Ma Bell Is Long Gone, but Her Pension Costs Remain

AT&T is asking the Communications Workers of America (CWA), which represents a large segment of its workforce, for benefit concessions, as it tries to rein in costs, reports The Wall Street Journal. “AT&T declined to comment on specific concessions it is seeking in the talks that began last week,” says Journal reporter Anton Troianovski. “But union leaders said it sought deep cuts in health-care, pension and sick-day benefits.”

Indeed, it would be surprising — and remiss — for the company not to seek to curb pension costs. Moreover, it should consider providing its workforce — or at least new hires — with defined contribution plans, such as 401(k) accounts, which pay out according to what the account can pay. Defined benefit pensions, by contrast, have fixed payout obligations, which remain in place even in the face of severe pension fund shortfalls.

Why would any company agree to such a scheme? Quite simply, it was the least costly option in an environment of limited competition. In fact, it was in such an environment that the CWA first thrived. As the Journal‘s Troianovski notes, “The CWA signed its first contracts with AT&T, then the nation’s telephone monopoly, about 65 years ago.”

For Ma Bell, and other similarly dominant companies, it was less costly to accede to union demands than to endure a strike, because the additional costs could simply be passed on to consumers, who faced limited options. As Lily Tomlin said as Ernestine the phone operator boasted, “We don’t care. We don’t have to. We’re the phone company.”

Ma Bell is long gone, and so are some oligopolies with high barriers to entry, most notably in steel, autos, and airlines. That has resulted in greater choice for consumers. The once-dominant companies would have to adapt or disappear. However, for nearly three decades, a federal program has incentivized them to delay making the decisions needed to bring labor costs — especially benefits — under control.

The Pension Benefit Guaranty Corporation (PBGC), the federal agency that insures private sector pensions, is funded through premiums paid by insured companies. However, the premiums are set by Congress. That has led to the setting of premiums becoming a highly politicized process, as insured companies have an incentive to lobby to keep premiums low.

Unions also have an incentive to lobby for lower premiums, because that leaves more money for current pay and benefits, while making defined benefit pensions more attractive for employers. For unions the latter is crucial, since a stable and secure retirement is a major selling point to attract members.

The problem is that artificially low premiums inevitably lead to deficits. The PBGC currently has a $26 billion shortfall, which threatens to balloon to $35 billion if American Airlines succeeds in shedding its pension obligations on the agency. To his credit, PBGC head Joshua Gotbaum is resisting American’s efforts, and has asked Congress for the flexibility to raise premiums.

Raising premiums is long overdue. A 2005 Congressional Budget Office report noted that, “raising rates so that, in market-value terms, the present value of expected future losses would equal the present value of premium income, would require both the fixed and variable portions of the annual premium to be increased by a factor of 6.5.”

So can defined benefit pensions thrive in a free, open, and competitive market? We’ll only know the answer to that if and when they are allowed to function without a huge insurance subsidy, but their history suggest their prospects aren’t promising. As I noted recently in Forbes:

 Today, defined benefit pensions are largely confined to government employers—and private sector unions. Interestingly, the major industries that have unloaded their pensions onto the PBGC—airlines, steelmakers, and automakers—once had something in common with government: They all once operated in an environment of very little competition. The implication is clear: Defined benefit pensions thrive in stasis. In a highly competitive economy, however, they are extremely risky.

Industrial unions were at their height in the years following World War II. Automakers and steelmakers faced very little foreign competition, as Europe and Japan struggled to rebuild their industrial infrastructure. And the Big Three Detroit automakers all operated under near-identical agreements with the United Auto Workers. For airlines, strict regulation under the Civil Aeronautics Board determined routes and fares, essentially cartelizing the market, into the late 1970s. It was easy to pass on added costs to customers in such an environment.

For more on pensions, see here.