http://www.janegalt.net/blog/archives/005309.html
May 11, 2005
Regulating risk
There's a debate that we should be having in this country, about risk,
but aren't, because everyone's trading scare stories about Social
Security.
In a follow-up post, Matthew Yglesias argues with Alex Tabarrok about
whether the United Airlines bankruptcy, in which they have just shed
their pensions, means that Social Security is more obviously bad, or
more obviously good, than it was before. (Will Wilkinson chimes in
here). Defined benefit programmes are risky, Alex points out, because
when conditions change, they tend to become insolvent. That's why the
government needs to have one, argues Matthew; with corporate programmes
blowing up left and right, people need some safe harbor in their sea
of troubles. (That's one coherent metaphor, if you imagine the pension
system to be something like Pearl Harbor. Luckily, that's not very hard
to imagine.)
Who's right? Well, basically, there are three entities that can bear
retirement risk: a company, a person, or a government.
There are problems with all three. People are too small to be
actuarially sound; they can be wiped out by adverse events. Also, some
of them are incredibly stupid about money; others like to gamble.
The defined benefit corporate pension plan has been, for a long time,
the holy grail of liberals. It was lavish and safe. It is also dying.
Not that it was ever that prevalent in the first place, mind you;
liberals who lionize the Golden Days of the fifties and sixties seem to
believe that everyone worked for either IBM or GM, when in fact most
jobs, just like today, were with small businesses.
But the corporate pension was certainly *more* prevalent. Unfortunately,
time has revealed its cracks; companies aren't very good vehicles for
managing this sort of risk. Time is the biggest one; pensions require
companies to plan over time horizons that span 30 or 40 years. That was
fine in the cozy, protected, and highly regulated environment of the 50s
and 60s, but when the market changed, the pension promises couldn't.
This is what (among other things) is dragging down the major airlines; I
expect that within the next decade we will also see Ford and GM default
on their pension promises.
The government, which is an actuarially sound pool, seems like a natural
to take over insuring away this kind of risk. Unfortunately, government
has its own problems. For one, it is even more rigidly unable to cope
with changes in the pool than an old industrial firm coping with an
intransigent union. T his is saying a lot. But it is justified. Look at
Medicare, which everyone except the AARP agrees is a total financial
disaster which will destroy the fiscal health of the United States
unless something is done to control costs. Our politicians are well
aware of the problem, and so they feverishly worked to--tack on a
prescription drug benefit that will add trillions to the bill. At least
when companies have insufficient accrued assets to meet their accrued
liabilities, the government forces them to trim benefits or raise
contributions. Government programmes, on the other hand, have a tendency
not to self correct until the crisis is upon us--by which time the
nature of the fix has gone from painful to catastrophic. And taxation to
support government insurance programmes has a high deadweight loss.
What's the best solution, then? I'd say we're converging on it: a system
of minimal government insurance for those who have been unlucky, in
life or investments, combined with a regulated forced savings plan to
make sure that those who aren't unlucky aren't tempted to free-ride on
society, and incentives to employers to encourage additional savings
among employees. This won't make anyone ideologically happy. But it
seems like the least intrusive, most fair, most economically sound
possibility.
Update Something I meant to say, but somehow forgot to, is that people
have advantages, as well as disadvantages, the chief one being that they
are the best judges of their ability to work, their basic needs, and the
tradeoff between current and future consumption.
When someone has a pension, that person should retire at the earliest
year it will allow him to take a full benefit. On the other hand, when
a person has assets, they have to decide between consuming more leisure
now (by retiring) or consuming more goods later (by continuing working
and leaving their nest egg untouched). In the first scenario, there's
no tradeoff-you cannot maximise your later consumption by continuing
to work. Given that older people have skills and experience that are
generally valuable, it is in the best interest of society that they
continue contributing those skills to the labor pool for as long as
possible, rather than living off the work of others.
People are also better judges of what is the basic standard of living
they will be happy with than the government. (Though there's new
behavioral research showing that
