Pension Bailout

The WaPo has an interesting article today about the future insolvency of the Pension Benefit Guaranty Corporation. Many pie in the sky liberals decry the coming extinction of defined benefit pension plans as putting all of the risk of retirement on the individual. When in reality there is reduced market risk but increased political risk.

In the dynamic creative destruction of a market economy, companies which seem unassailable may in time fail, and credits which seem impeccable may in time turn out to default.

The biggest potential additional loss to the PBGC today is the threat that it would be forced to assume the liabilities of the General Motors pension fund, with constant media speculation that GM may in the end declare bankruptcy. But as the idea which became the PBGC was developed in the 1960s, it was reasonable to view GM as presenting virtually no risk.

Capitalism's creative destruction makes virtually every company's future a crapshoot. The largest of the companies with thousands of retired people receiving what was promised them (and, I would argue, the retirees have every right in the world to collect on those promises) start to sink under their own weight. When that happens the PBGC rescues the company's pension and pays out the benefits to the retirees. Of course, there's the gigantic moral hazard involved in this. If I'm a struggling company, why would I fund my pension scheme when I need to invest in R&D, a new distribution center or new technology? I won't, I'll try to save my business and let the PBGC bail me out.

Unfortunately for taxpayers the PBGC is not fully funded either. With Social Security and Medicare in fiscal trouble several years down the road, the PBGC failing will have severe implications on the American taxpayer. The only way to plan for your own retirement is to have the risk fall on your shoulders in the form of market risk. You can diversify away market risk but not political risk.

Greg Mankiw discusses this issue more on his excellent blog.