Policy Observers Starting to Address Core Causes of Pension Envy

We have for several years now been noting the “pension envy” phenomenon, where people in the private sector want the same defined benefit plans that public sector employees have. We have said that we agree with them completely – that ERISA laws placing onerous burdens on private sector companies need some revision. We agree that new thinking is in order. We don’t agree with their position that because most private sector employees don’t have DB plans, then public sector employees can’t have them either. Public policy should be guided by what works, not some sense of class fairness determined by where you work.

This pension envy, in our view, also has its origins in the failure of 401(k) plans to adequately generate the returns most Americans need for retirement. There is some irony in this development, as we remember how, in the 1990s when stock markets were booming, we would read about the imminent death of antiquated defined benefit plans. Why would anyone in the public sector agree to meager 5 percent returns when mutual funds in the 401(k)s were making 20 percent each year? That was the argument then. 

The 401(k) disaster is beginning to be recognized. We’ve noted how the annual Deloitte study of 401(k) plans shows increasing discomfort on the part of employers for the retirement status of their employees. We’ve seen studies from the Center for Retirement Research indicating severe funding shortages for retirees.

Now we have another academic making some of the same observations, that 401(k)s aren’t getting the job done. Here’s a few paragraphs from a story, “Our Ridiculous Approach to Retirement,” appearing recently in the New York Times, by economics professor Teresa Ghilarducci:

The current model for retirement savings, which forces individuals to figure out a plan for their retirement years, whether through a “guy” or by individual decision making, will always fall short. My friends are afraid, and they are not alone. In March, according to the Employee Benefit Research Institute, only 52 percent of Americans expressed confidence that they will be comfortable in retirement. Twenty years ago, that number was close to 75 percent.

I hope that fear can make us all get real. The coming retirement income security crisis is a shared problem; it is not caused by a set of isolated individual behaviors. My plan calls for a way out that would create guaranteed retirement accounts on top of Social Security. These accounts would be required, professionally managed, come with a guaranteed rate of return and pay out annuities. This is a sensible way to get people to prepare for the future. You don’t like mandates? Get real. Just as a voluntary Social Security system would have been a disaster, a voluntary retirement account plan is a disaster.

It is now more than 30 years since the 401(k)/Individual Retirement Account model appeared on the scene. This do-it-yourself pension system has failed. It has failed because it expects individuals without investment expertise to reap the same results as professional investors and money managers. What results would you expect if you were asked to pull your own teeth or do your own electrical wiring?

Defined benefit plans work in part because employees are required to make contributions to their individual retirement account, and they sacrifice some of their current income for future, delayed gratification. They rely on the professional decision making of their Board and the money managers they hire. The same dynamic does not exist with 401(k)s and it is a serious flaw. We don’t like mandates either, but there needs to be some fundamental change in how all policy makers view individuals savings capabilities.

You might also want to see Ms. Ghilarducci interviewed on this subject on a Web interview, available here. – Max Patterson