Pension Crisis

["Henry C.K. Liu" <hliu@xxxxxxxxxxxxxx>]

Between corproate bankruptcies and equity market collapse, the pension
time time has a very short fuse. Every corporation I am familiar is now
underfunded in its pension obligations. GE recently faced a strike over
the issue. Even law firms and colleges are in trouble as their pension
investment lose up to 60% of their value. This is one problem that
cannot be fixed with reflation, as it is a fixed income arrangement.,
even though some are inflation indexed.

It will be a campaign issue for 2004.

Henry C.K. Liu


   New York Times January 25, 2003


   $8 Billion Surplus Withers at Agency Insuring Pensions

By MARY WILLIAMS WALSH

T he federal agency that insures the pensions of some 44 million
Americans has been pounded by a succession of big corporate bankruptcies
and has burned through its entire $8 billion surplus in one year.

The agency, the Pension Benefit Guaranty Corporation
<http://www.nytimes.com/redirect/marketwatch/redirect.ctx?MW=http://custom.marketwatch.com/custom/nyt-com/html-companyprofile.asp&symb=GRTYA>,
provides protection to retirees in case of a failure, much as the
Federal Deposit Insurance Corporation protects depositors when a bank
fails. Though it can continue to make its current payments, the agency
is expected to disclose a deficit of $1 billion to $2 billion at the end
of this month.

Its soundness is likely to deteriorate further in the coming months, as
more bankrupt companies find themselves unable to fulfill their promises
to tens of thousands of present and future retirees. US Airways, United
Airlines and Kmart
<http://www.nytimes.com/redirect/marketwatch/redirect.ctx?MW=http://custom.marketwatch.com/custom/nyt-com/html-companyprofile.asp&symb=KMRTQ>
are among the companies struggling to emerge from bankruptcy protection
under the weight of large underfunded pension plans.

An awareness of the pension agency's rapidly diminishing strength is
already fueling a debate in Washington about whether the guaranteed
retirement benefits of millions of Americans are at risk and, if so, who
should pay to make them airtight.

Businesses support the agency's operations by paying premiums for each
person covered by the insurance, and they are sure to resist any
increase. The decisions are difficult. Postpone the increase and the
pension system could be imperiled, but increase it too sharply and
companies might decide to stop offering pensions altogether.

"You can get this wrong in both directions," said Damon A. Silvers,
associate general counsel at the A.F.L.-C.I.O.

Among the remedies being discussed are charging all companies with
pension plans higher premiums, requiring them to fund their plans more
fully, making the companies with the shakiest plans pay the most and
changing the way the agency invests its money.

Traditional company pension plans became commonplace after World War II
and are estimated to be the second-largest source of income today for
elderly Americans, after Social Security. But employers offer them
voluntarily, and over the last decade many have been switching to 401(k)
plans, which are simpler and generally cheaper to administer because
employees set aside the money and decide how to invest it themselves.

For workers, traditional pensions are considered more reliable than
401(k) plans, because pensions provide a predetermined monthly check
from retirement to death and are guaranteed by the government.

The Pension Benefit Guaranty Corporation was created in 1974 to take
over insolvent pension plans and keep paying benefits when a company
could not. A retiree whose plan is taken over keeps getting monthly
checks, but the amount may be smaller, because the government limits the
amount it insures. The current maximum is about $3,600 a month for those
older than 65 at the time of the takeover, and less for those who are
younger. As of 2001, the agency had $22 billion in assets and was
responsible for paying the pensions of 624,000 current and future
retirees. It paid more than $1 billion in stipends that year.

The agency has weathered deficits in the past, its finances worsening
when stock prices have fallen or when very large corporations have
collapsed. In 1992, after it shouldered $1.4 billion in unfunded claims
from Pan American World Airways
<http://www.nytimes.com/redirect/marketwatch/redirect.ctx?MW=http://custom.marketwatch.com/custom/nyt-com/html-companyprofile.asp&symb=WLDA>
and Eastern Air Lines, there were warnings that the agency itself might
go broke, much as the Federal Savings and Loan Insurance Corporation had
done a few years earlier.

Steps were taken to strengthen the agency and make it harder for
companies to run their pension plans into the ground. Rising stock
prices further bolstered the agency in the latter half of the 1990's,
and the warnings of a disastrous S.& L.-style collapse died away.

Now, those warnings have returned, as the gap has soared between what
companies have promised to pay in pensions and the funds they have set
aside to do so. At the end of last year, the gap was estimated to be
$300 billion. During the agency's previous crisis, in 1993, the funding
gap peaked at $109 billion.

Stock prices are down again, and interest rates are unusually low.
Normally, stock prices and interest rates move in opposite directions.
When they both go down at the same time, it is particularly painful.

In pension accounting, the lower the interest rate, the greater the
future obligations. That is because of the difficulty of setting aside
enough money to cover future payments, which loom large if interest is
accruing at only a few percent a year, and has nothing to do with any
increase in the number of retirees or their benefits.

"This is really the first time the P.B.G.C. has been faced with this
confluence of events," said Mark A. Oline, a managing director of Fitch
Ratings. Mr. Oline monitors airlines, which make up a large part of the
pension agency's workload. The last time a three-year bear market
coincided with low interest rates was 1939 to 1941, he said, and the
agency did not exist then.

"The big question is, if all of a sudden these liabilities have become
so enormous, how is this situation addressed?" Mr. Oline said.

Although the Pension Benefit Guaranty Corporation is a government
agency, its work is financed entirely by companies, not general tax
revenues. Companies pay $19 per person covered each year, or more if a
pension fund is underfunded. The basic rate has not changed since 1991.

That means that if the agency's troubles worsen, businesses will be
asked to pay higher premiums, put more cash into their own pension plans
or both. The agency is also considering a new way of assessing premiums,
making the companies with the weakest pension funds pay the most.

Any of those changes would require Congressional action and would be
controversial. Already companies are struggling with their own pension
deficits, and are finding they must pay millions of dollars to keep
their plans compliant with the current rules.

"The well-funded employers don't want to pay a lot of money to bail out
the employers whose pension plans have fallen," said Judith F. Mazo,
director of research at the Segal Company, a benefits consulting firm,
and a member of the pension agency's advisory committee.

At the same time, Ms. Mazo said, the companies with the shakiest pension
plans will protest if their premiums go up, saying they obviously do not
have the cash. If they did, they would have put it into their pension
plans.

For now, most big companies with pension plans are taking the position
that the current troubles will pass on their own.

"There is no crisis whatsoever," said Janice M. Gregory, vice president
of the Erisa Industry Committee, a group that lobbies on behalf of the
largest corporations on pensions and other issues regarding employee
benefits.

As members of the Erisa Industry Committee see it, interest rates are
sure to rise again. Then the balance-sheet values of future liabilities
will shrink, and much of the pension agency's deficit will disappear.

In addition, Ms. Gregory said, businesses anticipate further relief
through an initiative by the Treasury Department to change the interest
rate that companies use for their pension calculations. In the past,
they used the 30-year Treasury bond as a benchmark, but the government
announced in early 2000 that it would stop issuing those bonds.
Businesses want to switch to a high-quality corporate bond as the
benchmark. That rate would be higher, shrinking future pension liabilities.

Such a change would be subject to approval by Congress.

In the meantime, Ms. Gregory noted, the pension agency has more than
enough cash on hand to make its current payments. It takes in some $800
million each year in premiums.

"That gives them a cushion to cover any additional new claims that come
in," Ms. Gregory said. "The P.B.G.C. is in good shape."

That view is firmly countered by some financial analysts. Zvi Bodie, a
professor of finance at the Boston University School of Management who
was invited to present his position to the pension agency, wrote an
academic paper in 1996 laying out a "possible doomsday scenario" ending
with an enormous taxpayer bailout.

Ominously, some of what he foreshadowed has already happened: a sharp
and prolonged drop in stock prices, a proliferation of pension-plan
underfunding and several large pension defaults.

Professor Bodie says the agency should begin charging premiums based on
the riskiness of a company's pension portfolio. He has also spoken to
the agency's advisory committee about the merits of investing the
agency's own trust fund in fixed-income securities. The agency's board
voted in 1994 to permit its trust fund of seized plan assets to be
invested up to 100 percent in stocks, but the agency is considering
scaling back. The money from premiums is invested in government securities.

Much of the agency's surplus disappeared early last year when it assumed
the pension plans of the LTV Corporation
<http://www.nytimes.com/redirect/marketwatch/redirect.ctx?MW=http://custom.marketwatch.com/custom/nyt-com/html-companyprofile.asp&symb=LTVCQ>,
the large steel company. LTV
<http://www.nytimes.com/redirect/marketwatch/redirect.ctx?MW=http://custom.marketwatch.com/custom/nyt-com/html-companyprofile.asp&symb=LTV>
had already been through one bankruptcy and pension trusteeship, in
1986. After LTV reorganized, the pension agency forced it to take back
its pension obligations  only to watch the company file for Chapter 11
protection again in 2000.

In March 2002, the pension agency assumed LTV's pension payments for a
second time, wiping out $1.6 billion of its surplus. In December, the
agency assumed $1.1 billion in unfunded pension claims from National
Steel
<http://www.nytimes.com/redirect/marketwatch/redirect.ctx?MW=http://custom.marketwatch.com/custom/nyt-com/html-companyprofile.asp&symb=NSTLB>,
and later that month, it took over Bethlehem Steel's
<http://www.nytimes.com/redirect/marketwatch/redirect.ctx?MW=http://custom.marketwatch.com/custom/nyt-com/html-companyprofile.asp&symb=BHMMQ>
pension plans, for an estimated $3.7 billion.

Until last year, the agency's largest case was the 1991 takeover of Pan
Am's pensions, for $841 million.

The big pension plan failures show no sign of stopping this year. US
Airways' reorganization plans depend heavily on the airline's ability to
cope with some $3.1 billion in pension contributions due over the next
seven years. The airline has been seeking government permission to
stretch the payments out over 30 years.

"The minute you grant that, you'd have all the other airlines lining
right up," Mr. Oline of Fitch Ratings said, "and some other industries
after that, asking for the same thing."