It was with bewilderment and some consternation that I read the Others' Views commentary of March 31. In that piece, Douglas B. Roberts and Matthew J. Hanley laud the state of Michigan's landmark legislation that likely will lower the retirement benefits of many of the state's future retirees.
Under the Michigan law, state employees hired after March 31 no longer will be covered under the state's current defined benefit pension plan. Instead, they will be covered by a defined contribution plan.
Messrs. Roberts and Hanley think this is a good idea. As the president of the nation's largest public employee and health care workers union - the American Federation of State, County and Municipal Employees - I can state unequivocally that this action is bad news for state employees, the state, and, most importantly, for future retirees.
The entire debate between a defined benefit plan and a defined contribution plan centers on who receives what guarantee. A defined benefit plan guarantees a specified benefit to the employee. Typically, the level of benefit is stated as a formula, usually a percentage of pay multiplied by years of service. Any risk is borne by the employer. On the other hand, with a defined contribution plan, only the employer's contribution is guaranteed. Often, this contribution is tied to a matching employee contribution so it is based on how much the employee chooses, or is able, to contribute. There is no guaranteed level of income at retirement.
Employees bear all of the investment risks.
Put simply, a defined contribution plan doesn't necessarily achieve the purpose of a state pension plan: It does not guarantee a decent income for a public employee who has loyally served the state for much - if not all - of his or her career. Proponents of defined contribution plans don't address this concern. Instead, they espouse the plans' virtues. Problem is, there are serious flaws to their arguments.
For instance, some say that such a plan is a boon for taxpayers because it forces greater budget discipline and reduces budget uncertainty. As the authors of the commentary state, "It forces the state to bear the full cost of increased benefits immediately and no longer asks the taxpayer to shoulder the cost of poor investment performance." While this may sound like a valid point, one must also consider that the converse is true. Under a defined benefit plan, the state and the taxpayers benefit from favorable investment performance. The fact is, investment earnings have exceeded the actuarial assumptions as well as the interest credited to employee accounts for the last couple of decades.
Likewise, on the surface it might sound like allowing the individual investor to engage in social investing if he or she so chooses is a tremendous plus for switching to a defined contribution system. In reality, most employees are risk-averse, conservative investors. They, therefore, typically choose to invest in mutual funds, of which a mutual fund manager selects specific funds on the basis of how he/she thinks they will perform. To be sure, the decision of the mutual fund manager - who, by the way, is generously compensated - is not dependent on whether they are socially desirable investments.
Yet perhaps the most outrageous reason cited for moving to defined contribution plans is to keep up with an "increasingly mobile" workforce. Messrs. Roberts and Hanley actually say, "encouraging people to stay longer means by definition the employees are staying longer than they wish." True, a sound pension system does provide workers with a strong incentive to remain with an employer, but so does interesting and challenging work; the feeling of making a positive contribution to his or her community; a decent salary to a family. Are the authors actually suggesting that we should lower the positive aspects of work, so that the state isn't "compelling" employees to stick around too long?
The article referred to the "golden handcuffs" phenomenon, in which employees "often are 'trapped' in a job because of the huge cost of leaving a pension benefit if they are not vested."
There is no evidence to support this claim. True, a public employee's pension does provide an incentive to continue as a public servant, but one must also take into account that a decent, secure pension helps a salary that typically is lower than that offered by the private sector.
Contrary to popular opinion, a public employee pension is not an outrageous perk. Those who argue that public sector defined benefit plans are too generous fail to point out that public employees almost always contribute to the cost of their plans. Private sector employees usually do not. Moreover, many public employees are not covered by Social Security, while all private sector employees are covered by Social Security.
Finally, the authors' assertion that a defined contribution plan solves the large variation in benefits between retirees must be rebutted. Messrs. Roberts and Hanley say under such a plan, employees are vested after a short period of time. The truth is, there is no set amount of time. It could take two years for an employee to be vested, or 10 years. Michigan, for example, has a four-year period, but that may have been designed with the express purpose of helping to sell the plan to current employees.
Despite problems of a defined contribution plan, AFSCME does think it has some merits. There is no problem with adding a defined contribution as a supplement to a defined benefit plan. Employees who have the resources could then choose to round out their retirement package by contributing to the defined contribution plan.
Standing alone, however, defined contribution plans do not provide retirement security. And after all is said and done, isn't that what a pension plan was designed to accomplish in the first place? nGerald W. McEntee is the international president of the American Federation of State, County and Municipal Employees, the nation's largest public employee and health care workers union.