Bailout Feared if Airlines Shed Their Pensions
By Mary Williams Walsh
New York Times
Sunday 01 August 2004
In an echo of the savings and loan industry collapse of the 1980's, the
federal agency that insures company pensions is facing a possible cascade of
bankruptcies and pension defaults in the airline industry that some experts
fear could lead to another multibillion-dollar taxpayer bailout.
"The similarities are incredible," said George J. Benston, a finance
professor at Emory University in Atlanta who has written extensively on the
regulatory failures that led to the costly savings and loan bailout.
Deposits in savings institutions are, like pensions, guaranteed by a
federal insurance program. The savings industry first sickened because
changes in market conditions made the traditional way savings and loans
operated unprofitable, but government delays and policy missteps then made
the situation much worse. In the end taxpayers bailed out the industry - at
a cost, according to various estimates, of $150 billion to $200 billion.
Now experts say they see similar forces gathering in the pension sector,
with United Airlines perhaps the first to go down the path. Operating in
bankruptcy, United is striving to attract the lenders and investors it needs
to survive. It said last month that it would no longer contribute to its
pension plans; United also seems intent on shedding some or all of its $13
billion in pension obligations as the only way to succeed in emerging from
bankruptcy proceedings.
If United manages to cut itself loose from the costly burden of its
pension plans, it might force others determined to keep their costs
similarly under control to emulate its move. "Rivals may feel they are at a
competitive disadvantage and follow suit, raising the specter of a domino
effect in the industry," said Bradley D. Belt, the executive director of the
government's Pension Benefit Guaranty Corporation, which insures pensions.
If every airline with a traditional pension plan were ultimately to default,
the government would be on the hook for an estimated $31 billion. Its
insurance coverage is limited, so some employees would have their benefits
reduced.
"The pension insurance program is there to protect workers' benefits,"
said Mr. Belt, who took over the agency in April. "It shouldn't be used as a
piggy bank to help companies restructure."
Already, some airline employees are taking steps to protect themselves
against future pension losses. Each month, for example, about 30 pilots
normally retire from Delta Air Lines. But in June, almost 300 did.
Andrew Dean, one of the new retirees, said he and his colleagues watched
in dismay as the financial debacle unfolded at United. He said that he and
many of his fellow pilots decided they had better grab their pensions right
away while the money was still there.
"These are very scary times right now for someone in my position," said
Mr. Dean, who at 58 walked away from his job just as he was reaching the
peak earning period of his career. His pension was also reduced because he
retired early.
But his decision now looks prescient. On Friday, Delta asked its pilots
for a 35 percent pay cut and proposed a smaller pension plan.
Foremost on the minds of the departing pilots, Mr. Dean said, were
arcane pension rules that can offer advantages to workers who quit before a
pension plan fails. At Delta, for example, as long as the pension plan stays
afloat, pilots are allowed to take half of their benefit in a single check
when they retire. But if the plan fails, the pilots lose their chance to
take a big payout.
"What I've managed to do is secure half of my retirement," Mr. Dean
said. He may still lose the rest if the government takes over the program
and limits future payouts. "I really lose sleep over that," he said.
The Pension Benefit Guaranty Corporation is already hobbled by debt,
having picked up the pieces of more than 3,200 failed pension plans in its
30-year life. The scale of the failures has risen sharply in the last three
years, but the agency has few tools at its disposal to prevent the situation
from becoming worse.
Now it faces a possible $5 billion default by United which would be a
record and the possibility of more big airline defaults after that.
"The agency can't take a lot of $5 billion hits, multiple times per
year, year after year, and survive," said Steven A. Kandarian, the pension
agency's immediate past director. "Eventually, you'll run out of money."
It is impossible to predict the exact size of any pension bailout,
although economic projections by the agency suggest that in the worst case,
a bailout within the next decade involving failures beyond the airlines
could cost taxpayers up to $110 billion.
But because pension obligations, unlike bank deposits, do not have to be
paid off all at once, it is difficult to raise alarms about the threat.
"The real blowup doesn't happen right away; it happens over time," Mr.
Kandarian said. "You've got to address it now, but it doesn't look like a
crisis now. The crisis is always over the next hill."
The risk is that the longer the problems are avoided, the worse they can
get. "With the S.&L.'s, what was a relatively small problem in the early
1980's became over a $100 billion problem in the late 1980's," said Mr.
Kandarian, who fears the same thing will happen to the pension system.
United, the nation's second-largest carrier behind American, is one of
the worst off of the airlines. The entire industry has been coping with high
fuel prices and flagging demand, particularly since the 9/11 terrorist
attacks.
But United and the other five remaining major carriers that grew up in a
world of regulated routes and ticket prices American, Continental, Delta,
Northwest and US Airways face even more fundamental problems. In recent
years, all of them have struggled to compete with the new, low-cost carriers
like Southwest, JetBlue and AirTran that have much lower overhead.
United has been operating in bankruptcy proceedings since December 2002.
Already, it has negotiated significant concessions from its workers,
suppliers, landlords and others. United says it is still analyzing what to
do with its pension plans.
In June, the Air Transportation Stabilization Board turned down United's
request for federal loan guarantees, saying it believed the airline could
get financing without government help. So far, United has not been able to.
Until it does, it cannot emerge from bankruptcy proceedings.
It is an open secret that prospective financiers are turned off by the
roughly $13 billion of pension debt United is carrying on its books the one
big block of debt that the airline has left untouched so far. That figure is
the value, in today's dollars, of the pensions that United's pilots, flight
attendants and other workers and retirees have earned. Once a pension has
been earned, it cannot legally be taken away.
By law, this debt to the work force is to be secured by the money United
sets aside in its four big pension funds. But as things have turned out,
United had only about $7 billion in the pension funds as of last December.
The remaining $6 billion is unsecured debt. Pension law and bankruptcy
law differ on the implications of this: pension law says the $13 billion
owed to the workers cannot be taken away, while bankruptcy law says the
workers are unsecured creditors with respect to the $6 billion shortfall.
And unsecured creditors usually lose in a bankruptcy case.
If, in the coming months, United persuades its bankruptcy judge that it
cannot survive without canceling its pension debts, then the airline will be
allowed to unload some or all of its $13 billion obligation, helping it line
up the financing it needs to emerge from bankruptcy proceedings.
The pension debt, and the $7 billion United has already set aside in
pension assets, will go to the federal pension agency, which will pay the
airline's retirees their benefits, but only up to certain limits.
Hard as that would be on the employees of United, it is also an alarming
prospect to the employees of the other major carriers.
"Things start to set a precedent," Mr. Dean, the retired Delta pilot,
said. "If a bankruptcy court allows a company to terminate its pensions,
then that becomes a very tempting business tool."
That is what happened in the steel industry. LTV Steel's pension fund
fell to the government in March 2002, and its unencumbered assets steel
mills, coke and lime plants, railroads and other properties were snapped up
at once. That put pressure on other tottering steel companies to shed their
pension plans as well.
Seven more failing steel plans went to the government before the year
was out, including the current record-holder among pension defaults, the
Bethlehem Steel plan, which cost the pension agency $3.9 billion to take
over.
It wasn't supposed to be this way. In 1974, Congress responded to an
ugly string of pension failures in the auto industry by passing landmark
legislation. From then on, any company that promised pensions to its workers
would be required to set aside enough money to pay them. Rules were written
to determine how much money was enough. To weave the retirement safety net
even more tightly, Congress also created the pension insurance program.
Those protections were hailed as "the greatest development in the life
of the American worker since Social Security" by Senator Jacob K. Javits,
the New York Republican who died in 1986.
But for many workers, those protections no longer look so secure. "You
see that the whole thing could really be a house of cards that could come
crashing down," Mr. Dean said.
United's pension plan developed its multibillion-dollar shortfall, in
part, because pension law allows companies to fund their plans with the
assets that any prudent investor would select. Over time, that has meant a
shift away from the very conservative bonds that companies used to secure
pensions before the 1974 law, in favor of more aggressive investments.
Stocks have become the investment of choice, but today many pension
funds seek to bolster their returns even more by adding relatively small
amounts of hedge funds, junk bonds and other risky assets. This investment
approach can produce attractive returns over time, but can be very volatile
and much more dangerous if companies are forced to pay off some of their
pension obligations in a down market.
As the pension system has weakened, some specialists have called for
measures that would discourage the riskiest investments. As director of the
pension agency, Mr. Kandarian proposed charging higher insurance premiums to
companies that invested their pension funds in riskier assets, particularly
companies that were in bad shape themselves. No one paid attention.
"I was na�ve," Mr. Kandarian said.
Along with Mr. Kandarian, current officials at the pension agency and at
the Treasury Department have also been calling for a tightening of the rules
requiring pensions to set aside enough money to meet their obligations. In
April, Congress loosened the rules instead. The biggest flexibility was
given to the most troubled industries, making their pension funds look
healthier.
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