The Pension Disaster That Awaits

If Social Security fails, CFOs will have a serious problem on their hands, says former Fidelity fund manager and current Harvard professor Robert Pozen.

Option two says we are going to slow the rate of growth of benefits by moving from wage indexing to price indexing, which reduces [the traditional benefit] about 2 percent of payroll. Then it allows individuals to put up to $1,000 in their own account. Because of the higher return [possible], that will get them roughly toward the same scheduled benefit level.

Option three slows the rate of growth in benefits through longevity indexing. That means as people live longer, their benefits will be adjusted. And in particular, it means if people choose to retire early, they are going to take a hit. We’ve had an incredible trend in the United States — between 1970 and 1990, the number of people retiring early has zoomed, and it’s about 60 percent today. That’s very difficult for the system. [Longevity indexing] itself is worth about 1.2 percent of payroll. And in this model, because of higher returns from the personal accounts plus new revenues, expected benefits will exceed scheduled benefits.

Did you develop three plans mostly to make the findings politically palatable?

We wanted to show that there are different ways to produce reform. We also imposed on ourselves some very tough [investment] constraints. We were required by the chief actuary to use what most people would think of as a relatively modest return. We used a portfolio of 50 percent stocks and 50 percent bonds, with a 4.6 percent real return. In addition — and this relates to Enron — we [opted] not to allow anyone to put all their money in one stock. You can only put money in a diversified pool.

Still, critics will say that the benefits are not guaranteed the way they are now under Social Security.

There is a misconception that scheduled benefits are guaranteed. They are not. Congress can change them at any time. And while it’s impossible to eliminate all risk, what we are talking about is people investing over 30 or 40 years. I have run the numbers for every 20-, 30-, and 40-year period over the past 50 years, eliminating the very puffy years of 1997 through 1999. And in every period, the equity market did better than the Treasury bond rate. But we go further: we propose a Treasury bond pool, so that if people just want to get the Treasury rate, they can. And if they get the Treasury rate, they will be doing better than they would now under Social Security.

You were charged with coming up with plans that wouldn’t increase taxes or reduce benefits. Both those things ended up in the results. What happened?

I don’t think that’s quite correct. First of all, we were charged with not reducing benefits for people in retirement or near retirement. That’s why we did not address COLAs [cost-of-living adjustments]. We were not prohibited from slowing down the growth in benefits. Remember, every person will do as well, CPI adjusted, in 2050 as they do now. But they won’t grow their benefits as fast.

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