President Barack Obama's proposal to transfer to the Pension Benefit Guaranty Corp. authority to set its own premiums and allow them to be based on the financial well-being of sponsors and the circumstances of individual pension plans would help shore up the program in the short run, but it would do nothing to resolve the fundamental problems of federally sponsored insurance.
The president's recommendation, part of his federal budget proposal for fiscal 2012, focuses on propping up a program set up for failure, rather than addressing the challenges of strengthening the defined benefit pension system.
PBGC officials endorsed the proposal, saying in a statement it “will help strengthen the pension safety net.”
It would, if the PBGC operated in a vacuum outside the dynamics corporations face in developing and funding their employee benefits. A risk-based premium would likely bring the PBGC more funding in the short term, but it might well further weaken the corporate defined benefit system in the long run.
The change could speed the freezing or termination of corporate defined benefit pension plans as struggling companies abandon their plans rather than pay higher, risk-adjusted premiums, and that in turn would increase the PBGC deficit.
Further, the PBGC lacks the management depth to implement the proposal to price premiums on a risk-adjusted basis, and it cannot force companies to keep pension plans to pay the premiums. Congress instead should freeze the PBGC's obligations, and the PBGC should guarantee only the benefits of plans it has already taken over and no more.
Ultimately, the PBGC should fade away as the retirees of those plans die.
The creation of the PBGC as part of the enactment of the Employee Retirement Income Security Act of 1974 was a bad idea. The federal government should not be in the business of insuring pension benefits, a risk that private insurance companies wouldn't cover. Further, the PBGC was started without an initial capital infusion and had to rely on unrealistically low premiums from the start.
As a number of observers warned in 1974, the government, for that small premium, was handing companies and unions a “pension put.” The companies and unions could promise excessive pension benefits knowing that, if benefits proved unaffordable, they could “put” the obligations to the PBGC. So it has proved.
Instead of relying on PBGC protection of benefits, companies and unions should instead work to develop better funding of those benefits, a goal of ERISA's funding requirements. The goal of improved funding was toughened by the Pension Protection Act of 2006, but the Worker, Retiree and Employer Recovery Act of 2008 eased funding requirements again following the financial market crisis.
The current PBGC is unsustainable. In 2010, the present value of the future liabilities it has guaranteed was $90 billion, while its total assets were $77.8 billion. If it continues in its current form, it will have no choice but to ask Congress to raise premiums or, as the president proposed, seek the authority to raise them on its own.
The PBGC has two sources of income: premiums, which in fiscal 2010 totaled $2.2 billion; and investment returns on the assets of terminated plans, which in 2010 totaled $7.6 billion. But the investment income is highly variable. In 2008, there was a loss of $4.2 billion.
All plan sponsors under the PBGC pay a flat-rate premium of $35 per participant. In addition, underfunded plans generally pay a variable rate premium of $9 per $1,000 of underfunding.
Like any insurance carrier, the PBGC should price its premiums on a risk basis. Because of political reasons, however, the PBGC was created with only flat premium pricing, although some years ago it moved to a higher rate for underfunded plans.
The PBGC is exposed to catastrophic risk — such as the 2005 termination of UAL Corp.'s pension plans, dumping almost $7 billion in PBGC-guaranteed liabilities. PBGC estimates that plans sponsored by financial weak companies have $170 billion in unfunded liabilities. But the PBGC doesn't have the discretion to turn down coverage or adjust premiums or reinsure its risks to diversify.
Freezing its coverage now would help the PBGC, and the companies whose plans it insures, to plan for its eventual closing, which would be decades from now.
The PBGC has operated generally without leadership from its board. Since 2003, the Government Accountability Office has designated it as a “high risk” area. The PBGC is “in need of urgent attention and transformation to address economy, efficiency or effectiveness,” according to a Dec. 1 GAO report.
Since its creation in 1974, the PBGC board — composed of the secretaries of treasury, labor and commerce — has met only 36 times with a quorum., that is, with at least two of the members, according to the GAO report.
The PBGC board should be restructured and expanded. The ERISA Industry Committee, a public policy advocacy group of corporate plans sponsors, recommends adding stakeholders, including corporate and union, representatives. That's a good idea.
One thing is certain, the PBGC cannot continue in its present form, with inadequate financial and managerial resources and a non-functioning board.