For governors with their sights on the White House, public-employee pensions are a kind of warm-up challenge for the Social Security and Medicare solvency problems they would face as president. I recently criticized New Jersey governor Chris Christie’s weak handling of his state’s pension crisis: “Would President Christie tackle fiscal challenges more effectively than Governor Christie? So far, there’s not much reason to think so.”
Maybe I’ll have to eat my words. Christie has since endorsed an ambitious pension reform proposed by a commission he created last fall. The commission recommends closing the current defined-benefit (DB) pension to all new accruals. Current workers and retirees will receive all the payments they have earned, but current workers will no longer bank additional benefits through the existing DB plan. Instead, they will be enrolled in a new “cash balance” (CB) plan.
A CB plan is basically a DB pension with some 401k-style attributes. Employers and employees still contribute to a single, professionally-managed fund, and workers are guaranteed a minimum return. However, instead of receiving their benefits as a fixed payment calculated at retirement, workers are designated personal accounts in which they can see their benefits grow. As with a 401k, the money in the account is generally the workers’ to keep if they change jobs. There can be no gaming of benefit formulas with a CB plan, and workers do not feel pulled in or pushed out because of age thresholds. Furthermore, the commission seems to be floating a minimum guaranteed return of just 3 percent per year, which would be much less costly than the current system.
A CB plan still retains some of the fundamental problems with traditional DB plans, however. Since the personal accounts exist only notionally — there is really just one big pension fund from which all the money is drawn — administrators can manipulate the accounting much as they do now. For example, the state may contribute less to the pension fund than what is reflected in the personal accounts, hoping to make up the difference with high investment returns before the bill comes due.
It’s those kind of shenanigans that lead me to prefer a 401k-style defined-contribution plan, plus Social Security, for public-sector workers. It’s the only way for retirement costs to be fully transparent. Nevertheless, the New Jersey commission’s plan is a useful and encouraging reform. Can Christie convince the legislature to go along?