Legacy costs

By now, we all know that most nations face a nasty pension crisis in the not so distant future. For some corporations, like GM, that future is now. Yet, it is hard to find creative and serious policy debates on how to tackle this huge problem.

Sure, many people have put forward what can only be called the "Scrooge" alternative: longer working lives and/or lower benefits. These may (specially the former) have some merit, but they do seem rather unfair, notably to older workers.

In the case of firms facing bankruptcy, the solution (at least in the U.S.) has been fobbing off pension liabilities to the government's Pension Benefit Guarranty Corp., which takes over the pension plan (but has no claim on the sponsoring firm's assets). For many firms --take Delphi as a good example--the ability to ditch pension liabilities is very attractive. Unless the system is reformed, this trend threatens to snowball massively (the government already projects that the PBGC's deficit at over 100 billion dollars).

I want to make it clear that many firms have to go under and eliminate liabilities such as these to survive. After all, large pension deficits increase borrowing costs and restrict borrowing facilities, besides making labor relations very tense.

For this reason, I'm very pleased that Dick Berner of Morgan Stanley has put forward a serious proposal to deal with this problem. It basically involves having the PBGC fund the outstanding net pension liabilities in exchange for having the firm cover this cost (with interest) over a certain period of time. It would also give the PBGC priority over other creditors and force firms to fully fund new pension/retirement promises.

I like this idea, which (as noted by the author) has parallels in the S&L bailout and, to a degree, on the Brady-bond restructuring of Third World debt. While these plans involve upfront costs for society--no getting around that--they work quite well in the long-run.

However, I do believe it doesn't go far enough. For one, it doesn't address a very big issue: firms with large pension liabilities are often badly managed and also need to reduce current labor costs. This calls for greater involvement of workers in corporate governance, as Brad De Long has pointed out, perhaps through equity-for-concesions swaps. This sounds fairly obvious, but they don't seem to have worked well in the airline industry (I don't know the details too well).