http://www.janegalt.net/blog/archives/005309.html
May 11, 2005 Regulating risk There's a debate that we should be having in this country, about risk, but aren't, because everyone's trading scare stories about Social Security. In a follow-up post, Matthew Yglesias argues with Alex Tabarrok about whether the United Airlines bankruptcy, in which they have just shed their pensions, means that Social Security is more obviously bad, or more obviously good, than it was before. (Will Wilkinson chimes in here). Defined benefit programmes are risky, Alex points out, because when conditions change, they tend to become insolvent. That's why the government needs to have one, argues Matthew; with corporate programmes blowing up left and right, people need some safe harbor in their sea of troubles. (That's one coherent metaphor, if you imagine the pension system to be something like Pearl Harbor. Luckily, that's not very hard to imagine.) Who's right? Well, basically, there are three entities that can bear retirement risk: a company, a person, or a government. There are problems with all three. People are too small to be actuarially sound; they can be wiped out by adverse events. Also, some of them are incredibly stupid about money; others like to gamble. The defined benefit corporate pension plan has been, for a long time, the holy grail of liberals. It was lavish and safe. It is also dying. Not that it was ever that prevalent in the first place, mind you; liberals who lionize the Golden Days of the fifties and sixties seem to believe that everyone worked for either IBM or GM, when in fact most jobs, just like today, were with small businesses. But the corporate pension was certainly *more* prevalent. Unfortunately, time has revealed its cracks; companies aren't very good vehicles for managing this sort of risk. Time is the biggest one; pensions require companies to plan over time horizons that span 30 or 40 years. That was fine in the cozy, protected, and highly regulated environment of the 50s and 60s, but when the market changed, the pension promises couldn't. This is what (among other things) is dragging down the major airlines; I expect that within the next decade we will also see Ford and GM default on their pension promises. The government, which is an actuarially sound pool, seems like a natural to take over insuring away this kind of risk. Unfortunately, government has its own problems. For one, it is even more rigidly unable to cope with changes in the pool than an old industrial firm coping with an intransigent union. T his is saying a lot. But it is justified. Look at Medicare, which everyone except the AARP agrees is a total financial disaster which will destroy the fiscal health of the United States unless something is done to control costs. Our politicians are well aware of the problem, and so they feverishly worked to--tack on a prescription drug benefit that will add trillions to the bill. At least when companies have insufficient accrued assets to meet their accrued liabilities, the government forces them to trim benefits or raise contributions. Government programmes, on the other hand, have a tendency not to self correct until the crisis is upon us--by which time the nature of the fix has gone from painful to catastrophic. And taxation to support government insurance programmes has a high deadweight loss. What's the best solution, then? I'd say we're converging on it: a system of minimal government insurance for those who have been unlucky, in life or investments, combined with a regulated forced savings plan to make sure that those who aren't unlucky aren't tempted to free-ride on society, and incentives to employers to encourage additional savings among employees. This won't make anyone ideologically happy. But it seems like the least intrusive, most fair, most economically sound possibility. Update Something I meant to say, but somehow forgot to, is that people have advantages, as well as disadvantages, the chief one being that they are the best judges of their ability to work, their basic needs, and the tradeoff between current and future consumption. When someone has a pension, that person should retire at the earliest year it will allow him to take a full benefit. On the other hand, when a person has assets, they have to decide between consuming more leisure now (by retiring) or consuming more goods later (by continuing working and leaving their nest egg untouched). In the first scenario, there's no tradeoff-you cannot maximise your later consumption by continuing to work. Given that older people have skills and experience that are generally valuable, it is in the best interest of society that they continue contributing those skills to the labor pool for as long as possible, rather than living off the work of others. People are also better judges of what is the basic standard of living they will be happy with than the government. (Though there's new behavioral research showing that people may make bad judgements about deferring consumption, there's no evidence that hte government--which is, after all, elected by those same people--makes better ones.) Furthermore, government pensions have a particularly pernicious feature: retired people can vote to increase their pension payout without having deferred earlier consumption to pay for it. This is not quite playing the straight bat. Government pensions also introduce a considerable element of moral hazard--save nothing now, and force your children, and everyone else's children, to stump up when you retire! [Don't corporate defined benefit pensions introduce the same moral hazard?--ed. No. Workers with defined benefit pensions are trading off current salary for the pension benefit, as you'll readily see if you sit in on any union negotiations. They can't--unless they buy a lot of their company stock--vote themselves higher benefits later.] Update II Will Collier points out another problem with corporate pensions: depending on the same company for your livelihood, and your retirement, is bad mojo. _______________________________________________ http://www.mccmedia.com/mailman/listinfo/brin-l
