The American Interest
Analysis by Walter Russell Mead & Staff
Washington Cooks Up a Fix for State Pensions

Hatch

The public pensions crisis is one of the greatest challenges facing the states today, but thus far it has mostly met with silence from Washington. This may be about to change. Mary Williams Walsh, who has been all over the pensions story for the New York Times, is now reporting that Senator Orrin Hatch of Utah is preparing a bill that would allow states to transfer the management of public pensions to private insurance companies. The details are still sketchy, but the basic idea is simple enough:

If Senator Hatch’s proposal were to become law, a local government that opted for insurance would hold competitive bidding once a year. The winning carrier would give each worker a contract, guaranteeing a retirement-to-death annuity amount for a year’s worth of work. Public employees’ unions would no longer negotiate the size of their members’ pensions; instead, they would negotiate how much the local employer would pay the insurer upfront. The annuity contracts would be portable, meaning workers would take theirs with them when they changed jobs.

Walsh then explains the thinking behind the plan:

That is what prompted finance committee staff members to think about insurance companies. They, too, provide lifelong income to their customers — they just don’t call it a pension; they call it an annuity. Annuities can be devised in any number of ways, including precisely duplicating the terms of a worker’s pension. Senator Hatch’s staff eventually decided that shifting the states’ pension business to insurers was the only way to continue providing the monthly checks that public retirees want without forcing local taxpayers to come up with more money every time the stock market plunges. Life insurers would bear the investment risk, shielding both retirees and taxpayers….

Perhaps more important, state insurance regulators provide a kind of oversight unknown in the world of public pensions. They require insurance companies to meet capital requirements, taking into account the riskiness of their investments. Insurers are also required to hold more assets than they estimate they will need, and if they burn through their surpluses, state regulators can close them down.

On the surface, this looks like a smart idea. Two of the biggest problems with public pensions are politicians’s tendency to make long-term promises that will be difficult to keep, and the states’ consequent tendency to overstate the health of their plans while they head toward insolvency. Shifting the responsibility for management to private organizations could help alleviate both of these problems.

Unlike state politicians, private companies have shareholders to answer to, and they’ll have a tough time justifying generous promises that will bring hefty payouts years down the line. This should make it more difficult for unions to push for plans the states (or insurers) can’t quite afford. Meanwhile, the tougher regulatory environment will give the public a more accurate picture of the overall health of these plans. Finally, and perhaps most importantly, the public will no longer be on the hook should these plans fall apart.

The public worker unions will hate this; their business model is based on the ability to use concentrated political power to extort impressive but unrealistic pension promises from pandering politicians. Realistically, there is no way Democrats will let anything resembling this bill get through Congress, but it deserves a fair hearing. It would give workers flexibility as well as security and prevent one generation from pushing its obligations onto the next. It reduces risks for both employees and taxpayers. And it represents the kind of creative thinking that in time could put the American system on a sounder financial foundation.

[Orrin Hatch photo courtesy of Wikimedia Commons]

Published on July 9, 2013 5:00 pm
  • dawadu

    It sounds good right now but I am willing to bet it will be another 1,500-2,000 page bill that will totally make things worse–any takers on the size of this bill (assuming it will even get out of committee)

    • Andrew Allison

      Or that any of our reprehensatives will bother to read it before voting?

    • http://foobarista.blogspot.com foobarista

      If I had one “Congressional rule” to impose, it would be to require a complete oral reading of all bills and amendments to the full Congress assembled before having a vote. And I wouldn’t allow “telework” in this case – they’d have to sit there for the entire duration of the reading of a 2000+ page bill. For fun, I’d also insist that the heat and AC be turned off while all this is happening.

    • Kavanna

      They’ll have “to pass it to find out what’s in it.” It’s like hitting the piñata.

      These bills are so long because they’re designed to preserve and strengthen the status quo, satisfy a gaggle of interest groups, and smooth the transition of Congress-critters and their staffs to lucrative post-government employment in the industries they regulate.

  • crocodilechuck

    And your defined benefit pension from Bard College is safe. Correct?

  • dawadu

    Just thought of something–wouldn’t this give insurance companies an incentive to take riskier positions knowing that government entities will bail them out ? I believe this is called a moral hazard–I maybe wrong about that.

    • Thirdsyphon

      No- I think you’re right about that. Giving a financial entity a guaranteed income stream is a strong incentive for them to gamble with it… and an equally strong incentive for them to lobby the government to increase the amount of workers’ mandatory contributions. There are probably ways to mitigate this effect through careful policymaking, but I don’t expect there to be any advocates of prudence and caution in the building, let alone in the room, when these deals get finalized.

      • dawadu

        In my opinion, it isn’t the guaranteed income stream that causes these entities to gamble (though it is a big factor) but its the expectation of “being to valuable to fail” as would be in this case. Can you imagine if there was an “insurance financial crisis” and that the big boys would go under and endangering say 35-45%(probably would be larger) of all government employees/retirees pensions/annuities any idea of what our federal government would do?
        This would cause other industries to create/find ways to suckle at the federal teat for guarantee bailouts.
        The proposed plan would have insurance companies to do one year contracts, insurance companies would not go for that short of contract. Realistically, the contract would be around 5 years. and this would cause insurance companies to increase their lobbying presence to get the contracts and to decrease any regulations that are restricting their investment plans.

        • Thirdsyphon

          Good point, but ironically the “too big to fail” phenomenon might turn out to be a *good* thing from the workers’ point of view. A lot of opinion leaders who are almost lip-smackingly gleeful at the prospect of government pension programs going bankrupt (you know who you are *cough* *cough*) might find the prospect of allowing an entity full of GOP donors to fail completely unacceptable. Money that could never in a million years have been found to save the sunset years of middle-class librarians will be conjured out of thin air with a finger-snap to save the bacon of wealthy bankers. Perversely, the very perversity of this setup might be what the unions end up liking most about it.

          • Corlyss

            I think you miss the point when you describe the anticipation of government pension programs going bust. The point of pointing out the inevitable truth is to compel people of conscience to act. The difficulty so far is finding people of conscience who are willing to sacrifice their political careers to do the right thing.

            Additionally, organizations full of GOP donors are not that influential or we wouldn’t have landed up with the most unreconstructed left-liberal progressive Obama for a first term, never mind a second.

          • Thirdsyphon

            If there were some actual people of conscience involved in this debate, we’d have made a lot more progress. If we had some pension beneficiaries arguing that they should receive a bit less in benefits, and some taxpayers arguing that they should pay a bit more in taxes to help solve this problem, I’d hail *those* voices as people of conscience. Sadly, if the state of our politics is any indication, no such people exist. Instead, all we ever hear from are people eager to sacrifice only *other people’s* interests. Because “conscience” demands it.

          • Corlyss

            Well, I stand ready to loose some of my pension benefits, but NOT if I’m the only one and NOT if they raise my taxes and my health care premiums and co-pays at the same time.
            I doubt if I’m alone. Those of us who are willing just want to make sure that IF we jump, others are jumping with us.

          • Thirdsyphon

            That’s my position as well. I’m willing to accept getting fewer benefits in old age *and* paying higher taxes now, but it sticks in my craw when reform plans are always presented as if shielding people 55 and up from having to make any sacrifices should be our highest and only priority. The argument we’re always given is that those younger have “time to save up and prepare” for their retirements, but in the real world, average families have no realistic hope of ever saving that much, especially if they’re simultaneously forced to pay for their elders to keep receiving full benefits. My position on privatizing Medicare is that it’s worth considering. . but if it’s such a wonderful idea then it should be applied to everyone, starting immediately. My thoughts on Social Security are much the same. Anyway, thank you for the thoughtful response.

      • Kavanna

        It would have to be fee-for-service, like the 401(k) industry. The companies are not investing their own money, just managing others’ money for a pre-agreed fee.

        What has to be avoided is getting investment banks involved. They do invest their own money — with government guarantees, their risk threshold is lowered, and they’re tempted to gamble, with their and others’ money.

        • Thirdsyphon

          Unfortunately, what you’re suggesting is the opposite of how annuities work. The money used to purchase an annuity from a bank belongs to the bank, free and clear, to invest as it sees fit. The purchaser is shielded from any losses that might result from the bank’s decision(*), but also has no right to share in any profits.
          (*)Unless the bank should go bankrupt, of course. But that sort of thing never happens.

  • Joseph Blieu

    I would be OK with this if the insurance companies who were selected were required to volunarily give up the right to make any campaign contributions for the next 5 years and if the bids were no discression lowest price and meet the specs. gets the job. Otherwise Corazine will start a new Ins. Company.

    I don’t think the Ins. Companies should or would get bailed out by Uncle Sam, ethey would be forced to sell the office building and every salesman’s Fortd Taurus.

    • dawadu

      I agree that the insurance companies should not get bailed but I believe that they would get bailed out to protect government employees pensions

      • Kavanna

        What needs to be thought about is the crazy environment of artificially low interest rates. It’s forced all actors to get desperate in the search for more yield and take inappropriate risks.

        Of course, the Fed and other central banks have now made it their business to “reflate assets” — that is, to blow bubbles. It makes everyone feel wealthier than they are, by making their houses and stocks pricier than they should be. When the crash comes, everyone’s screwed.

        • Corlyss

          Exactly. The idea that the way out of our sluggish economy is for the government to reinflate the bubbles that caused the problems in the first place scares the crap out of me. It’s as if they didn’t learn a single thing from the first round, and now want to have another go at making it work, while the nation staggers under the weight of Obamacare and the prospects of permanent temp workers dominating the workforce.

  • Corlyss

    Unfortunately, the pension guarantee board is hanging out there as an example of foolish promises made when the nation was (deceptively) flush. The taxpayers already guarantee private industry pension promises in a way that never should have been permitted as an interference with contracts and business decisions. There’s no chance that this mischief will not be modified or adapted to suit the needs of influential Blue model states.