The Growing Threat of a PBGC Bailout

Everyone hates a bailout. Or at least that’s what everyone says, until circumstances force some business leaders to seek them and politicians to grant them — all in the name of saving the free market, of course, by undermining it just this one time. Now the latest bailout threat involves not a too-big-to-fail private company, but a federal agency set up to support a favorite union institution: defined benefit pensions.

The Pension Benefit Guaranty Corporation (PBGC), the federal agency that insures private sector defined benefit pensions, is facing an enormous deficit that threatens to render it inoperable, as it would not be able to take over any more cancelled pension plans. The PBGC is supposed to be financed through premiums paid by insured companies, but that’s never stopped politicians from throwing money at their supporters’ priorities — in this case unions.

At The American, AEI’s Alex Pollock sounds the alarm:

As the PBGC’s annual report says, the law requires that the PBGC “be self-financing.” So far, the PBGC has “self-financed” itself into a $26 billion hole.

The report further notes that the act “provides that the U.S. government is not liable for any obligation or liability incurred by PBGC.” Surely nobody believes that one. It is an exact analogy to Fannie Mae’s statement, one month before it failed in 2008, that “the U.S. government does not guarantee, directly or indirectly, our securities or other obligations.” The government has since shipped $116 billion of the taxpayers’ money to Fannie Mae. But of course, the government did not guarantee Fannie, directly or indirectly!

Despite the PBGC’s and Fannie’s statements, all market participants and politicians know that the Treasury will always bail out such government-sponsored adventures in financial risk-taking.

The risk-taking in this instance is continuing with defined benefit pensions longer than would be tenable absent the huge government subsidy the PBGC provides. I explained how this works in Forbes recently:

Many of the large firms that have unloaded their pensions onto the PGBC—airlines, steelmakers, and automakers—once operated in an environment of little competition. During organized labor’s apogee, in the years following World War II, U.S. automakers and steelmakers dominated the market, as Europe and Japan worked to rebuild their industrial infrastructure. The Big Three Detroit automakers all had near-identical agreements with the United Auto Workers. And strict federal regulations determined airline routes and fares into the 1970s.

Today, defined benefit pensions rarely exist outside of government agencies. In the private sector, they have managed to survive in some large unionized industries—for now. This is in part the byproduct of unions’ aggressive efforts to preserve generous pensions. Another key factor is the PBGC, which has allowed some large firms to delay restructuring their employee retirement plans by allowing them to offload their pensions onto it.

The PBGC is funded through premiums paid by insured companies. But these premiums are set by Congress, in a highly politicized process, with insured companies lobbying to keep premiums low.

Unions also have an incentive to lobby for lower premiums. The more cash their employers have, the more money they can spend on 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.

Artificially low premiums inevitably lead to deficits. Indeed, the PBGC’s current deficit stands at $26 billion. Raising premiums is long overdue. But how high should they go? A 2005 Congressional Budget Office report concluded that, “raising rates so that … 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.”

An attempted PBGC bailout for multiemployer pensions failed in the last Congress, but we should expect union-friendly politicians to try again, and throw some cash at single employer pensions as well.

A true long-term solution to the PBGC’s woes is to make businesses less reliant on it. That would require allowing premiums to reflect actual risk would remove the PBGC’s implicit subsidy for defined benefit pensions.

For more on the PBGC, see here, here, and here.