Kansas pension debate based on false premise?

As Kansas has struggled to find a solution to the underfunded Kansas Public Employee Retirement System, or KPERS, a possibly false argument has been used against the desirability of moving to a defined contribution pension system.

The system that has been in place in Kansas is a defined benefit system. Employees are guaranteed a monthly payment based on factors such as length of employment, salary, etc. The problem is that over the years, the state has not allocated enough funding to pay for the promised benefits. Many wanted the state this year to end the defined benefit plan for new employees, and instead enroll them in a defined contribution plan. In these plans, employees and employers make contributions to an account in the name of the employee. Contributions and investment earnings provide a benefit upon retirement. These plans, known as 401(k) plans, are common in the private sector.

Critics of a move to a defined contribution plan, including the Wichita Eagle editorial board, warned that without new employees entering the defined benefit plan, it would fall farther behind in funding. (See KPERS problems must be confronted.)

These “transition costs” were seen by many to be a powerful argument against a transition to a defined contribution plan. Perhaps as a result, Kansas adopted a hybrid plan where employees are guaranteed a minimum investment return on their contributions. While the guaranteed return is lower than the return KPES had been assuming, it still binds the state to provide a level of payments that it — if past history is a guide — may not be willing to fund.

But new research shows that these transition costs — the main argument against moving to a defined contribution plan — are largely a myth, perpetuated by those who benefit from the status quo in public worker pensions plans. Andrew G. Biggs summarizes this research below, writing “Public-sector employees and the pension industrial complex are using deceptive and self-serving arguments despite having an obligation to provide the public with solid facts.”

Public-Sector Pensions: The Transition Costs Myth

Public-sector employees and the pension industrial complex are using deceptive and self-serving arguments despite having an obligation to provide the public with solid facts.
By Andrew G. Biggs

One essential difference between traditional defined-benefit (DB) pensions and newer 401(k)-style defined-contribution (DC) plans is that DC plans can’t generate unfunded liabilities. Under a DB plan, the employer promises employees a fixed retirement benefit regardless of how the plan’s investments fare. In a DC plan, by contrast, employers promise employees a fixed contribution, say, 5 percent of salary. Once that contribution is made, the employer’s obligation is fulfilled.

DB pensions for state and local government employees are underfunded by between $700 billion and $4 trillion, depending on whose accounting you use. Most economists believe the latter figure is more accurate. In response, elected officials around the country are considering shifting public employees to DC plans.

Public-sector employees — who enjoy their generous retirement benefits — and the pension industrial complex of plan managers, pension actuaries, and investment advisors don’t like DC plans. They’re pushing back with a novel argument: DB pensions’ massive unfunded liabilities create “transition costs” that make shifting to DC plans unfeasibly expensive. In other words, the more broke DB plans become, the more we have to stick with them.

But as University of Arkansas economist Bob Costrell shows in a new report for the Laura and John Arnold Foundation, that argument doesn’t hold water.

Continue reading at The American, the online magazine of the American Enterprise Institute.

1 Comment

  • Once again, the employee does contribute to the plan, unlike Wisconsin where the State pays it all. Under Gov. Graves, 3 full quarters of state contributions were not paid into the fund, as the talliers said it was so solvent that it wasnt neccessary. I thought it was a terrific idea to take the first years profit from the casino in Mulvane to shore up the KPERS. Over the years bad in state loans, I.E. Christopher Steel, have also diminished the account. Now they want to depend on the stock market to solidify the fund? Under Gov. Finney, investments were canned that werent “socially responsible” and profits in those companies flew away.

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