CONCLUSION: THE WAY OUT

America is sitting on a retirement time bomb. Companies such as General Motors are fading fast and governments such as the City of San Diego are overrun with obligations. As the population ages, the problem will only get worse. Clearly, retirees need to be taken care of. But the solution cannot be to ruin once great firms or to impoverish whole cities and future taxpayers.

In the private sector, pension failures have been running at record rates since the beginning of the twenty-first century.¹ Many of the steel, airline, and textile companies have already been forced into bankruptcy. Thanks to its intolerable level of pension and health care benefits, the auto industry is shrinking beyond recognition. Delphi and numerous other parts firms are in bankruptcy. The auto manufacturers are struggling to stay afloat. In 2007, after the events chronicled in this book, Chrysler was sold to a private equity concern, Cerberus Capital Management, which went deeply into hock to buy it. And General Motors offered a buyout package to every one of its unionized workers—an unprecedented attempt to escape from its past. Once an army of nearly a half-million, its workforce shrank to 74,000. Then, late in 2007, the UAW called a nationwide strike against GM and its patient CEO, Rick Wagoner, over the festering issues of job guarantees and health care. Wagoner and Gettelfinger, the UAW president, settled the strike with a revolutionary pact, similar to the Plan B discussed in chapter 2, under which GM would transfer more than $30 billion to a special trust, to be managed by the UAW—and finally be freed of its crippling health care liability. Ford and Chrysler reached similar accords. This rewrote the rules for the auto industry overnight. GM emerged, at long last, from its six-decade-long experiment in providing health care as a diminished enterprise, its market share down to a pitiful 23.7 percent. Whether the UAW would be able to meet its new burden was far from clear. Its membership had withered, as had the overall population in Detroit, where some once-busy and formerly thriving neighborhoods were sadly reverting to grass and trees.

As dismal as all that sounds, many state governments are in far worse shape. They are even further behind on their pension obligations than corporations (estimates of the total deficit range from a few hundred billion to nearly a trillion dollars.)² And with the stock market slumping and the long-forecast real estate crash finally having arrived, the states have no ability to make good on their obligations. Illinois borrowed $10 billion to pay down its pension debt in 2003, and yet its pension funds remain a staggering $35 billion underfunded.

And most states have not accumulated any savings to pay for retiree health care. New Jersey, for instance, recently (and for the first time) added up the promises it has made for its retired employees’ medical bills. The total was $58 billion—for which it has virtually no reserves.³ That is in addition to the amount by which its pension fund is in arrears—roughly another $25 billion. Alarmingly, New Jersey does not have the option, as San Diego does, of raising taxes to normal and thus still-tolerable levels. Taxes in New Jersey are already astronomical. Governor Jon S. Corzine has been mulling whether to sell the fabled New Jersey Turnpike (much as GM has been selling its assets). Once you start to parcel off the farm to support the grandparents, you are in trouble. But for New Jersey and others, the alternatives are grim: they can impose austere budget cuts, raise taxes further, or both.

SEEN IN THIS LIGHT, Peter Kalikow’s stand on subway pensions was long overdue. It was as principled a response in his era as Michael Quill’s agitations were in his. Quill fought for decency for the workers. Kalikow drew a line so that ordinary New Yorkers would not have to pay ever higher fares to support the lavish pensions of retirees from age fifty-five possibly into their nineties and beyond. Ultimately, the union agreed to a concession on health care rather than on pensions, but Kalikow’s point was made, and the strike was halted after only three days.

Though New York City’s outcome was more favorable than the slow death at General Motors or the scandal in San Diego, the MTA’s response is unlikely to set a practicable example for others. Few cities or states will be eager to shut down their transportation systems to tackle pension debts—and even if they were, a strike is not a solution. A GM-style “cure” of massive layoffs would be even less attractive, and the Southern California approach of pretending that the problem does not exist is worst of all. As these episodes demonstrate, our current systems no longer work. So assuming that America does not simply abandon its retirees, what can it do?

OBLIGATIONS TO RETIREES come in two forms: pensions and health care. Though pensions have a longer history as an industrial issue, in recent years employers such as GM and the MTA have come to regard retiree health care as an analogous problem. Also, the distinction between retiree health care and care for working-age adults has probably outlived its usefulness. Today we have an illogical patchwork; Medicare covers basic needs for people over sixty-five, but millions of younger retirees, as well as working people, are at the mercy of employers. A system that covers one should logically cover all.

Entire books have been written on how to reform the health care system, but the way out of the current mess can be highlighted without getting mired in the small points of the many recent proposals. Indeed, a solution was first suggested sixty years ago.

Walter Reuther argued that health care was too basic a need for workers to go without, and too burdensome a cost to be foisted on employers. Thus he advocated financing by the federal government. That does not mean the government would become the universal provider of health care. In education, for instance, Washington provides scholarships and college loans; it does not run our universities. Similarly, in health care, the government should subsidize basic coverage, on a sliding scale according to income. In a world in which people change jobs every few years, there is no reason for health care to be tied to the workplace (any more than there is for companies to provide schooling, shelter, or other basic needs). In any case, they can’t afford it. Those that try, or are forced to try, such as General Motors, are gravely disadvantaged.

When Reuther and others proposed the idea of national health care, in the 1940s and ’50s, Big Business, as well as the American Medical Association, viewed it as extreme and fought it every step of the way. But the world has changed. For one thing, business is global, and U.S. companies compete against foreign-based firms whose home countries do pick up the tab. As GM finally discovered, it cannot compete if it has to provide benefits that Toyota does not.

Moreover, the U.S. government already spends an enormous amount on health care. At companies with medical plans, employees receive tax-free income in the form of health insurance. This amounts to a huge subsidy—some $125 billion a year (more costly to the government than even the home mortgage deduction).⁴ But it is a subsidy that no one sees. Worse, it is unequally distributed; only employees at certain firms (those with coverage) receive it.

A more direct subsidy—a voucher that could be used to purchase insurance—would be universal and thus more fair. Structurally, it could be accomplished by extending Medicare to people younger than sixty-five, with the level of coverage varying according to one’s income. People would still shop for doctors and other services in the market, and still have incentives to save (since the subsidy would be limited). A similar system is being tested in Massachusetts, which has launched universal coverage at the state level. But ultimately, if the fifty states all offered competitive plans, people would move to the states with the richest benefits, just as occurred in an earlier generation with welfare. The states would then be forced to compete for residents by upping benefits. (“Move to Georgia, land of sunshine and affordable angioplasty!” ) Probably, a uniform national level of coverage would be best. Congress can no longer avoid the issue, and neither can the current crop of presidential contenders. If a trigger is needed, let it be the recent strike at GM that spelled the end for the Treaty of Detroit. As a coda to the settlement, GM agreed to invest $15 million in a new National Institute for Health Care, which will be dedicated to promoting access for all Americans. The time has arrived to take Reuther’s proposal for government-financed care out of the showroom—and even his fiercest corporate adversary seems to agree.

PENSIONS ARE A TOUGHER FIX. Depending on how much workers earned over their careers, people need, or expect, very different levels of income in retirement. Therefore, employees or someone on their behalf has to put money aside for them, and in varying amounts, while they are working. This means that retirement benefits will always have a connection to work (if not necessarily to the “workplace”). Pensions met this condition; that is, money was saved, and lifetime benefits were guaranteed, in amounts linked to prior incomes. From the employee’s point of view, pensions were close to perfect. By the late 1960s, 60 percent of the private-sector workforce had a guaranteed pension in addition to Social Security. In the next couple of decades, benefits spread to virtually all workers in the public sector as well.

But fierce economic gale winds blew this (seemingly) happy arrangement off course. In the private sector:

a. unions pushed benefits too high;

b. business went global, meaning that U.S. firms had to compete against foreign firms that did not offer pensions;

c. as the economy became more dynamic, people switched jobs more often, undermining the appeal of pensions as a retention tool;

d. life spans increased, making pensions more costly;

e. older industrial companies became less competitive (or failed outright) and their pension plans became seriously underfunded;

f. unions peaked and then faded as an economic force;

g. more jobs were created by new, start-up companies—everything from retailers such as Wal-Mart to Internet firms like Google— that refused to offer pensions.

The list above describes most of the major labor market trends of recent decades; remarkably, every item served to weaken the case for pensions. Today, only about 18 percent of private sector workers have pensions. Plummeting coverage has seriously weakened the PBGC, the federal insurer, which is caught in a vicious circle. Strong companies such as Google do not offer pensions and thus are not part of the insurance pool; increasingly, the PBGC is an insurer of the weak. It has lost billions on failed pension plans and faces a current deficit of $19 billion (that is what taxpayers will have to fork over to pay for current and predicted future losses). If numerous sponsors that are on the edge ultimately fail, or if the stock market slump deepens, the losses will be far worse.

Congress has repeatedly considered reforming ERISA so that pension sponsors would be required to keep their funds solvent. Each time, under pressure from corporate lobbies, Congress has backed off or created new loopholes. This is inexcusable. To require, as ERISA does, that companies fully fund their plans and then to grant forbearance to the companies that get into trouble undermines the very purpose of the law.

Even with a tougher law, it is probably too late to preserve the traditional pension system. Virtually no new companies are creating plans; the examples of GM and its ilk have scared employers off. Even GM itself is transitioning away from traditional pensions for new hires. Healthy firms such as IBM, Hewlett-Packard, Sears, Verizon, Motorola, and others are freezing their plans (such plans will pay off their existing obligations and eventually liquidate). Indeed, of the 44 million Americans with pension coverage, fewer than half are actively accruing benefits. The rest are retired, or they have left their employer, or their plans have been frozen.⁵ Thus the private pension industry is gradually dying.

Whatever relief this brings to corporate shareholders, from the employees’ point of view the demise of pensions is a calamity in the making. True, firms without pension plans usually offer 401(k)s, which have the attraction of mobility (employees can take their accounts from job to job). However, 401(k)s don’t offer anything like the security of a pension plan.

According to the Federal Reserve, among families with retirement accounts, the median family has only $31,000.⁶ That would be okay to live on for perhaps one year; to retire on it for a lifetime would be a joke. And a third of the workforce has no retirement savings at all.⁷

Even for people with larger accounts, the structure of 401(k)s is inappropriate for retirement. Employees get a lump sum, but—unlike with pensions—no annual stipend. There is no guarantee that the money will last as long as they do (or that they won’t spend it or squander it along the way).

Another serious drawback is that individual plans lack the insurance feature of pensions. If you happen to retire when the stock market is depressed and the value of your 401(k) has crashed, you are out of luck. Not so in a pension plan, which benefits from the law of averages (some people retire when the market is high, others when the market is low). The recent subprime mortgage-related turmoil in the stock market should remind us that relying on individually held stocks for retirement is a risky proposition at best.

Finally, companies can reduce (or eliminate) contributions to 401(k) plans at will. Most contribute far less than they do (or did) to pensions, and, as noted, Americans’ retirement accounts are woefully deficient.

Presidential candidate Hillary Clinton has offered one solution: Washington should sponsor new, national 401(k) accounts and offer matching credits to lower- and middle-income earners. Details aside, this is a sensible approach—helping people who once depended on pensions to begin to build adequate 401(k)s.

The government can take a small positive step by requiring 401(k) sponsors to offer annuities to employees as they retire. Even better, they could make annuities (as opposed to stocks, bonds, and other investments) the default option for new retirees. Annuities provide an annualized stream of income (think of them as do-it-yourself pensions). Despite the flowering of 401(k) accounts, annuities are still surprisingly rare. This is unfortunate, because annuities, like pensions, last a lifetime; they alleviate the major worry in an aging and soon-to-be pensionless society, which is that people will outlive their savings. However, this is only a solution for people who have enough savings to begin with.

In general, Congress should reconsider the legislative framework of 401(k)s—or rather, it should consider creating one. In the pension arena, Congress long ago demanded social trade-offs to protect the beneficiaries in return for the tax break it extended to sponsors. The point of these rules was twofold: to promote retirement savings on behalf of ordinary workers, and to ensure that the savings were invested with care. But 401(k)s essentially developed in a social and legislative vacuum. The time is ripe to enact similar protective rules for 401(k)s as well.

PUBLIC-SECTOR WORKERS such as San Diego firemen and New York City subway drivers differ from private-sector workers in two important ways. While private corporations are loath to make future commitments, in many public-sector job categories—teachers, firemen, accountants, and so on—employers still need stability in the workplace, and the old model of retaining a worker for two or three decades remains attractive. Thus, in government, pensions still make sense. Second, as unions have discovered, government workers have an extraordinary weapon—they can vote their bosses out of office. Put differently, they can use the ballot box to reinforce their negotiating leverage. Governor Schwarzenegger discovered this when he tried, unsuccessfully, to end pensions for new state workers and got clobbered in the polls. For both of these reasons—the employees’ longevity and the unions’ power—it looks as though, in the public sector, pensions will be here for many years to come.

Public pensions in and of themselves are not the problem; the problem is they are so often underfunded. The same political clout that enables unions to win, and keep, pensions, also enables them to push for higher benefits. As was seen in New York, the temptation for legislators to vote for higher benefits is nearly irresistible. Even worse, they are under constant pressure to keep taxes low, which creates an incentive to cheat on contributions. The seductive premise that pensions are a free lunch—or at least, a meal that need not be paid for until dessert—was pivotal to the scandal in San Diego and to underfunding everywhere.

There is one fix that is surprisingly straightforward. As Michael Aguirre proposed, states should require (by means of laws similar to ERISA) that every dollar of state and local pension benefits is funded as the benefit is accrued—not when the legislature or city council happens to feel like it. Such laws would need real teeth, and the federal government should help by prodding the states to pass them. Legislative details aside, the principle is simple. Legislatures cannot vote for, say, schools without also appropriating the funds. It is only in pensions that they can vote now and fund later. This is what the Aguirre statute would prevent. Pensions would still be subject to political pressures, but stripped of the illusion that pensions are “free,” lawmakers would presumably make wiser choices.

FINALLY, THE FATE of pensions in the United States has strong implications for Social Security. Pensions do not exist in a vacuum; since the 1930s, they have been only one leg in the retirement triad that is also composed of Social Security and (for the well-to-do) private savings. Reuther’s hope was that Social Security would be expanded to the point where private pensions would become unnecessary, but for many decades the opposite occurred. Federal benefits remained meager and were limited to a subset of the population, and the private pension network expanded. Now, those trends have reversed. In the future, as private pensions continue to wither, Social Security will be all the more essential: the retirement plan of last (and for many people, only) resort. In effect, having experimented with private pensions for sixty years, industry is throwing the burden back into the lap of government. Ironically, Social Security is itself under attack, in particular by conservative ideologues whose champion has been President Bush. It would be a tragedy to weaken the program now; as pensions fade, Social Security should be not dismantled but strengthened.

However, the lessons of failed private plans also need to be heeded by Washington. Social Security’s crisis has been exaggerated by many on the right,⁸ but as America ages, it does face a significant strain. The most important lesson that Social Security should derive from the private pension horrors is that benefits must be paid for as they are earned, so that a future generation isn’t stuck with the bill. This will require a slow and expensive transition—a catch-up period so that the government can start to salt away money now for the people who will be retiring later. Currently, Social Security is a pay-as-you-go government benefit. Present-day workers and employers pay taxes that support current retirees. When today’s workers retire, their children’s generation will support them. This leaves the United States vulnerable to a decline in birth rates, just as GM was vulnerable when its workforce declined. Currently, there are 3.3 workers for each recipient of Social Security; by 2032 that ratio will drop by a third to 2.1 workers for each beneficiary.⁹

The country would be better served if Social Security functioned like a well-managed pension plan, with each generation supporting itself. This would mean raising taxes and locking the savings away for retirement. In actual practice, though Social Security has been collecting more in taxes than it has been paying to beneficiaries, the surplus has not been saved. Rather, the federal government has been borrowing from Social Security to plug the hole in its budget—just as San Diego did. And by 2017—less than a decade away—demographic trends will tip Social Security into a deficit, on a cash basis. At that point, payroll taxes will not be sufficient to pay benefits, and the Treasury will have to start repaying its debt. This will put an increasing strain on the federal budget. In other words, the bill will come due in Washington, just as it did in San Diego. But what is bad economics for a city is no less bad for the federal government. Retirement savings should not be used to paper over the budget deficit or to fool taxpayers into thinking that the government is solvent. They should be used for retirees, period.

To assure that the country does not experience a San Diego-style debacle will require political will in Congress. The payroll tax should be increased,¹⁰ and the federal government should legislate an end to the current practice of “lending” Social Security surpluses to itself. These steps are somewhat similar to what President Bush proposed in 2005—except that the president also proposed the more extreme steps of reducing benefits and of switching to individual accounts. His plan would have converted Social Security into a national system of 401(k)s lacking any collective guarantee. A well-financed collective system would be better. Indeed, with private corporations increasingly refusing to guarantee their employees’ old-age security, the government, to repeat, is the only party that can do it.

FINANCIAL DEBACLES are as old as the sun. Virtually all involve some form of borrowing, and borrowing is essentially an arrangement between the present and the future. This is why pensions are so vulnerable. Retirement schemes necessarily involve a treaty between today and tomorrow, and on a mass scale. It is no surprise that so many have run aground, or that when they do, financial upheaval is the result.

The pension schemes—public and private, federal and local—described in this book have been all guilty of similar crimes. To paraphrase Michael Aguirre, they behaved like “credit-card junkies” who charged to the card limit and made only the minimum payments.¹¹ Eventually, credit card bills come due. The most effective remedy—in pensions, health care, and even in Social Security—is to banish the credit card. Benefits should not be charged to a future generation; they should be paid for now.

This would not necessarily mean that benefits would be lower, or that retirees would be worse off. It would force legislatures to make difficult decisions about where to allocate resources. This is what legislatures are supposed to do. On the other hand, when benefits are seen to be “free,” it is too tempting to perpetually ratchet them higher.

Changing this pattern will require political courage, and also a realignment across society. Business will have to face the fact that if it is unwilling to shoulder the burden, it must allow government to do so. Unions must recognize that the Treaty of Detroit no longer protects workers as much as it prices them out of the labor market. Politicians will have to look past the next election, and truly toward the “future” of which they so often speak. Lee Iacocca, the auto executive, pointed out more than a quarter century ago that the fault for the pension and health care burdens was shared three ways. Corporations, unions, and government—“the three of us,” as Iacocca put it in the Chrysler boardroom—were to blame. If further catastrophe is to be avoided, all three parties must mend their ways.