Across the nation, state and local governments in dire financial straits face great difficulty in their efforts to bring their budgets under control. Pensions are one of the biggest drivers of deficits, and therein lies the problem. Many states treat pensions not as a form of compensation, but as a contractual obligation to the employee. As a result, states and cities that have tried to bring pension obligations under control have seen roadblock thrown up in court by government employee unions. As the Manhattan Institute's Steven Malanga explains:
In the private sector, pensions are governed by the federal Employee Retirement Income Security Act. Although a private employer may not cut benefits that a worker has already earned, ERISA allows a business to change the rate at which a worker accrues future benefits.
ERISA, however, doesn’t apply to government employee pensions. Instead, in the states, local laws and court decisions govern how public-worker retirement systems are treated, and in many cases the states depart, sometimes radically, from the standard set by the law.
In many states, that means that pension promises are treated as sacrosanct.
Many legal protections given to public-sector pensions arise from court decisions that treat laws governing public retirement systems as a contract between the state and a worker. That puts pensions under the jurisdiction of the contract clause of the U.S. Constitution, or under state contract law.
In California, a state teetering on the fiscal precipice due in large part to pension liabilities, San Jose Mayor Chuck Reed is leading an effort to amend the Golden State's constitution to give governments there greater flexibility to make changes to employee retirement benefits. Reed faces a tough fight -- Malanga describes his effort as "an uphill campaign" -- but he already deserves plaudits for bringing needed attention to this issue.
Sustainable, long-term pension reform will require states to abandon policies that set public employee compensation increases on autopilot. To that end, reformers should also turn their attention to collective bargaining and binding arbitration, both of which ratchet wages upward. As I explained in The American last year:
Unlike the private sector, collective bargaining in the public sector places government employee unions on both sides of the table, as the unions spend huge amounts of time and resources in electing their own bosses.
Once in office, union-friendly politicians naturally seek to keep their union supporters happy. To do so, these elected officials vote to give unionized government employees greater pay and benefits. For politicians eager to please their union supporters while avoiding taxpayer ire, pensions are the perfect tool, as they allow them to kick the can down the road in terms of costs. When the payments come due, they’ll be out of office, and it’ll be somebody else’s problem.
Many unions and local governments agree to submit to binding arbitration to avoid strikes. However, this can be even costlier than strikes themselves. An arbitrator will never award a settlement that is less than management’s final offer, so the union is guaranteed to win at least some of its demands, and will never come out worse than the status quo ante, thus creating an upward ratchet effect on wages.
In fact, the upward ratchet effect of collective bargaining and binding arbitration extends to all forms of compensation, including pensions. Repealing both -- or at the very least limiting the scope of collective bargaining -- should be a priority for reformers.
For more on public sector unions, see here.