May/June 2011 The Fallacy of Union Busting

Taking power away from labor won't rescue states from their fiscal woes--but giving power to voters might.

By Sylvester Schieber and Phillip Longman

The real cause of the crisis is the inherent conflict of interest politicians face when they have the option of handing out or maintaining pension promises to favored constituencies, including themselves, without the public understanding what’s going on and without the bills coming due until after they are gone from office. Politicians have two basic ways of doing this. First, they can, as Republican Christine Todd Whitman and subsequent governors of New Jersey did, simply stop contributing money to the pension fund or tap their credit card to pay the pension mortgage. This is especially easy to pull off during periods of irrational exuberance. In 1997, Whitman had New Jersey borrow $2.7 billion in pension obligation bonds on the assumption that the state could use the money (or what was left of it after the tax cut Whitman had promised in order to win the election) to make a big kill on Wall Street. When New Jersey’s investments went south, it was stuck not only with the cost of servicing the bonds, but also with a giant hole in its pension fund. Illinois did the same thing in 2003, by borrowing money from Wall Street at 5.5 percent on the assumption that it could make 8.5 percent by investing it on Wall Street. Predictably, this Wizard of Oz fund-raising hasn’t worked out. In December 2010, Illinois’s then comptroller, Dan Hynes, was on a segment of 60 Minutes saying that he had $5 billion worth of bills in his office and no money to pay them. Unable to even pay its other bills, Illinois is now proposing to issue another $3.7 billion in bonds to make this year’s pension contribution.

Politicians can also make benefits more lush without coming up with the money to pay for them. That’s what happened in California in 1999 under Democratic Governor Gray Davis, when the state enacted the largest pension increase in its history—one that now has become the single biggest threat to the state’s continued solvency. For regular employees, the legislation reduced the age at which unreduced benefits could be claimed, from sixty to fifty-five. For highway patrolmen, it left the age for claiming unreduced benefits at age fifty but sweetened the benefit formula by 50 percent. For peace officers and firefighters, the new enriched formula applied at age fifty-five and after. The bill also provided an added cost-of-living adjustment on top of the annual adjustment built into the existing system.

Who was responsible for figuring out how much these other technical changes in the big benefits bill would cost? Why, the actuaries employed by the California Public Employee Retirement System, of course—whose own pensions would be enriched by the legislation they were being asked to evaluate. Not surprisingly, the actuaries declared the bill easily affordable, though in fact, as we now know, they underestimated its cost by a factor of five.

And who made the final decision? Why, the members of the California legislature, Republicans and Democrats alike—who, like the actuaries, would see their own pensions increased by passage of the bill, and who would win votes from public employees if they voted yes. The pension bill passed 39-0 in the state senate and 70-7 in the assembly, while barely making the papers. As far as the average Californian could tell, the big news out of Sacramento that day was passage of a bill to provide gay students legal protection against abuse and an agreement to allow expanded Indian gambling operations around the state.

So this is the world as we find it. Government decisionmakers face an inherent conflict of interest when it comes to making pension policy for government employees, and so do their staffs. This is true whether or not unions are involved. Beyond the enticement of self-dealing is the temptation to self-aggrandizement that comes when politicians are allowed to take credit for delivering benefits whose full cost only becomes apparent after they are long gone. That all this can be done within a tight circle of insiders without the press or the public taking much notice only further perverts the logic of decisionmaking.

There is another realm of government where much the same misalignment of incentives applies, and what we do to check against it suggests an answer for how to deal with the pension crisis. When a city or state is considering whether to float bonds to finance a major project, like building a school or a highway, the rule almost everywhere is that the issue has to be approved by referendum. In Wisconsin, for example, no school board can commit to a capital project of more than $1 million without taking it to the district for a vote. That’s because otherwise there is too little check on politicians borrowing from the future to benefit their favorite contractors and other constituents. With so much backroom self-dealing possible, sunshine and direct democracy are a necessary corrective.

We could easily apply the same rule to public employee pensions. Let the unions and the politicians negotiate all they want, but if they come up with a contract that puts future taxpayers on the hook for the cost of making pension and other retirement benefits more generous, it should go to a vote of the people. If the people are feeling generous, or if they feel there is indeed a strong case for why public employees need more generous pensions, they may well go along. If they feel there are more compelling purposes for which they should be spending their own or their children’s money, they will not.

Just by being on the ballot, these questions would attract more press attention to the issue of pension finance, give a greater platform for government watchdog groups and disinterested pension experts, and promote better public understanding generally of the trade-offs involved, all of which is sorely needed. The League of Women Voters would print brochures explaining the pros and cons. Newspapers would weigh in with editorials. In contract negotiations, politicians and other insiders would know that whatever deal they struck would have to win a majority vote of the people—who will ultimately have to pay the bill. It might mean that public employees wouldn’t see another pension hike for another generation. So be it. That would give the majority of Americans who lack pensions some time to organize and catch up.

Referendum is, of course, not a perfect solution. By itself it does nothing to reduce the cost of the pension promises already made, many of which are protected by state constitutions as well as ordinary contract law. (Eliminating collective bargaining rights for unions won’t solve this problem, either.) It’s also important to apply the same strict regulation regarding how liabilities and rates of return are calculated in public-sector plans as is now generally found in the private sector. But going forward, subjecting pension enrichments to the vote of the people would both grant public workers the right to collective bargaining while also giving much stronger protection to the public from existing moral hazards we can no longer afford to ignore.

Sylvester Schieber and Phillip Longman collaborated on this article. Schieber is an independent consultant who has written several books on aging, demographics, and pensions issues. Longman is a Schwartz senior fellow at the Washington Monthly and the senior research fellow at the New America Foundation.


  • PC in SC on May 11, 2011 3:18 PM:

    good article but --- if you live in "right-to-work" state, as I do:

    "The League of Women Voters would print brochures explaining the pros and cons."

    "Newspapers would weigh in with editorials."
    MY 2 LOCAL PAPERS ARE VERY SLANTED - AND EDITORIALS OF DIFFERING VIEWS ARE DIFFICULT TO GET PUBLISHED (and if they are, some writers are called and verbally attacked)

  • cr0ft on May 11, 2011 4:29 PM:

    A well written article with interesting things to say - if you're interested in ancient history analysis. Unfortunately, once you see the real problem, it becomes about as interesting to read as it would be to read a well thought-out article about the best way to do agriculture using hand-held hoes and shovels or how to make a horse-drawn buggy travel as smoothly as possible to minimize the time to get from the country estate to the city using one.

    It's irrelevant, when what you should be discussing is how to create autonomous farming machinery that does all the farming for you or how to design vactrains to get you around the world in a few hours.

    Discussing the hoes and the shovels or the horse-drawn buggies becomes completely pointless because we long since need to abandon those (and have) , and the same is true of this discussion of unions vs non, pensions and how to fund them etc.

    It's not about how best to try to make our insane money-based system achieve some semblance of fairness and some minor shred of workability, it's about figuring out exactly how to replace it with something that actually works and is inherently fair, equitable and sustainable instead of our current system that doesn't work, is inherently unfair, easily warped by people, is inherently inequitable and is absolutely not sustainable.

  • JohnR22 on May 13, 2011 4:16 PM:

    Oh, that's right. Almost every Blue state has utterly disasterous budget deficits that are required...by law...be be balanced each year. Although this has been caused by a revenue shortfall (caused by the economic downturn and a drop in property tax and income tax revenue), it has cause a spotlight to be shined on exactly what constitutes the shortfall.

    Well, surprise surprise. In every case the key factor is unsustainable public union pensions and medical benefits. And when looked at carefully, we find (shock!) that these benefits are absurdly generous.

    THe first step is to bust the unions and the next step is to bring their pensions and benefits into line with what the private sector gets. And the Left is TERRIFIED because the voters overwhelmingly support these rational steps.

  • FGS on May 16, 2011 1:21 AM:

    If people wanted their own happiness as much as they want the unhappiness of others, there would be paradise within a few years. People jealous of public servants' compensation should organize and fight for better compensation for themselves. It's not teachers' fault that private sector workers allow themselves to be treated so poorly.

  • nancy patterson on May 20, 2011 5:20 PM:

    FGS has the right idea. We shouldn't be trying to take the positive gains away from anyone.
    We should be demanding better quality of life all around. How can we continue to be the"greatest country in the world" if the whole place is falling apart from disrepair and neglect? And at the same time allow big business to pay no taxes and recieve subsidies to boot.
    Those cuts in services and programs are taking the country in the wrong direction. We need to take care of our infrastructure, energy systems, water and waste disposal. All the things that indicate civilization. And allowing our National Treasures, our parks to be locked up and going with out proper maintainance and oversight is the height of ignorance and arrogance.
    If these leaders won't represent us, the voters then the least they could do is to take care of the real estate that is entrusted to their care. Let the place go to hell and then see what it's worth.

  • Leah on May 24, 2011 8:55 AM:

    One error in the article: please point out that teacher turnover is MUCH MUCH higher than office-type government jobs. About half of new teachers leave the profession within the first five years.

  • Kevin on May 24, 2011 6:36 PM:

    One thing public pension bashers always leave out is that unlike the private sector we do NOT get social security. This is all we get. And not every pension system is so generous. I am looking at getting less than half my income when I retire and I can't retire to at least 60. (67 if I want to improve the amount slightly. There are private sector union pension plans that pay out 130 percent and they can retire much earlier.

  • Solomon Kleinsmith on May 25, 2011 2:07 AM:

    I read a LOT of political chatter... have read dozens of posts on labor issues... this is by far the best I can remember reading. Well done.

  • Sally B on June 12, 2011 12:11 PM:

    The ongoing travesty of this country is that too many people are too stupid to vote their own economic interests. What we need is a law to help union organizers encourage people to vote for unions. One good idea would be to give people a union card and ask them to sign it. Anybody who refuses to sign it, we will know immediately is a scab. We can then bring all kinds of encouragement for the scabs to vote for the union, like "gee, it would be a shame if something should fall on your head while you're working". Or we could visit their homes at night and talk to their children about it. Or we could just beat the crap out of them. Whatever. And if any of those filthy Republicans accuse us of intimadation, we can just say "who, us? we would never do that!" This is the kind of stuff our national unions need to favor.

  • mcd on June 27, 2011 7:02 PM:

    This is exactly right. These governors are not economists--they are politicians. And they will likely have moved on when their decisions backfire. And if not they'll explain it away by targeting an unexpected variable.

    The problem isn't collective bargaining or excessive benefits. The problem is with the cost of health care and the mismanagement of govts. Sure u can balance a budget if you throw all the working class under the bus. That's easy.

  • Milton Chapman on June 06, 2012 6:41 PM:

    If its true that Trillions of dollrs are on the "sidelines" in bank accounts of corporations because the time is not right to invest, then why do they need a tax cut? Also, when they do invest they do so with business loans ,not so much with their own mone; Oh I get, it they have to have the trillions In the bank as collateral to obtain the loans, because, no collateral no loans. So that sideline money is just dead money just there for the comfort of the borrowers and lenders.