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Social Security can prop up state pensions

By Lauren Damme, Special to CNN
  • States are suffering huge budget gaps and are having trouble funding pensions
  • A stock market downturn can devastate a state pension fund, says Lauren Damme
  • She says shifting into Social Security relieves states of a risk, allows more portable benefits
  • Damme: Wider use of Social Security system would build support for it

Editor's note: Lauren Damme is a policy analyst for the Economic Growth Program at the New America Foundation, a think tank that seeks innovative ideas across the political spectrum.

(CNN) -- State budgets are being squeezed by unprecedented amounts for the third year in a row as legislators are forced to close gaps of up to 50 percent of state spending.

As cuts to badly needed services and welfare programs continue, the slice of budgets going to public pensions looms larger. States' widespread underfunding during prosperous periods undermined public pensions even before today's massive budget shortfalls, and now the Great Recession's impact on tax revenues has made pension liabilities appear colossal.

Adding to states' difficulties is the increasing hostility of taxpayers toward public pensions. The contrast between the insecure and underfunded retirement many Americans face and the cases of exceptionally high public pension payouts covered by the media has caused taxpayers to turn a very critical eye toward public pensions indeed.

As they start to feel state service cuts, private sector workers -- less than half of whom have pensions at all -- have put political pressure upon state governments to act.

Now states, many constitutionally committed to honoring their pension promises, are looking for other ways to decrease their vulnerability during downturns. For some states, the surprising answer may be: Social Security.

Maine, which excludes most of its public employees from Social Security, and has underfunded its public pensions by over 30 percent of state GDP, has recently begun to look at shifting public workers into the federal system. The shift would be accompanied by a reduction in the state-sponsored pension benefit contributions to a level that would still provide equivalent retirement benefits for new employees.

According to a task force report presented to Maine's lawmakers in March 2010, there are two reasons Maine's 124th Legislature is considering the reform: inequitable allocation of pension benefits due to the fact that the benefits are not very portable and the high vulnerability of the state's pension systems during economic market downturns.

The report states that less than half of state employees, including teachers, vest in the current pension system and less than 20 percent earn 25 years or more of benefits. Workers lose all employer contributions when they leave and withdraw contributions, and the retirement system therefore functions by using the lost benefits of employees who leave prior to vesting to pay for benefits for those who stay.

Moving employees into Social Security would allow workers to accrue fully portable benefits, increasing the rate of employees who receive benefits from 50 to 100 percent, and would allow any additional pension benefits the state chooses to provide to serve as retention incentives.

Currently, the 13 states that exclude some or most of their public workers from Social Security bear the full risk of stock market downturns that wreak havoc on pension funds. This vulnerability has become starkly apparent during the Great Recession. So although Maine's proposal to place employees into Social Security would cost public employers more by increasing contributions from the state's current 5.5 percent of payroll to the Social Security rate of 6.2 percent, the state would vastly reduce its exposure to market volatility.

This vulnerability to market fluctuations makes a compelling case for putting all employees into Social Security, and even using Social Security as a vehicle to provide most if not all of the recommended 70-80 percent of pre-retirement income needed for a comfortable retirement. In fact, the bottom two income quartiles in the United States depend upon Social Security for more than 80 percent of their retirement income. However, Social Security has a much weaker income replacement capacity than this.

Social Security would provide just over 50 percent of pre-retirement income to low earners if they had continuous work histories. In reality, workers do not work steadily their entire lives, and Social Security replaces only about 33 percent of the previous year's wages. The replacement rates are lower yet for higher earners.

A movement of public workers into Social Security may help to do several things. First, it would protect both state budgets and workers' retirement savings from market volatility even as it improves pension coverage and contribution rates. Second, the inclusion of public workers would expand the number of workers paying into the Social Security system and may therefore help ease some of the financial stresses associated with the retirement of baby boomers. This would, of course, have the greatest impact if the other 12 states that exclude public workers also put their employees into the system.

Without legislative changes, Social Security's Old-Age, Survivors, and Disability Insurance Trust Fund is currently predicted to become exhausted around 2037, at which point it will still be able to pay 75 percent of scheduled benefits.

Most compelling is the possibility that putting public workers into the system could change the politics of Social Security. Specifically, the movement of unionized public sector workers into the federal system may bring the strength of Social Security under the umbrella of union agendas.

Unions may, in turn, pressure the federal government to strengthen Social Security. Just as importantly, it would put public and private workers into the same boat, reducing pension envy and the political pressure to cut pension benefits.

Putting public workers into Social Security will not reduce states' current pension responsibilities, but it is a step in the direction of retirement security for all Americans.

The opinions expressed in this commentary are solely those of Lauren Damme.