Sunday, December 05, 2010

Promises, Pensions, Problems: A Proposal

You are a state governor dealing with a strike of state employees. To end it, you must offer them something. One possibility is to raises their wages. Another is to agree to a more generous pension plan.

Higher wages will come, at least for the next few years, out of your budget—and there are a lot of other things you would like to spend the money on. Higher pensions will be paid, almost entirely, from the budget of later governors. It looks like an easy choice. And, since you aren't the one paying, there is no good reason for you to be stingy in your offer, especially if being generous might end the strike sooner and buy you future political support from the currently striking union. Follow out the logic of the situation and one can see why many U.S. states currently face serious budget problems, in part due to very generous employee pension plans.

There is a fairly simple solution to the problem. Change the relevant laws so that a contract with the state government as a party is enforceable against that government only until the end of the term of the present governor. The governor still has the power to pay people with promises, but only promises that are binding for his current term in office.

Suppose, however, that pensions really are the right answer, that for one reason or another the state employees would rather get a thousand dollars worth of pension than a thousand dollars worth of salary, both figures calculated properly allowing for when and with what probability the money will be paid. The solution is for the state to provide pensions—and pay for them. That could be done by putting money into a fully funded pension plan. It could be done by buying pensions from a private firm. The one way it could not be done would be by making binding promises of future state payments.

My proposal does not, of course, solve all problems. The governor may have ways of binding his successors that do not depend on legally enforceable contracts—if he agrees to a pattern of wages in the future based on number of years of employment, it may be politically costly for his successor to reneg on that promise. And it solves the problem only for state governments. I will leave to readers the problem of how one constructs corresponding rules for the federal government.

Nor is the problem limited to governments. To take an obvious recent example, GM was able to buy peace with the UAW by promises of future pension payments. When it turned out that GM was unable to make those promises good, the federal government intervened to bail them out. Presumably the UAW's willingness to accept pensions instead of pay raises in part reflected their correct prediction that, if the situation arose, that would happen.

The same issue can arise, to some degree, even without government involvement. CEO's of private corporations are limited in their ability to make their performance look good at the cost of creating future obligations for their successors by the rules of accounting, which show, or at least are supposed to show, future obligations as present liabilities on the balance sheet. But the process is, given the limits of accounting methods, imperfect.


wtanksley said...

An interesting suggestion. One way to implement this in corporate law would be to eliminate entirely the ability to bind corporations by contract -- only persons (NATURAL persons, but I think this would eliminate the need for "corporate personhood") may sign contracts, and the contracts may be renewed without negotiation by signature of the person's corporate successor.
Of course, there would have to be controls on this; a corporation couldn't be allowed to get out of a contract merely by changing the title on a person who signed for them -- but firing them and listing the contracts as part of the cause of firing would be adequate (all contracts NOT listed as cause would shift to being an obligation of the person responsible for the firing).

Unfortunately, this law change would have to be non-retroactive, I think.

jimbino said...

It is exactly because of these considerations that we need to encourage insolvent states to declare bankruptcy. Making a good example of a state like Illinois would solve the problem for a generation or two.

wtanksley said...

jimbino, this would put proper fear into people's hearts; but it would also break a lot of people who don't deserve to be broken. If we can avoid it, we probably should.

Anonymous said...

To end it, you must offer them something.

Something like ... continued employment. There's a reason public employees are generally prohibited from striking. If they strike, fire them all like Reagan did to the air traffic controllers. Doing that, though, would expose the lie of the state: that the people need them. Once used to not being hounded by striking agents of the state, there will be no desire on the part of the public to put them back to work.

but it would also break a lot of people who don't deserve to be broken.

Who says they don't deserve it? State employees are by definition parasites. They produce nothing of value, if they did you wouldn't need force of arms to get people to pay them.

NATURAL persons, but I think this would eliminate the need for "corporate personhood"

What's with the sudden fetish for this I'm seeing these days? That's unnecessary, not to mention a bad idea. A corporation gets out of promises it can't keep by declaring bankruptcy.

wtanksley said...

"Who says they don't deserve it? State employees are by definition parasites."

State bankruptcy would FIRST hurt state debtholders, not state employees or pensionees. I don't think you know bankruptcy law as well as you claim to -- employees get first call. Debtors are a remote second, and there are many odd terms that can apply to those.

"What's with the sudden fetish for this I'm seeing these days?"

Fetish for what? I can't tell what you're talking about. Do you dislike corporate personhood, or the move to abolish corporate personhood? In either case, I think you're knee-jerking simply because I mentioned it; my proposal doesn't do anything to it.

My point is that if Friedman's idea might work for a state government, it should also work for a business.


IlĂ­on said...

Why not go cold turkey, or some close facsimile thereto? How about just doing away with all "defined benefit" pensions, converting existing ones to something privately owned by the (future) pensioner?

Neolibertarian said...

I think that's a fine idea as long as you're willing to renegotiate all the contracts. Of course, compensation would shift from pensions to wages.

In the end though, it might cost more money since a bird in the hand (wages) is worth more than two in the bush (pensions).

SheetWise said...

These employees have unions. Let the union decide what "funded" means, in terms of what they're negotiating and promising their members. Pay all commitments in real time to the unions. At that point, it's between the employees and their union. If you can't afford to pay the discounted cost of future commitments today, you can't afford the agreement.

Douglas Knight said...

I don't know about the feds, but I believe state and local governments do fund pensions with the same accounting rules as private corporations.

Also, the UAW negotiated pensions decades ago. They weren't thinking about bailouts. Probably they were thinking that shareholders don't understand accounting.

Anonymous said...

I believe state and local governments do fund pensions with the same accounting rules as private corporations.

A CEO who was playing the same games with their company's pension as the states are with theirs would probably be in jail. I wouldn't call that "the same rules".