The Real Reason for Pensions

Augustus Caesar, in 13 B.C., worried that retired soldiers might rise up against the empire. So he came up with a clever solution: after twenty years in a legion and five years in the military reserves, a soldier would earn, in a lump sum, a pension that worked out to about thirteen times a legionnaire’s annual salary. Pay the veterans off, the reasoning went, and they’ll be less inclined to overthrow you.

I learned about this from Robert Clark, a professor at North Carolina State University who studies retirement plans and included the Augustus anecdote in a book on pensions. This was his point: “If you look at pensions and ask, ‘Why are you offering them?’ there’s always ulterior motives from the employer.”

In 1935, for instance, the Social Security Act excluded local-government employees from federal benefits. So to get people to work for the government, and to mollify existing employees, cities had to provide a perk of their own. They settled on offering public pensions, which, by the middle of the twentieth century, were commonplace. Later on, pensions served another purpose: with private-sector employers offering higher wages during boom times, the government was able to lure good workers by promising better retirement benefits.

On Tuesday, a federal judge said Detroit could legally cut the pensions it has already promised to workers as part of its bankruptcy plan. Many state constitutions, including that of Michigan, hold that the government can’t go back on pension promises, and, because of this, cities have generally assumed that they could not touch existing pensions even in cases of bankruptcy. (Instead, many have been cutting pensions for newly hired workers.) But federal law supersedes state law, and, according to Judge Steve W. Rhodes, pension cuts are just fine under federal law. “Pension benefits are a contractual right and are not entitled to any heightened protection in a municipal bankruptcy,” he said.

While Detroit’s emergency manager must still submit a reorganization plan for approval, and Rhodes said that the court would not “lightly or casually exercise the power to impair pensions,” the decision sets a precedent. From now on, cities can—and likely will—use Rhodes’s words to support their own pension-cutting plans for current employees. In October, employment in local government was basically unchanged from a year ago, even as private-sector jobs continued to rise. As cities shed workers rather than hiring new ones, they have more incentive to cut compensation than to raise it, at least in the short run.

People often frame the discussion about public pensions in ethical terms. If you’re on the left, you might ask whether it is fair to halve the monthly payments due to a ninety-year-old man who spent his career as a civil servant. From the right, you might question whether it is right to keep paying pensions with funds you don’t actually have.

These are useful questions to consider, to be sure. But their answers might not have much bearing on the future of pensions. The keepers of government budgets are practical-minded people. From the Roman Empire until modern times, governments have established pensions because they served some useful purpose.

Over the past couple of years, the budgets of cities and states have been decimated: first, the real-estate collapse hurt property-tax revenues; then, federal and state economic-recovery funds dried up. Short of cash—and, in some rare cases, facing bankruptcy—cities have seen their motives shift. In the past, they felt it served them well to offer pensions to attract good workers. Now, they feel it serves them better to slash these pensions, which make up an average of five per cent of budgets, to cut costs. Should we be all that surprised?

“There are some people who believe that this bespeaks a certain kind of disdain for organized labor, or is just some Republican ploy to undermine the unions,” Jennifer Bradley, a fellow at the Brookings Institution, told me. “I don’t think that’s the case. Cities are just looking at what their big expenses are, and this is a big expense.”

But if pensions start becoming less generous in the long term, it will be time to ask another tough question: should cities make up for lower pensions by paying their employees more in wages?

It’s not a trivial matter. In January, researchers at the Center for Retirement Research at Boston College looked at teacher compensation to figure out how compensation cuts for new hires might impact teachers’ decisions about where to teach. (Teachers make up more than half of the state and local workforce and are among the most highly paid workers.) They considered public data on teachers’ pay and pensions; they also looked at the average S.A.T. score at a teacher’s undergraduate institution.

They found that school districts that pay better—including deferred compensation, such as pensions—generally attract teachers from universities with better S.A.T. scores. Cutting compensation is “not costless,” the authors wrote: “it will almost certainly result in a lower quality of applicants for one of the nation’s most important jobs.”

Emperor Augustus’s new pensions were expensive: he paid for them partly out of his own pocket, but also, to the disgruntlement of some subjects, with new taxes. Detroit and other cities should recognize that cutting pensions—unless this is offset by better compensation elsewhere—could also be expensive, in the long run.

Original Article
Source: newyorker.com
Author: Vauhini Vara