Public Sector Retirement Plans

By Clark, Robert | NBER Reporter, Winter 2013 | Go to article overview

Public Sector Retirement Plans


Clark, Robert, NBER Reporter


Public sector pension plans and retiree health plans have been front page news during the past decade. While the popular press has focused almost exclusively on the underfunding of these plans, economic research has examined how these plans affect state and local budgets, intergenerational equity, and the behavior of public employees. Public employees account for 14 percent of the labor force and employee benefits comprise about 35 percent of the employment cost of public employees. (1) Thus, a clear understanding of the cost and benefits of pension and health plans is central to understanding this sector of the U.S. economy. Along with colleagues, I have examined the labor market effects of public pension plans and retiree health plans. The following describes my research on primary pension plans, retiree health plans, and supple-mental retirement plans offered by state and local governments to their employees.

Public Pension Plans

I began my research on public pension plans through a study of the historical origins of retirement plans in the United States. In order to consider current retirement policies, it is important to understand when public sector retirement plans were established, why they were made more generous in the last quarter of the twentieth century, and what human resource objectives they are trying to achieve. The earliest retirement plans can be found in the public sector, dating at least from the early Roman Empire. The first public pension plans in North America were those established in the English colonies which provided benefits for the members of their local militias. During the earliest stages of the Revolutionary War, the Continental Congress established a retirement plan for its naval officers and enlisted sailors. The plan was funded primarily from booty seized on the open seas. (Later a plan was created for the Continental Army.) The history of the Navy Pension Fund offers an interesting narrative of the management of early pension funds, including periodic benefit increases, which ultimately led to the fund's exhaustion and a subsequent U.S. Treasury bailout. This fund was revived and prospered during the Civil War and was eventually rolled into the federal government's pension system for Union veterans and later military plans for "regular" army and navy personnel. At the local level, larger municipalities established pension plans for their police officers, firefighters, and teachers during the late nineteenth century. (2)

By the first decade of the twentieth century, a few states offered plans for public school teachers, but the first pensions for general (that is, non-teacher) state employees were established in the 1910s; however, only after the enactment of Social Security did most states begin to establish retirement plans for their employees, with the last state plan being implemented in the 1960s. Initially, employer-provided pension plans were the only retirement plans available to public employees, because public employees were excluded from the Social Security system until the 1950s. Through the middle of the century, except for several of the country's larger cities, local teacher plans were consolidated into state-managed plans, and in about half of the states, teacher plans merged with plans covering general state employees. By the 1970s, public sector plans had matured and covered most full-time state and local employees.

These early public sector plans were almost exclusively defined benefit plans, providing life annuities to retired public employees. The last quarter of the twentieth century saw public employers increasing the generosity of their plans (3) by: increasing the multiplier for benefits per year of service, reducing retirement ages, reducing vesting periods, and adding cost-of-living adjustments to retirement benefits. (4) To some extent, today's funding problems are based on these decisions to increase benefits without providing adequate revenue to support them. …

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