November 24, 2014

The Facts about Federal Pensions

Facing Facts Alert 4

FACING FACTS The Truth about Entitlements and the Budget A Fax Alert from The Concord Coalition FAX ALERT ( Number 4, July 10, 1995) THE FACTS ABOUT FEDERAL PENSIONS In its campaign to block cost-cutting reform of civil service and military pensions, the federal retiree lobby has made much of recent studies by the Congressional Research Service (CRS)* which purport to show that these pensions are neither overgenerous nor underfunded. THE FACTS ABOUT FEDERAL PENSIONS, a report released today by The Concord Coalition, reviews the evidence and concludes that CRS is wrong. Federal pensions are far more generous than typical private-sector pensions. Here are the facts: CRS says there is almost no difference between federal civil service and private-sector retirement ages. Fact: The average age at which private-sector workers begin to collect an employer pension is 62; the average age at which they begin to collect Social Security retirement benefits is 64. In 1993, the average age at which federal civil servants began to collect a pension was 58ufour to six years earlier. CRS says the average civil service retirement benefit is virtually the same as the average private benefit. Fact: In 1992, the average pension annuity based on private-sector employment was about $600 per month. The average pension annuity based on civil service employment was about $1,420 per monthu2.4 times larger. Even if we include Social Security in the comparison, federal pensioners still enjoy higher benefitsuroughly 1.6 times higher (in 1986). CRS says there's no reason to question the wisdom of a military pension system that encourages servicemen to retire with full benefits after just twenty years. Fact: There is a long-standing controversy over the appropriateness of the military pension system's early retirement ages, which now average 42 for enlisted men and 46 for officers. Many believe it is a costly and unnecessary waste of skills and training for the typical military pensioner to spend more years collecting benefits (an average of 35 years) than earning them (an average of 22 years). CRS says critics of automatic COLAs on federal pensions are misguided since this is a feature of federal pensions that private plans should emulate. Fact: The usual standard for judging the generosity of federal pay and benefits is "comparability" with the private sector. By this standard, the 100-percent-of-CPI COLAs paid to most federal pensioners are lavish indeed. Only a small fraction of private pensions receive any inflation adjustment, and virtually none receive annual CPI COLAs. CRS says it's wrong to be concerned about the unfunded liability of the federal pension system since the government can't go out of business and thus will never have to pay off the liability all at once. Fact: The significance of the unfunded liability of the civil service and military retirement systems has nothing to do with risk of bankruptcy. That liability, which officially totaled $1.1 trillion at the end of FY 1992, is a measure of the net gift we are asking from taxpayers in future years to cover benefit promises that have already accrued in past years. The liability is important precisely because the federal government is not expected to go out of business. To the extent that the government's pension promises are deemed unbreakable, they will have to be paid offujust like the publicly held national debt. The Bottom Line on Pension Generosity A simple way to compare the overall generosity of federal and private pensions is to look at what actuaries call "normal cost." Normal cost is the flat percentage of pay that someone would have to contribute, throughout an employee's work tenure, to cover the cost of his or her lifetime pension benefit; "employer cost" is the share of normal cost borne by the employer. The employer cost of a typical private-sector pension plan plus Social Security is 12.2 percent of payroll. According to OPM, the normal cost of civil service (CSRS) pensions was 28.3 percent of payroll in 1992. Netting out the employee contribution of 7.0 percent, that yields a total employer cost of 21.3 percent of payroll for the civil service retirement packageu1.75 times the cost of a typical private-sector retirement package. As for military pensions, DOD puts their normal cost at 36.4 percent of payroll. Add in 6.2 percent for Social Security (under which all military personnel are automatically covered) and you get a total employer cost for the military retirement package of 42.6 percent of payrollu3.5 times the equivalent private-sector figure. Misleading Arguments The case that federal pensions are overgenerous seems open and shutuand it is. So how do apologists for federal pensions get around the facts? Here are the most common arguments which are used to make these plans appear less generous than they areuor else to justify their greater cost to the extent it can't be ignored. Federal pension advocates avoid talking about normal costuthe most comprehensive measure of pension cost. Instead, they discuss replacement rates, that is, the share of preretirement earnings "replaced" by a pension. These may sometimes be the same for a civil service pension and a private pension plus Social Security. What the apologists fail to add is that replacement rates do not reflect the fact that federal pensions are calculated using a more generous definition of final salary ("HI-3" or highest three years of pay), or that federal retirees can begin collecting full benefits at earlier ages, or that federal pensions are fully indexed for inflation and so become a better deal over time. Another tactic is to limit the comparison to an elite among private-sector pensionersuto those retiring from medium and large firms, from Fortune 500 firms, or even from the "top-50" among the Fortune 500. It certainly never occurs to the apologists to compare the deal federal pensioners get with that of the roughly half of all private-sector workers who have no pension and so must save for retirement out of their own incomes. If pressed, the apologists may grant there once was a problem with overgenerous federal pensionsubut will then add that it was "fixed" back in the mid-1980s. The truth is that the reforms they refer to left the overall generosity of the total federal retirement package virtually unchanged even for newly hired employees, and in any case grandfathered everyone already working for the government. As far away as 2024, a majority of civil service benefits will be paid out under the "unreformed" (CSRS) system. Another fall-back position is to defend generous pensions as a just payoff for inadequate salaries. The problem with this argument is that it flies in the face of common-sense evidence. The average pay for all full-time-equivalent federal civilian employees is one-third higher than the average pay for all full-time-equivalent private-sector employees. In other words, we would have to assume that federal workers are one-third more productive simply to conclude they are not overpaid. A related argument is that generous pensions are justified by the unusual financial hardships faced by federal retirees. This claim has no shred of plausibility. In 1991, households receiving a military pension had an average total income of $52,248; those receiving a federal civil service pension had an average total income of $45,912. These figures are 114 and 88 percent higher than the average for all elderly households; 56 and 37 percent higher than the average for all households receiving retirement pensions; and, indeed, 38 and 21 percent higher than the average for all U.S. households. If all else fails, federal pension advocates abandon any pretense of an appeal to comparability and instead argue that government should be a "model employer." According to this argument, private employers generally offer a level of retirement compensation far beneath what would be in their employees' best interest. Therefore, government should set a good example in order to persuade the private-sector to follow suit. The apologists don't say why the optimal mix of compensation consistently eludes private-sector employers and employees in their negotiations. Nor do they acknowledge that more generous private-sector pensions would have to be paid for through a cut in take-home pay. The idea simply seems to be that it would be nice if everyone had the kind of pensions federal employees have. The irony is that today's "model employer" federal pensions, by increasing the cost of government, leave less income in the hands of private-sector workers to allocate to either current pay or future retirement planning. That irony will not escape taxpayers. As Congress deliberates changes in entitlements that will affect the benefits most Americans someday expect to receive, federal pensions must be on the table. It is fair. And it is a fiscal and political necessity. *See "Federal Employee Pensions and Private Employee Pensions" (CRS; October 24, 1994); and "Federal Civil Service Retirement: Is There a Financing or Funding Problem? (CRS; March 18, 1995.)

FACING FACTS AUTHORS: Neil Howe and Richard Jackson CONCORD COALITION EXECUTIVE DIRECTOR: Martha Phillips