Public Pensions, Public Choice, and the War Against the Young

Almost every week brings new word of the crisis in public pensions. Yesterday the news was that New York City pensions are underfunded, make unrealistic assumptions about future investment returns, and are subject to political interference in their management. Consequently, public spending for necessary projects like infrastructure is crowded out and future generations will likely be stuck with a big bill.

Public pensions may provide the best illustration of the truth of a branch of economics known as public choice. Public choice understands that politicians are no more public-spirited than other individuals, but are simply maximizers subject to different constraints. As a result, they tend to provide benefits to concentrated groups, like public sector unions, that can deliver blocs of votes and campaign contributions at the expense of diffuse groups, like taxpayers. And as politicians themselves recognize, diffuse groups also tend to be rationally ignorant of public policy. Because any individual’s chance of actually changing the results of an election is less than being hit by lightening on the way to the polls it is simply not rational to invest much in learning about politics. It is far better to use one’s time to learn about opportunities for profit or for fun.

Given the realities of public choice, it is hardly surprising that public employees tend to receive better compensation than private employees when the compensation is corrected for skills and intelligence. But public choice also predicts that the nature of that compensation will be skewed toward benefits, particularly pensions, rather than salary. First, benefits are less transparent and easy to understand than salaries, thus confusing even the more attentive citizens. Second, most pensions will be paid out when the politicians responsible for granting them are themselves retired and beyond the reach of voters who are left holding the bag. This is one reason that public pension schemes are important part of big government’s war on the young. Not only are young the bag holders, but they are even less likely than the old to protect their interests through politics because they are distracted by more opportunities for fun.

It is also not surprising that the leaders of the public employees unions want to use political criteria for choosing managers. For instance, in New York City the teachers’ union does want any investment managers who have been favorable to charter schools. Leaders care as much about politics as about investment results. The taxpayers, not the unions, are on the hook for shortfalls in defined benefit plans. Moreover, union members have an agency problem with their leaders. The leaders enjoy the political payoff today from picking compliant mangers, but the union members are the ones who must deal with the increased risk of bankruptcy down the road.

One partial solution to the public choice problem is clear: eliminate defined benefit pensions for public employees and offer them defined contribution plans instead. Under these plans, the equivalent of 401(K) plans in the private sector, employees will be accountable for their own retirement savings, and their unions, in league with politicians, cannot play games at the expense of taxpayers and future generations.But the bankruptcies of Detroit and a few California cities are starting to make some citizens take notice of the danger ahead. Political entrepreneurs on the right should not let this crisis go to waste.

Reader Discussion

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on August 05, 2014 at 09:27:16 am

What's with McGinnis? Must he be perpetually reasonable?

He starts in with all this "public choice" talk, but that's generally just a segue to the conclusion that government agents are all the spawns of Satan. I'm waiting for the punch line, and when it arrives it's "Given the peculiar dynamics of public employment, we'd be better off with pensions plans that are less subject to manipulation by any forces -- plans such as 401(k)s." YEAH! Take THAT, you spawns of Satan!

Of course, it's obvious that McGinnis is making the argument merely because he's in the pocket of the financial industry, and wants to generate more fees for all those fat cat ... aw hell, I can't even generate a half-assed rebuttal.

I've argued that we need to subject public pensions to ERISA laws, but 401(k)s seem even easier.

(For what it's worth, I suspect plenty of private defined-benefits obligations that accrued prior to ERISA in 1979 -- in the airline industries, say --- have all the same problems as public ones. The day will come when they will need to call on the resources of the taxpayer-funded Pension Benefit Guarantee Corp., and the assets won't be sufficient to cover the liabilities.)

I worry about McGinnis's future as an AM radio talk show host. He just doesn't seem to have what it takes.

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on August 05, 2014 at 10:39:17 am

The various disasters of "pensions" in the areas of "public services" are symptoms, very similar to "smokers hack." As that "hacking" becomes more severe, the more likely the indication of developing cancer. The hack is not the cause of the cancer.

On this issue, as is the case of many of those arising in the study of Public Choice Theory, we find ourselves nibbling around the edges, looking for treatments instead of prevention.

The prevention of this particular form of social cancer, which manifests itself by fiscal symptoms, is to be found in locating its source which is "public" employment.

In almost all the cases, there is "too much" **public** employment. That is not limited to there being "too many" employees for any public service (which often seems to be the case), but rather there are too many services staffed by "public" employees, rather than provided through normal (and probably more efficient) commercial channels.

While it would be very worthwhile in practically all cases to re-examine the structures of public pensions, it would be even more fruitful to examine why there are so many "public" employees and whether or not the required functions for the particular public services are best provided through that manner of employment.

There remain of course the issues of the necessity (or values) of specific "services." But that is altogether a different issue from the manner in which they are to be provided and the nature of the forms of employment necessary (or best) for their provision.

Of course, other problems, such as corruption, bribery and embezzlement will exist if other forms of providing public services are established to replace public employment. But those problems tend to surface and engender public involvement and concern rather quickly, probably due to the competition for the opportunities sought by others to displace entrenched incumbent interests.

Because some public services, such as those of public safety, may remain outside the practicalities of other means of their provision, there will be continuing need to treat adverse symptoms from those forms of public employment. But the real need is for prevention.

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R Richard Schweitzer
on August 05, 2014 at 18:19:33 pm

Maybe he can make the switch to the FM dial - less clutter, better sound quality and a more refined audience.

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Image of gabe
on August 06, 2014 at 10:16:39 am

Some recent stories have been done on the efficacious use of time by civil servants{?} They are making marked contributions to the porn industry, doing on their own what Mother Government will not do statutorily . This is initiative unremarked by the carping critics of government and shows beyond doubt the contributions made to enterprise by our chronically put upon public employees.

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john trainor
on August 06, 2014 at 10:33:13 am
Image of nobody.really
on September 22, 2014 at 05:13:50 am

I read this piece of writing fully about the difference of most up-to-date and
earlier technologies, it's amazing article.

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Law & Liberty welcomes civil and lively discussion of its articles. Abusive comments will not be tolerated. We reserve the right to delete comments - or ban users - without notification or explanation.