In A Hole

Let’s pretend you’re walking along out in a field somewhere and you come upon a hole.  If you are anything like me, you’ll stand close enough to the edge of this hole to see what’s in it.  Let’s pretend even further by imagining it to be empty.  So, what do you see now?  Nothing?  If a companion asks, “What’s in the hole?” you’ll say, “Nothing.”  If your buddy, seeking to verify this by checking for himself, gets too close and falls in, there is obviously now something in the hole.  That’s the thing about holes: they’re sometimes hard to see until you fall into one.

One big hole folks might miss until it’s too late involves their pension.  Corporations have underfunded their pensions (which cover about one in three U.S. workers) by $512 billion as reported in The Economist while public-sector deficits may hover around $4.4 trillion.  This suggests there won’t be enough money to give just over one in four private-sector workers their retirement checks if they are supposedly covered by a pension plan.  Employees of various government agencies likely face an even bleaker future.

There is a fudge factor commonly employed by corporations and government agencies which allows them to dig their holes even deeper.  They apply an average assumed rate of return to the existing balance which shows it can grow out of trouble.  That’s like you saying the $400,000 dollar mortgage on your home isn’t really that high because the underlying value will appreciate.  Good luck getting that through a credit check, but many states use an 8% assumed rate when calculating their liabilities despite earning just two to three percent on deposits in government bonds even as the stock portion of their portfolio waivers.  The Federal Reserve’s promise to keep rates exceptionally low for a long time won’t help anyone either.

The Pension Benefit Guaranty Corporation was set up by Congress to backstop plans in distress.  We’re awaiting this year’s total, soon to be released, but last year they reported running a $23 billion deficit themselves.  It is widely reported that corporations are sitting on oodles of cash, and they may be forced by law to put some of it into their underfunded plans.  That could surely suck up a big chunk of their surplus, but does little to help the soon to retire public employee.  When push comes to shove do you think they will be allowed to starve?  I don’t think so either.  That leaves higher taxes, bigger deficits, or an incredibly strong multi-year stock market rally.  How would you handicap those choices?