Steve Forbes Interview: Olivia Mitchell, Pension And Retirement Expert ~ MAKE MONEY BLOG$

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Mitchell: Well, there are a number of states that are projected to exhaust their benefits by the year 2020. In other words, they won’t have enough assets even assuming a very high rate of investment return.

And Illinois is on the list, Hawaii’s on the list, there are several others. But the problem is that all of those assume this very optimistic discount rate. If you take a more pessimistic view which, of course, I do, it looks like a whole lot of states and many cities, Philadelphia included, will be in deep trouble.

Forbes: You had some numbers on unfunded liabilities per household. Not federal, but state or local. Philly was what, $17,000?

Mitchell: On that order.

Forbes: Chicago, you had $42,000?

Mitchell: Right. The absolute numbers are enormous. Now, pretty soon a resident of Chicago or Philadelphia might be asking him or herself, “Do I really want to live in this jurisdiction? It might make more sense to simply move across the river, or over the bridge, or across the street, so that I don’t have to bear the burden of this additional unfunded tax.”

The irony of this – and it’s something that people don’t understand – is that the taxpayers of Philadelphia today are being asked to pay for garbage collected 40 years ago, police services that were provided 20 years ago, teachers’ services for their parents and grandparents even. That’s the problem with this underfunding. You’re passing on the costs of today’s consumption to the future. And that raises a fundamental fairness question.

Public 401(k)s

Forbes: Politically, it’s inevitable. People just look at the next cycle and so it’s very easy to make a promise if somebody else is going to have to pay it in 20 years. How realistic is it to have, in effect, in the public sector what we had in the private sector? And that is, 401(k) equivalents. You put in the money; you eat what you kill, in effect.

Mitchell: Well, we have to think about how to handle the legacy costs from the past and how to handle the situation going forward. Some states, Michigan being one, Alaska being another, have already put in place a defined contribution 401(k)-type plan for new hires.

So that helps. But they are technically under the constitutions – unable to go back and renegotiate the deal for any retirees or any active workers who are currently in the positions. So that makes it very difficult to alleviate the underfunding problems for another 30 or 40 years.

Forbes: Is there no way that these funds can do what companies have done? And that is: “We fund what we promised you up to now, and then afterwards it’s a new system.” It’s not as if you’re saying, I’m taking away benefits promised in the past. You’re 45? Okay, up to 45 we do it. But after that, you’re on a new system.

Mitchell: As you correctly note, in corporate America, what you have vested and protected is accrued benefits based on past service and past salary. In many states and municipalities, they’ve negotiated this future promise as well. In many cases, it’s going to take going to court. It may take going to the State Supreme Courts. It may even take going to the U.S. Supreme Court to try to resolve this issue of how to handle contracts that cannot be paid.

Forbes: Interesting, as they say. So even if we have a repeat of the ’80s and ’90s, in terms of huge asset value increases, you’re in effect saying on the public side we’re hitting the wall. We can put it off a few years, but there’s no way we can paper it over.

Mitchell: It’s going to be very, very tight and very unpleasant, because the states and municipalities can’t collect the revenue. They’ve had a 30% to 40% decline in revenue from their tax base and there’s no obvious way that they’re going to make that up in the near term.

Social Security Tweaks

Forbes: So let’s go to the federal disaster: Social Security. Is that quite as bad for those who are on the system or about to go on the system? Are there tweaks that can be done – adjusting how you define cost of living increases?

Mitchell: Well, as you may know, I served on the President’s Commission a decade ago, when we still had a chance. We still had revenues coming in that exceeded the benefits that were being paid to my mother and many other people who were already retired. At that point, what we suggested was two things. One is changing the benefit formula so it didn’t rise as fast. No cut, just so it didn’t go up as fast.

Forbes: Does that mean tying it to wages?

Mitchell: Tying it to prices, instead of to wages.

Forbes: Right.

Mitchell: And that single change – which I still think we should do – would bring the system slowly back into compliance and solvency.

The other change we proposed was personal accounts, on an optional, voluntary basis. It’s not obvious to me we could ever get that through this round. But the big change, the thing that brings the system back into solvency, is actually a change in the benefit formula. I computed at the beginning of my work with the commission that if my two daughters had the same exact lifetime earnings as I did, they would get a benefit that would be 60% higher, in real terms, than mine. And that’s the nature of the benefit enhancement that is built into the current formula.

So what we have to do, I think, is change the formula. We need to probably alter the cost of living, but that’s not going to save the day.

Some folks have recommended raising the cap, so that more of your earnings would be subjected to the payroll tax. That’s going to be very expensive for people at the cap. But even that would just change the solvency date a couple of years; it’s not powerful. I think if we all worked longer, that would probably help as well. It would help the system, but it would also help us. Because research shows that continued work is much more likely to leave you a healthier, happier individual. Early retirement, by and large, is not good for us.

Retirement Is Bad For Your Health

Forbes: You’ve mentioned that the definition of retirement has to change. You may not be doing your old career, but you’re going to be doing something else, at least part time.

Mitchell: One of the things we’ve seen over time is a change in the self image that people have during their second or third 1/3 of life, if you will. We have a big study called the Health and Retirement Survey. We’ve been doing it from 1992, it goes out again every two years; we bring in new cohorts as they age and follow them. So we’ve compared the early Baby Boomers with their predecessors, 12 years before. And what we find is the early Boomers, and I’m in that group, think about continuing to work, working part time, starting a new career, starting a new company, volunteering – doing a much more active set of things than the previous generation had in mind.

The fact that we’re now in a continued recession and financial downturn, I think, will only extend that notion that people will have to continue working. Because their nest egg isn’t what they hoped it would be.

Forbes: Now, in terms of attitudes, are they across the board? Or are there certain cohorts, as you put it, that still think you just go out on the golf course?

source: forbes.com

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