Pension’s Hybrid Pension Plan – We Told You So

Stephen Herzenberg |

Actuarial studies released yesterday confirmed what Keystone Research Center said a month ago about the Pennsylvania hybrid pension plan that passed the Senate and is now being considered in the Pennsylvania House. The hybrid pension plan won’t save any money. It will actually increase taxpayer costs if courts rule unconstitutional savings from cutting current members’ benefits. But the plan will cut benefits deeply.

Pennsylvania taxpayers as well as teachers, nurses and other public servants are better off staying with the current pension plan as modified by the Act 120 of 2010, which already cut benefits over 20 percent and established a schedule for ramping up employer contributions to the required level.

Here are the key findings of the actuarial studies about the hybrid plan:

  • The hybrid plan increases the cost of benefits for new employees by nearly $5 billion on a cash flow basis and over $1 billion on a “present value” basis (dollars in hand today). The savings from cutting future workers’ guaranteed pension in half are more than offset by the costs of employer contributions to those workers individual savings accounts. (The costs and savings from the hybrid pension are summarized in Exhibit I of the report by Public Employee Retirement Commission (PERC) actuary, Milliman, in the “PERC Note” released yesterday.)
  • The pension savings under the hybrid plan come from cutting the benefits of current workers. (Benefits are cut by lowering the final salary of state employees for purposes of pension calculations and by making less generous the terms under which retirees can “cash out” their own contributions to their retirement.) If the courts reject these savings, you are left only with the increases in pension costs for new employees: that is, the hybrid plan increases pension costs.
  • The hybrid pension would cut benefits by an estimated 27 percent to 29 percent according to the PSERS actuary, Xerox (see Table 3 of Xerox report to PSERS). These benefit cuts result from the fact that the additional taxpayer contributions made to the retirement of new employees don’t deliver much in terms of retirement benefits. That’s because they go into inefficient 401(k)-type defined contribution savings accounts with higher costs and lower investment returns than traditional pooled pensions. More money for Wall Street financial firms; less money in Main Street pension checks.

The hybrid pension is still being sold on the grounds that it reduces “taxpayer risk” of unfunded pension liabilities. But many other public pensions have found good ways to mitigate taxpayer risk while retaining the advantages for taxpayers as well as retirees of efficient defined benefit pensions.

By deeply cutting benefits, including for college-educated teachers and state employees who make far less in average salary than comparable private workers, the hybrid pension will make future salary increases necessary to attract and retain good employees. This plus the fact that the plan puts more than half of pension contributions for new employees into inefficient retirement savings plans meant that the hybrid pension plan virtually guarantees higher taxpayer costs down the road.

While we are saying “we told you so” about the impact of the hybrid pension plan on pension costs and retirement benefits, our hope is that we won’t have to say “I told you so” again five or 10 years from now. That can be avoided by the Pennsylvania legislature decided that maybe the Hippocratic oath makes sense with respect to public sector retirement plans as well as medical care: first, do no harm – let the hybrid pension die.