By Holley Ulbrich, special to Statehouse Report | The General Assembly and the governor are tossing out ideas about tax cuts and rebates in response to being flush with cash. Perhaps they should recall that they claim to be fiscal conservatives. What’s the first priority of a fiscal conservative? Pay the bills. Reduce the debt. Specifically, commit at least some of these funds to shoring up the woefully underfunded state retirement system.
Aha, some of them respond, that’s because the retirement system is an old-fashioned defined-benefit program. Let’s solve the problem, they say, by following in the footsteps of corporations and some other state governments by making the switch to a modern, up-to-date defined-contribution program.
For those readers who don’t speak the language of pensions and insurance, a defined-benefit program promises a fixed (perhaps inflation adjusted) monthly benefit based on your salary while working and the number of years worked. A defined-contribution program leaves the size of the benefit to be paid every month to the retiree and his estimate of how long he might live.
Right now, defined-contribution programs are popular because the stock market has been performing so well, but the likelihood of that continuing indefinitely is doubtful. In simpler language, the current defined-contribution system has an insurance element. It will continue to pay as long as the beneficiary is alive, and can be adapted to protect a surviving spouse as well. You can outlive the assets in a defined-contribution program, but not a defined-benefit program. In a defined-contribution program, the risk (that retirees will live too long) falls on the worker. In a defined-benefit program, the risk falls on the employer. (A further risk with private sector pension system of their kind is the unfortunate practice of some corporations of diverting pension funds to other uses and leaving beneficiaries stranded, but one would certainly hope that a state government would not behave that way).
There are two flaws in that proposed shift. First, it won’t solve the problem of underfunding of existing commitments to current and returned state employees. Instead, it will make the problem worse by cutting off the flow of new employee contributions and state matching funds into the coffers of the state retirement system. Legislators who get a particular sweet retirement deal from the existing system will be putting their own retirement funds in jeopardy.
The second flaw is that the old system is one of the few attractions the state has to offer its generally underpaid employees. If the state is worried about retaining and attracting teachers, or prison guards,or social workers, a pay raise would be very helpful, but the defined-benefit program offers these generally underpaid workers an insurance benefit of some value. Workers who feel secure and protected about their financial future are likely to be more loyal and dedicated employees. In fact, the number of years required to qualify for full retirement benefits may well be one reason why we haven’t lost even more than the current number of teachers, prison guards and social workers
Social Security is the most familiar (and beloved) of defined-benefit programs. All attempts to convert it to a defined-contribution program have been fiercely resisted, in part because the benefit schedule is tilted toward those who earned the least when they were working. Lower- to middle-income workers who retire usually have very little saving and very little experience in asset management. If they do manage to save for their retirement, then it would be wise for them to put those funds into some kind of defined-contribution program, knowing that it will provide the possibility of growth atop their solid foundation of Social Security and defined-benefit pension.
Holley Ulbrich is Alumni Distinguished Professor Emerita of Economics at Clemson University.
We Can Do Better, South Carolina!
My husband paid into the system from 1966 until he retired in 2oo1. I paid from 1977 until I retired.
Don’t mess with our retirement. It works, it keeps me alive.
As a recent state retiree, I am appalled at the lack of fiscal common sense demonstrated by our elected officials. I suppose this is because THEY are not recipients of state pensions?