchers for analytic purposes to assess retirement policy options. If Table 6 in the Weller and Baker report had been produced twenty years ago, the various pension stakeholders--Congress, regulators, employers, unions, and participants--might have agreed on a different risk-sharing relationship as it relates to the funding of DB pension plans.
    In future research, the authors might consider testing their reform theories on counter-cyclical funding under a wide range of experiences. For example, it would be instructive to model some extreme financial scenarios, a form of "stress test," to determine the limits of their theories. It would be especially interesting to see how changes in investment policies affect outcomes. I am of the opinion that the capital asset pricing pension investment theory is a badly flawed model for pension plans and is greatly responsible for much of the financial havoc in the DB system. The capital asset pricing theory encouraged pension trustees to invest more and more assets in stock equity, raising the risk of a mismatch between the durations of plan assets and liabilities, which had a dramatic effect on the rapid decline of funding ratios since 2000.
    The Ghilarducci and Lee paper concentrates on the important public policy issue of pension coverage and identifying those in the work force most at risk to no pension coverage--low-wage workers, non-union workers, and workers at small firms. The chapter identifies the institutional barriers to pension coverage for these targeted at-risk populations and promotes the concept of multiemployer plans as the retirement platform that is most capable of supporting the special economic needs of these workers and their employers.
    As a lifetime advocate of multiemployer plans, I can relate with the sentiments and direction of this report. One of the biggest flaws in the second pillar retirement system in the United States is the solvency risk of plan sponsors. This often-ignored institutional fact is the Achilles heel of the single employer pension system. As we have experienced in the steel and airlines industry, bankruptcy and corporate failure trump pension security. An additional embedded flaw in the single employer pension system is the breakdown of fiduciary duty to the plan participant, where corporate management is allowed to make financial decisions as a settlor under laws that prioritize corporate finance decisions over the funding status of the pension plan and the security of those plan participants.
    Other thoughts that I would share with the authors are that, if multiemployer plans are to be effective pension platforms, they must have true scale and size to be cost-effective and at the cutting edge. Local funds with only a couple hundred or couple thousand participants are not sustainable. Plans with assets of less than $3¿$5 billion do not have scale to really make it in today's economic environment. Existing multiemployer plans should be considering consolidation and merger. Union plans should consider opening their doors to associate and nonmembers.
    The Schieber chapter rounds out the symposium by addressing the key issue of benefit design. The subject of benefit design, as critical as it is, seems to receive the least attention from pension researchers. Much of the benefit design debate seems to be trivialized by the simplistic advocacy of DB versus defined contribution (DC) supporters. Schieber does a service to the discussion of retirement policy by identifying the positives and the negatives in each design from the perspective of the needs of a changing workforce and the demands of a dynamic and sometimes destructive global economy. Schieber's suggestion is mutate a hybrid benefit design that incorporates the best of DB and DC.
    I find Schieber's argument both persuasive and intellectually refreshing. The author's categorization comparing features of DB, DC, and hybrid plans in Table 1 clearly defines the economics and the risks allocated among the various pension stakeholders. One observation is that the current risk-sharing arrangement in DB and DC plans is unbalanced and self-destructive. DB plans are declining because employers have decided that they are not willing to bear total risk. DC plans will not generate adequate retirement income for all generations of workers because employees cannot bear financial market risk as Schieber so pointedly illustrates in Figure 3.
    Hybrid plans may offer a sustainable benefit design model by redressing the risk-sharing arrangement between workers and employers. Schieber points out that fluctuations in the interest crediting rate in cash balance plans and the timing of conversion of account balances to lifetime benefits, all dependent on changing interest rates for Treasury bonds, adds residual risk to a worker's retirement income in a hybrid plan environment. Maybe in the future some of these risks can be hedged away by sophisticated investment instruments. The point is that a transition to hybrid plans offers pension stake holders the opportunity to renegotiate the terms of a new, more-equitable and long-lasting risk-sharing retirement contract.
    It is unfortunate that hybrid plans have been shrouded in controversial litigation and regulatory limbo. The opportunism of a few irresponsible companies has effectively delayed an important policy discussion concerning the viability of hybrid plans. Fortunately, groups such as the Pension Rights Center, through their "Conversation on Coverage," are having serious dialogue among a wide range of pension experts on new hybrid plan designs. The Pension Rights Center's work offers some hope for the future.
    Transitioning to new hybrid benefit designs is not enough. The portability and benefit adequacy issues addressed in Schieber's contribution require new retirement platforms like regional multiemployer plans or industry plans similar to the Australian and Dutch retirement model, which can accommodate a mobile workforce and reduce the risk of sponsor failure. These reforms must be complimented by government mandates or tax incentives that would generate the necessary employer and employee contributions required to afford adequate retirement benefits, as described by Schieber.
    Future research on second pillar retirement security programs might concentrate on institutional models that foster comprehensive coverage and prevent benefit leakage due to worker mobility or sponsor termination. New models of risk sharing have to be considered and negotiated by the appropriate pension stakeholders. Government and the private sector have to promote new plans that have the economic scale to succeed, looking to models such as TIAA-CREF and the Railroad Retirement Investment Trust. Investment models that are sensitive to the risk of plan funding and solvency, that prioritize asset/liability matching, need to replace the current regime. Much greater attention has to be given to developing governance structures that support and facilitate these new risk-sharing pension arrangements. These governance structures should be more representative of all the pension stakeholders. Organizations such as the IRRA can play a role in this pension policy discussion by fostering more efforts at tripartite decision making. All of us--whether from unions, corporations, regulators, or legislators--have an obligation to build a consensus around the rebuilding of the private pension system. I hope we are up to the challenge.

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