Whatever rate Congress picks to replace the 30-year Treasury bond in discounting pension liabilities for funding purposes, one thing is clear: It can't be a static, one size-fits-all rate. Rather than an arbitrary number that might favor employers over employees, the rate must be based on a sound, transparent structure.
Peter R. Fisher, the Treasury Department's undersecretary for domestic finance, raised the idea of a demographic approach, an interesting concept that should be seriously examined. It could mean scrapping the single discount rate for all companies and instead using a rate based on the retirement dates of a company's work force. Closely matching future cash flows of the liabilities with a discount rate of securities with similar maturities would force companies with a maturing work force to fund their pension plans more quickly than those with longer horizons.
The ERISA Industry Committee, composed of corporate sponsors, prefers a rate based on high-quality corporate bonds, an unrealistic suggestion that seems designed to find the highest rate for discounting. No diversified portfolio would contain only corporate bonds.
Congress should convene a commission of experts to recommend a replacement rate for the 30-year Treasury bond for discounting pension liabilities. The commission should be composed of academics as well as corporate, actuarial, investment, insurance and union representatives.
Congress needs to move swiftly. It has reached no solution almost two years after the Bush administration announced the end of the 30-year Treasury bond.
Boeing Co., for instance, illustrates in its latest 10-K the impact of a change in a discount rate: A 25-basis-point increase in the discount rate would decrease the company's 2002 pension liabilities by $1 billion. But a 25-basis-point decrease would increase the liabilities by $1.25 billion. Boeing expects to contribute $1 billion in 2004 to its $28.8 billion in pension funds, up from $340 million in 2002.
The PBGC settlement rate is 3.5%, compared with the 30-year Treasury rate of 4.8%, or the 6.55% rate corporate sponsors can use, based on 120% of a four-year average of Treasury rates. The committee ought to examine, too, if such different rates should be used.
An inappropriately low rate would burden plan sponsors with unnecessarily high pension contributions, choking cash-strapped corporate operations and damaging the private defined benefit system that already is in a decline. But too high a rate would contribute to severe underfunding of pension plans.
The rate isn't the sole factor in eliminating the steep shortfall in funding. With the new rate should be other changes, such as relaxing contribution limits to ensure better funding. n