Chad Aldeman's blog

  • The Failures of the 401(k)

    September 12, 2013
    Chad Aldeman

    The Wall Street Journal featured a very good article this weekend on how poorly the 401k is functioning as the primary retirement savings account for millions of Americans. Launched in the 1980s to allow management-level employees to put away more money for their retirements, companies embraced 401ks as alternatives to costly defined benefit pension plans. The first group of workers relying solely on 401ks for their retirement are just now approaching retirement age, and the numbers do not look good:

    Consider households headed by people aged 60 to 62, nearing retirement, with a 401(k)-type account at their jobs.

    Such households had a median income of $87,700 in 2009, according to data from the Center for Retirement Research at Boston College, which derived this and other numbers by updating Fed survey data, at The Journal’s request. The 85% needed for retirement would be $74,545 a year.

    Experts estimate Social Security will provide as much as 40% of pre-retirement income, or $35,080 a year for that median family. That leaves $39,465 needed from other sources. Most 401(k) accounts don’t come close to making up that gap.

    The median 401(k) plan held $149,400, including plans from previous jobs, according to the Center for Retirement Research. To figure the annual income from that, analysts typically look at what the family would get from a fixed annuity.

    That $149,400 would generate just $9,073 a year for a couple, according to New York Life Insurance Co., the leading provider of such annuities— less than one-quarter of the $39,465 needed.

    Just 8% of households approaching retirement have the $636,673 or more in their 401(k)s that would be needed to generate $39,465 a year.

    In other words, the vast majority of workers are going to be working more years, trying to find part-time jobs, and relying more heavily on their Social Security benefits. This is important context for the debate over public-worker retirement benefits, and it should be a cautionary tale to anyone who thinks 401k-style investment plans are the solution to our country’s impending retirement crisis.

    This blog entry first appeared on The Quick and the Ed.

    Alternative Models
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  • Baltimore To Buy Cheaper Teachers

    September 12, 2013
    Chad Aldeman

    Baltimore announced plans over the weekend to offer buyout incentives to teachers with more than 10 years of experience. Buyout plans–where states or districts offer up-front money to encourage experienced employees to retire–are tempting budgetary solutions, but they’re not viable long-term human capital strategies.

    Using the Baltimore proposal as an example, they plan to give 350-750 experienced teachers 75 percent of their annual salary, spread out over five years, if they announce plans to leave the district by April 15. Because it’s open to anyone with more than 10 years experience, some of these teachers will be eligible for retirement benefits immediately, but some won’t. Many will be eligible for health care benefits as well.

    Running the numbers from the proposal, Baltimore calculates they’re going to be saving about $14,000 per teacher ($5 million in savings if 350 teachers participate or $10 million if 750 sign up), but these numbers do not include some hidden costs. To begin with, the move will shift costs from the district’s salary rolls to the state’s retirement system, which will eventually trickle back down to Baltimore. With employees retiring earlier than they planned to, this means the state will be paying out an additional year of benefits to those who are eligible.

    The savings also include budgeting for new hires to fill the vacated positions. So Baltimore will be replacing one experienced teacher’s salary and benefits with a new teacher’s salary and benefits plus the cost of the retired teacher’s pension and health care. It also costs money to hire, train, and retain new employees.

    None of this gets to the fact that experienced teachers are, on average, more effective teachers than the unexperienced ones Baltimore plans to replace them with. Nor does this measure target individual teachers who are more or less effective in the classroom: The only basis will be years of experience, with only a slight nod to the area they teach (teachers from the same subject area will be ranked by seniority). Essentially, with this plan Baltimore will be buying a less expensive teacher workforce. The losses to students are incidental. 

    This blog entry first appeared on The Quick and the Ed.

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  • What Not To Do On Teacher Pensions

    September 12, 2013
    Chad Aldeman

    New York City Mayor Michael Bloomberg has proposed new pension rules that would require workers to work at least 10 years, double the current requirement, to qualify for a pension. This is a really short-sighted idea for someone who professes to care about the quality of government workers, including the city’s 75,000 teachers. Raising the vestment age would save the city money in the short-term, but it would mean government workers would essentially not have a retirement plan until they reached 10 years of service. That would hurt recruitment and retention efforts, and it would also create strong push and pull incentives to stay on the job, regardless of burnout or a desire to pursue a new career, until they reach that 10-year milestone. For better ideas on revamping pensions, see here. 

    This blog entry first appeared on The Quick and the Ed.

    Mobility and Portability
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  • New Jersey Starved the Pension Beast

    September 12, 2013
    Chad Aldeman

    New Jersey Governor Chris Christie has been in the news a lot lately for his handling of the Garden State’s budget crisis around government-worker benefits. The New York Times did a piece earlier this week on a confrontation between Christie and teacher Marie Corfield around cuts to education funding, and 60 Minutes featured Christie in a wide-ranging piece on the state of state budgets. Neither of these stories has fully gotten to the heart of why the state now has a $20 billion liability for teacher pensions, and neither of them mentions the fact that only eight years ago the state had a teacher pension fund surplus.

    So what happened? A stock market crash certainly hurt, but the state has made its own problems along the way. Through a combination of low contribution rates and benefit enhancements, New Jersey starved the pension beast.

    Traditionally, Starve the Beast has been employed by fiscal conservatives to force budget deficits, which in turn lead to demands for reductions in the size of government. The argument goes that if the government spends more than it takes in, it should stop spending. As the chart below shows, this tactic has certainly been employed in New Jersey’s Teachers’ Pension and Annuity Fund. The blue line represents what the state’s actuaries have told the legislature it needs to invest in order to cover its future teacher pension obligations. The red line represents what it actually put in. In only one year of the last 13 did the state meet its actuarial obligation, and it only met it that year, 1997, because the state issued pension obligation bonds to help retire previous underfunding debts. In two years, 2001 and 2002, the state actuary decided the fund required no contributions, and the state gladly complied. In the other ten years, the state has failed to invest enough to cover its teacher pension obligations. Collectively, the difference between what New Jersey should have invested and what it actually put in–the difference between the blue and the red lines–is $5.2 billion.

    Funding
    Pension Politics
    Retirement Insecurity
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  • Pension Hysteria

    September 12, 2013
    Chad Aldeman

    Ezra Klein has a good post laying out some of the issues around public-sector workers and their retirement benefits, but I want to amplify two of his points. The first is around some of the overblown rhetoric going around right now (epitomized by this David Brooks column that was Klein’s inspiration in the first place) suggesting that public-sector defined benefit pension plans are causing massive holes in state budgets. In our report on teacher pensions, we write:

    A historical context is also useful. While the current funding ratios are less than ideal, they are not catastrophic. The most recent figures from the Public Fund Survey, a compilation of 101 state and municipal retirement plans, show that the aggregate funding ratio for these plans reached a high of 102 in 2001 at the end of the Internet-led bull market.Through a combination of poor investment returns and benefit enhancements, the ratio had fallen to 85 by July 2008, about where it was in 1994.

    In other words, after the longest bull market in history followed by one of the worst decades for investment returns on record, we’re in roughly the same position we started in.  That doesn’t mean the financial problems with teacher pension plans are insignificant–and the political incentives to raise benefits during boom times skews things here–but it is useful to view them in an historical context (I might argue some of the non-financial problems are actually more important).

    The second point worthy of amplification is when Klein writes:

    And while states are facing serious pension problems because they still offer defined-benefit pensions, we’re also going to see the retirement of millions of private-sector workers who don’t have defined-benefit pensions, and either haven’t contributed enough to their 401(k)s or saw their wealth wiped out in the recent turmoil. We’re facing a pension crisis in the public sector, but we’re also looking at a retirement crisis in the private sector.

    This is spot-on. As we get closer to the mass retirements of workers who’ve never had a defined benefit pension plan, something that will be upon us in the coming decades, we really have no idea what to expect. Preliminary research suggests it’ll be downright ugly:

    Alternative Models
    Funding
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