Time to Retire Public Employee Pension Plans
In just the last ten days, national headlines have highlighted a problem gnawing at our country’s economy, our states’ politics and our own pocketbooks. This emerging epidemic looms far more dangerous than the size of bankers’ bonuses. More than the national debt – which time permits us to grow out of – the passage of time will only exasperate this crisis, saddling our grandchildren and their children with an unbreakable ball and chain. Worse, the nature of the dilemma only allows it to feed on itself, making it more difficult to correct as it recruits – and consumes – more allies.
Ironically, truth be told, we already know how to fix this quandary. So, why haven’t we?
Two of our nation’s largest states now find their public employee pension plans embroiled in salacious scandals (q.v., “2 Guilty Pleas in New York Pension Scandal,” NYTimes.com, October 6, 2009 and “Calpers Rocked by ‘Pay to Play’,” Wall Street Journal, October 15, 2009). What do these two pension plans have in common? Their size. With so much money at stake, any firm providing them a service can reap windfall profits. This lure of lucrative business appears to have brought out some of the worst in people – both service providers and the trustees supposedly safeguarding these assets.
Let’s look at these scandals through the lens of the ERISA Fiduciary:
1. Regulatory Compliance – ERISA fiduciaries cannot reap any transactional benefit from performing their duty, yet politicians regularly receive “donations” from businesses providing services to the plan. Now, I’m not naïve enough to believe this doesn’t occur in other public business, but the dollars are so huge in public employee pension plans, even a small “indiscretion” can yield enormous amounts of cash. Recently, states have started to go after this “pay to play” tit for tat, but, as you can see from the above headlines, the regulators seem to be fighting a losing battle.
2. Fees – Oddly enough, fees haven’t risen to a level of concern like they have in private retirement plans – even though public employee plans use similar investments. Or do they? Much of the scandal derives from the fact these funds have so much excess cash, they cannot (or choose not to) invest solely in regulated investments. Indeed, following the lead of top university endowments like Yale University, these public employee pension plans regularly invest in private placements, where it’s more difficult to determine the reasonableness of fees; thus, explaining the hubbub over mutual fund fees amidst silence concerning other retirement plan investments. (See “Do Mutual Fund Fees Really Matter to 401k Investors and Fiduciaries?,” FiduciaryNews.com August 25, 2009)
3. Conflicts-of-Interest – Needless to say, this is where the rubber meets the road with these scandals. Anytime there’s piles of money, there’s a good chance somebody will bend (at least) ethical rules to get at it. Clearly, the temptation of stacks of dollars presents just too much a luscious target for some. Try as hard as we might, we cannot eliminate greed in certain specific situations. We can only try our best to eliminate those situations giving rise to greed. Think about it. Why do we find these scandals in large public employee plans but not in smaller private 401k plans? (While there may be conflicts-of-interest issues that should concern a 401k fiduciary, they generally do not approach this magnitude.)
4. Investment Due Diligence – As we stated above, private investments tend to provide precious few opportunities to fairly and consistently analyze them. Often without a wisp of regulation, each prospect possesses its own unique characteristics. How, then, can the public employee pension plan fiduciary make an informed decision in this Wild West of investments? Apparently, if we believe the New York Times and the Wall Street Journal, investment decisions have a positive correlation to greased palms. Where does this leave the public employee? Asking the voter to pony up more just to get the retirement benefit the state promised.
5. Education – Of the five areas of fiduciary concern, investor education represents the least relevant. Worse, fiduciary education seems moot. Maybe the education we need lies with the voters.
Clearly, public employee pension plans have grown too large to be ethically managed in a consistent manner. Far too many conflicts-of-interest exist to avoid scandal. Not only do they consume vital public resources to investigate and prosecute, these same scandals lead to lost funds which, in turn, require states to go back to private citizens to continue to fund public employee retirement benefits.
Unless and until we can break the momentum of intertwined conflicts-of-interest, the greatest legacy we’ll leave our grandchildren’s children may be an outstanding bill to pay for spiraling public employee retirement benefits. Why not nip this in the bud right now? Give the workers the money they have earned to date and convert these state-directed defined benefit plans into employee-directed defined contribution plans? This both gives the workers control over (and responsibility for) their own future and, since we’ve converting everything into small piles of money, makes it harder for ne’er-do-wells since no large pile of money will exist to entice them.