Hostname: page-component-586b7cd67f-l7hp2 Total loading time: 0 Render date: 2024-12-06T06:16:26.588Z Has data issue: false hasContentIssue false

Should public retirement plans be fully funded?

Published online by Cambridge University Press:  12 April 2011

HENNING BOHN
Affiliation:
Department of Economics, University of California Santa Barbara, Santa Barbara, CA 93106, USA (e-mail: bohn@econ.ucsb.edu)

Abstract

Most state and local retirement plans strive for full funding, at least by actuarial standards. Funding measured at market values fluctuates and often falls short. In a model where most taxpayers hold debt and face intermediation costs, returns on pension assets are less than taxpayers’ costs of borrowing. Hence, zero pension funding is optimal. Also, unfunded pension promises are properly discounted at a rate strictly greater than the government's borrowing rate. Funding can still be in taxpayers’ interests if legal enforcement problems make unfunded pensions risky for employees, but except in special cases, the optimal funding ratio is less than 100%.

Neither a borrower nor a lender be’ (Shakespeare)

Type
Articles
Copyright
Copyright © Cambridge University Press 2011

Access options

Get access to the full version of this content by using one of the access options below. (Log in options will check for institutional or personal access. Content may require purchase if you do not have access.)

References

Alesina, Alberto and Perotti, Roberto (1995) The political economy of budget deficits. IMF Staff Papers 42: 131.CrossRefGoogle Scholar
Bader, Lawrence N. and Gold, Jeremy (2007) The case against stock in public pension funds. Financial Analysts Journal, 63(1): 5562.CrossRefGoogle Scholar
Bohn, Henning (2010) Should public retirement plans be fully funded? NBER Working Paper No. 16409, September.CrossRefGoogle Scholar
Brown, Jeffrey and Wilcox, David (2009) Discounting state and local pension liabilities. American Economic Review, 99(2): 538542.CrossRefGoogle Scholar
Bulow, Jeremy (1982) What are corporate pension liabilities? Quarterly Journal of Economics 97(3): 435452.CrossRefGoogle Scholar
D'Arcy, Stephen P., Dulebohn, James H. and Oh, Pyungsuk (1999) Optimal funding of state employee pension systems. Journal of Risk and Insurance, 66(3): 345–80.CrossRefGoogle Scholar
Epple, Dennis and Schipper, Katherine (1981) Municipal pension funding: a theory and some evidence. Public Choice, 37(1): 179–87.CrossRefGoogle Scholar
Friedberg, Leora (2010) Labor Market Aspects of State and Local Retirement Plans: A Review of Evidence and a Blueprint for Future Research. Mimeo: University of Virginia.Google Scholar
Lucas, Deborah and Zeldes, Stephen (2009) How should pension funds invest? American Economic Review, 99(2): 527532.CrossRefGoogle Scholar
Munnell, Alicia, Haverstick, Kelly, Sass, Steven and Aubry, Jean-Pierre (2008) The Miracle of Funding by State and Local Pension Plans. Chestnut Hill, MA: Center for Retirement Research, Boston College.Google Scholar
Munnell, Alicia, Haverstick, Kelly, Sass, Steven, Aubry, Jean-Pierre and Quinby, Laura (2010) The Funding of State and Local Pension Plan: 2009–2013. Chestnut Hill, MA: Center for Retirement Research, Boston College.Google Scholar
Novy-Marx, Robert and Rauh, Joshua D. (2009) The Liabilities and Risks of State-Sponsored Pension Plans. Journal of Economic Perspectives 23(4): 191210.CrossRefGoogle Scholar
Peng, Jun (2009) State and Local Pension Fund Management. Boca Raton, FL: Taylor & Francis.Google Scholar
Persson, Torsten and Tabellini, Guido (2000) Political Economics. Cambridge, MA: MIT Press.Google Scholar