Coming Boomer pension cuts: what impact on economy?

Original Reporting | ByDiana Jean Schemo | Economy, Pensions

October 12, 2010 — Over the last two decades, pension cutbacks have left relatively few private sector workers with defined benefit pensions plans. Now, with health and pension funds for state and local government employees said to be facing massive funding shortfalls, many are describing the guaranteed retirement benefits paid to teachers, police officers, street cleaners, and other public workers as overly expensive and sclerotic. These pensions, the argument goes, are unrealistic — they are throwbacks to another era that must now be curbed.

As Andrew G. Biggs, the chief expert on pensions at the American Enterprise Institute, a conservative think tank, puts it, government workers are enjoying the good life off their neighbors’ backs, relying on their employers’ questionable accounting practices to downplay taxpayer liabilities. “There is no reason public-sector employees should receive retirement benefits that are either larger or more secure than those received by private-sector workers,” Biggs wrote in an April 2010 essay on retirement policy.

Consumer spending accounts for 70 percent of economic activity, according to government figures. By 2015, Boomers will account for 40 percent of that consumer spending.

One might imagine that policymakers would want to consider thoroughly the societal consequences before adopting (or failing to adopt) measures to effectively put a stake through the heart of the defined benefit plans that many public sector workers have depended upon for their retirement. One might likewise imagine that the impact of past and prospective reductions in the retirement benefits of private sector retirees would weigh heavily in any decisions about the future of pensions. In fact, however, an important question has been notably absent from the debate: With 78 million Baby Boomers heading into retirement over the next 20-plus years, how will cuts in guaranteed monthly pension benefits to both public and private sector workers — in addition to those that have already been implemented — affect the ability of future retirees to engage in economy-sustaining consumer spending?

At every stage of their lives, Boomers, the generation born between 1946 and 1964, have exerted a singular force on the economy. Cradled in the relative prosperity of the post-war years, they graduated from college in higher numbers and earned higher incomes than both their parents and their children. Boomers saved less and spent much, much more. By their sheer numbers and appetites, what Boomers do — how much cash they have in their pockets, and whether they save it or spend it — matters. Consumer spending accounts for 70 percent of economic activity, according to government figures. By 2015, Boomers will account for 40 percent of that consumer spending, according to a 2007 report by McKinsey Associates.

Over the next 20 years, the importance of this outsized generation to the nation’s overall economic health will only grow. By 2032, when the last Boomers reach retirement, the population over 65 will have nearly doubled, to 72 million people from 42 million today. In contrast, the 18- to 49-year-old population will grow during that same period by only six percent.

Over the last 25 years, the share of private sector workers covered by defined benefit plans has fallen by half (from 38 percent to 18 percent).

So why do calls to freeze or cut defined benefits for retirees never address, or even mention, the repercussions of these proposals on consumer spending?

That’s a fascinating question,” said Frederick Hess, Biggs’ colleague at the American Enterprise Institute, who also opposes defined benefit pensions for civil servants. “It just doesn’t come up so much.”

If there is one document that can be said to have galvanized public alarm over the state of public pensions, it would be an analysis issued by the Pew Center on the States last February. The study, whose findings were reported by almost every major media outlet and echoed by countless lawmakers and pundits, threw a spotlight on public sector pensions and health benefits for retirees, estimating that these obligations were under-funded by at least $1 trillion. It urged drastic and immediate action to put existing pensions on more solid footing, and to lower future taxpayer obligations by curbing benefits. In state houses across the land, lawmakers are heeding the call.

But another major analysis of the movement in pensions, alarming from a different perspective, drew virtually no notice. The November 2009 study, by researchers at the Social Security Administration and the Urban Institute, modeled the consequences over the next 22 years of eliminating many defined benefit pensions. The report projected what would happen if, over the ensuing five years, all defined benefit plans in the private sector were frozen, and a third of all state and local government plans were also frozen. It then asked: what would that mean for the income of Boomers when they reach the age of 67, between now and 2032?

Cutting pensions in Utah

Utah, one of 18 states to revamp its pension system since 2005, held a lively, often contentious, debate before moving to end its current defined benefit system for new workers earlier this year. It replaced it with a two-tiered system allowing new hires to choose either a defined contribution or a defined benefit plan. For the latter, the new rules limit the state’s contribution to 10 percent of an employee’s salary, allow retirement after 35 years’ service instead of 30, and lower the maximum benefit to 52 percent of an employee’s salary.

And yet, John Nixon, the state budget director, said he does not recall the impact of the changes on consumer spending coming up much in the debates over pension remedies. Nixon had neither heard of or nor seen a February 2009 report by the National Institute on Retirement Security, which uses Census and other government data in 2006 to assess the impact of state and local pension plans on the larger economy.

The study, entitled “Pensionomics,” found that every $1 Utah taxpayers spent in public pension benefits spurred $6.36 in economic activity in the state. State and local governments in Utah provided 37,186 retired workers benefits averaging $1,471 a month. These payments, the report found, triggered $1 billion in economic output, concentrated most heavily in retail sales and health care.

Nixon said that lawmakers in Utah, alarmed by a $6.5 billion fall in the pension fund’s assets in 2008, focused on the long-term liability to the state of its obligations to retirees, not on the repercussions of possible benefit cuts to the state or local economies — a discussion that usually focuses on a shorter time frame of 12 to 24 months.

As far as the impact on consumer spending, that’s a whole different dialogue,” Nixon said.

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