U.S. Must Tackle Bankrupting Benefits

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How much longer will our government keep avoiding the issue?

If credit markets were to seize up tomorrow, threatening to topple a large bank, could the government jump in to perform mouth-to-mouth? The answer is no. Despite much celebration that the new financial bill would preclude another Lehman-like failure, regulators are struggling to figure out just how the darn thing should work. Like nearly all the recipes in the giant bill’s new cookbook, it was left to numerous competing agencies to produce the actual ingredients that might be needed. According to a piece in the Wall Street Journal, the FDIC postponed adopting a relevant rule this week because the Financial Stability Oversight Council, which is led by the Treasury but is to include representatives of several other agencies, had not yet had time to consider it. In fact, it turns out the council has not even met yet.

In fairness, the financial regulation overhaul is still in its infancy. However, if this oversight council can’t even coordinate calendars, will it be an effective financial market watchdog?

The problem with government bureaucracy is not just that it is expensive; it is also cumbersome. Government bodies move slowly, and often after the fact. A good example is the mortgage crisis; it is hard to imagine that housing prices peaked five years ago. Half a decade is a long time but here we are, still trying to sort out what went wrong and how it can be fixed. Of course, public entities are not alone in combating inertia.   

Take Blockbuster, which recently declared bankruptcy. Just a few years ago Blockbuster was surfing a tsunami of demand for in-home entertainment, and a marvelous new technology called the VCR. Sounds almost quaint, doesn’t it? Blockbuster’s management focused on building the world’s best video library, while ignoring the threat of greater on-demand cable offerings and an upstart called Netflix. Bad choice.

One area where both sectors have been especially behind the eight ball is anticipating the impact of generous labor contracts written over several decades.  Steve Malanga writes in his new book Shakedown, “State and local governments used tax surpluses and the 1990s stock-market rise to gold-plate pension programs, with disastrous effect once the stock boom ended.” He reports that by 2003 these pension programs had more than $250 billion in unfunded liabilities. In California, pension costs zoomed fourteen-fold from $160 million in 2000 to $2.6 billion in 2005; in 2010 the number will be close to $3.6 billion. No wonder the state is broke. As life expectancies increased and healthcare costs soared, the potential threat of these obligations was obvious. Still, neither industrial companies nor governments failed to address the issue, instead pushing their problems onto the next generation of leaders. 

The cost of many years’ concessions is visible and painful today – and not just in the U.S. All across Europe governments are struggling to rescind benefits, triggering strikes in Belgium, Ireland and Portugal. Spain has been brought to a standstill. The outrage of workers reflects their sense of entitlement, and the constant support they have received from elected leaders eager to tap large worker organizations and access union coffers. 

Americans may be excused a twinge of schadenfreude in watching the French – who regularly tsk-tsk Americans’ unruly politics – wrestle with their feisty unions.  Workers from Nice to Deauville took to the streets recently to protest President Sarkozy’s attempt to raise the national retirement age from 60 to 62. To 62 for Pete’s sake! How many years does the average person need to spend slurping red wine in sidewalk bistros?

These measures are overdue, but they are contentious. It has taken the near-collapse of the Euro to embolden governments across the continent to tackle unpopular measures that should have been addressed some time ago. 

Americans should be watching this unrest with some anxiety. Other than some pretty tame Tea Party rallies, the response to our economic woes has been muted. That could change. We have not yet faced large-scale spending cutbacks – the kind that results in cancelled bus routes or laid-off cops. The stimulus bill postponed that inevitability by diverting hundreds of billions of dollars to maintaining public sector employment.  Moreover, the federal government has been able to borrow to plug our yawning budget deficit by borrowing at favorable terms, since the dollar is still considered less risky than the Euro or the Yen. Consequently, we have not seen undue pressure on our currency and been forced into immediate action.

Make no mistake, however, we will have to address these excessive obligations.  Some tough choices have been postponed until after the upcoming elections; politicians are loathe to run for office on a platform of deprivation.  They especially don’t want to lose their union supporters. The bloated pensions doled out to public sector workers have already caused a backlash, as have comparisons between private sector and public sector pay. When New Jersey Governor Chris Christie asked teachers in that state to forego a raise – for one year – in order to reduce the state’s gigantic budget deficit, the union defiantly refused.

Let us hope that in the coming year progress is made toward unwinding contracts we can no longer afford, without disruptive labor demonstrations. Let us also hope that our politicians do not engage in budget foolery or seek compromises that will be even more costly down the road. Americans may not be quite so easily fooled by that particular sleight-of-hand this time around and we simply cannot afford it.

Editor’s Note: Liz Peek is a financial columnist.

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