Much of the underfunding stems from the double whammy of declining stock prices, which depleted plan assets, and plummeting interest rates, which pumped up funding requirements. But another issue is that sponsors might have assumed unrealistic rates of return. The Securities and Exchange Commission is investigating half a dozen large companies that may have used overly optimistic assumptions to reduce pension contributions (see “Death to Smoothing?“). “Using a 9 or 10 percent assumption is not credible, and using that as a way to say you’re fully funded is not credible,” says White. SAP America assumes an 8 percent rate of return on the investment of its cash-balance pension plan’s assets, he adds.
The widespread underfunding has come as an unpleasant surprise for many workers. For example, two years before it was shut down in 2003, the US Airways pilot pension plan reported that 94 percent of its liability was funded. After the plan was terminated, however, the PBGC found it was 33 percent funded on a termination basis, for a total shortfall of $2.5 billion. “It is no wonder US Airways pilots were shocked,” fumes Steven Kandarian, Belt’s predecessor at the PBGC.
Today, Belt seems especially annoyed about United’s approach to funding its pensions. From 2000 to 2002, “notwithstanding the fact that asset values were falling precipitously, notwithstanding the fact that interest rates were coming down so the value of liabilities was going up, they contributed zero dollars to the pension plan,” he notes. “And they also negotiated $800 million of new benefit increases” for the years 1997 through 2002. Those pension promises, offered largely in lieu of larger wage increases, were never fully funded. That United was able to contribute so little to its pension plans without breaking the law means there is a problem with the law, says Belt, who argues that legal funding targets are too low. (United officials declined to be interviewed for this story.)
Headed for a Bailout?
Even if a fair number of pension plans did shut down in one or two industries, the PBGC probably could manage. What Belt and others worry about is that a broader array of companies might use Chapter 11 as a way to dump their liabilities onto the agency’s books. The PBGC already has big exposures in the steel, industrial equipment, motor parts, and rubber and plastics industries. Should a wide meltdown occur, “taxpayers may be called upon by Congress to bail out the pension insurance fund, just as they did more than a decade ago when the savings-and-loan industry collapsed,” Belt told federal lawmakers last October.
The pension crunch is a much smaller problem than the thrift crisis, which cost taxpayers more than $124 billion. Still, there are “eerie similarities” between the two, says Belt. The two major likenesses are the presence of “moral hazard” — when having insurance encourages risky behavior — and foggy financial reporting. In the thrift crisis, the availability of deposit insurance came to be seen as a moral hazard for banks on the grounds that it encouraged them to make risky loans. Similarly, the presence of the PBGC enables companies low on cash to offer “generous new pension benefits” to workers and assure them they will be there, says Belt.