Monday, February 07, 2005

Privatizing the Risk

People who are conservative in their financial planning value traditional pensions, because these "defined benefit" plans will guarantee to pay a fixed amount for however long you live. This contrasts with 401K and IRA-style retirement plans, which are "defined contribution" plans where you have more control over your own investments, but the amount you'll have at retirement (and whether that will be enough to last your lifetime) is uncertain. In the ideal situation, having a traditional pension provides a secure baseline over above which an IRA or 401K can allow more risk to be taken for the chance of greater reward. But lately, the conservative attraction to traditional pensions seem to have become anathema to conservative politics. Republicans lead by President Bush are seeking to change the nature of Social Security from a "defined benefit" plan to a "defined contribution" plan. And in California, Governor Schwarzenegger is proposing to do the same for California's two giant public employee pensions (CalPERS and CalSTRS). President Bush wants to get Americans' investment in Social Security, currently sitting in a government trust fund (when it's not raided for the general fund), into the stock market where he argues it can get a better return. He promises safeguards so that people can only make relatively "conservative" choices to avoid the risk of lower returns or losses. For Governor Schwarzenegger, on the other hand, where the California retirement plans are already invested in the stock market, the goal is to eliminate the cost and risk of the current system. He fears that the state could be financially harmed by continuing to assume the risk of the current pension obligations. He notes that the state had to put only $160 million into the system in 2000 (buoyed by "bubble" returns in the stock market), but had to contribute $2.6 billion this year (after being stung by big losses in Enron and Worldcom). But if the stock market (prudently invested in) is a good choice for all Americans, as President Bush suggests, then why is Governor Schwarzenegger trying to get the State of California out of the market? And if the risk of providing a defined benefit based on market investments is too great for the nation or a large state to assume, where there's more capacity to carry risk, then how does it serve individual citizens to have that risk foisted on them individually?

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