Can You Afford to Retire?

elizabeth warren

photo of Warren

Elizabeth Warren is a professor at Harvard Law School and an expert on bankruptcy. In this interview, she explains the history of pensions in America, how the Employee Retirement Income Security Act (ERISA) and Chapter 11 bankruptcy, both of which were designed to protect employees and retirees, have been exploited to the benefit of corporations and banks, and the social costs of the abandoning traditional lifetime pensions. This an edited transcript of an interview conducted on February 6 2006.

Why is this whole subject of pensions so important right now?

If we change how we view pensions and how corporations view their obligations to their employees, this is transformative. This really means that hardworking middle-class people, people who follow the rules, who had 10 percent taken out of their paychecks toward that retirement account for all of their lives, are now on their own. They don't have the company behind them; they don't have the laws behind them. They could be 65 years old and looking at nothing to support themselves in their declining years other than Social Security. That is as big a shift in the underlying social contract as we can talk about. This is about your whole vision of what you thought you had worked for and had been promised to you in return.

What does it mean to middle-class America to see the pension world shifting so dramatically?

Well, I think the first is a vision of alarm. We all understand that we are living longer, and we are more likely to spend more years as frail, elderly people who can't work. We also recognize that the wonderful advances in medicine also come with wonderful price tags. Those are things you can't budget around. We can all be careful about where we live and how much we spend on groceries and how much we spend on clothing. But there are these wild cards that lie in our future when we retire, and without a secure pension, that wild card is back on each individual. Maybe you'll get lucky; maybe everything will go fine until your last moment on earth, but the odds are against you. Maybe you won't get lucky, and that means you may live, weeks, months, years in [the] kind of poverty and dependence on others that you spent your whole life, you thought, protecting yourself against.

Talk about ... the history of pensions, why the lifetime defined benefit pension arose and why it became so important.

... A pension is nothing more than deferred compensation. It's an employer who says, in effect, "I'll pay you $1,000, but $800 of it you'll get in a paycheck today, and the other $200, I'm going to hang onto it on your behalf and put it aside, and these are the promises I'll make for when you retire." So a pension is just part of the employment contract. It's the part you get later. It's as if every day that you work when you work for a company with a pension, you get that day's wages minus a portion of the promise for the future. ...

Partly these pensions grew up out of an economic glitch, a time during World War II when employers couldn't compete for people by offering higher wages. But partly they grew up, really in the '50s, '60s, '70s, even into the '80s, out of a sense of this is what workers build; this is what America is about. This is the heart of the middle class. A good pension told you this was a good employer, a good job, a place to work and put your heart and soul into it for all your life. ...

Some people have said that you can look at pensions ... as if it were an interest-free loan to the company. Is it possible to look at a pension that way? ...

What we are starting to create now is a notion in the United States that it's old-fashioned and clearly unprofitable to make good on your promises to your employees and retirees.

When an employee agrees to work for $800 right now and [have] $200 put aside in a pension in the future, the employee has just made a loan to the company, pure and simple. ... And the employee is counting on the fact that because the employer made that promise, they'll make good on the loan payment.

Contrast that with what happens with a bank. If a company wants to borrow money from a bank, it also makes promises, but it locks up hard assets in return. It says, "If we don't pay you, come and seize our factory line or our building or our accounts receivable," and the banks monitor from the first day. They want to watch what's happening. ...

The underlying insight is that banks know how to protect themselves. They are very good at evaluating the risk of company A and the risk of company B and the risk of company C. They're very good at monitoring, and they're very good at spreading risks, so they will lend a little bit to A and a little bit to B and a little bit to C. Employees cannot work for company A, company B and company C. ... Employees are not good at monitoring whether or not sufficient assets are being set aside to make sure that there will be something there for their retirement. ...

Where does ERISA fit into this, the Employee Retirement Income Security Act? ...

ERISA fits in in this sense: If I were your employer and said, "Give me that $200, and ... I'm going to give you these promises in the future," ERISA was there, at least in part, to make sure that the employer did what he said he was going to do, to make sure that the money got put aside and that there really was some protection for the employees on down the line. ...

What happens in ERISA? Do the companies learn to game the system -- the rules are too vague, the enforcement is too weak? The federal Pension Benefit Guaranty Corporation, the PBGC, is ... $23 billion in debt, and people are now saying, "Wait a few years; it will be $100 billion." If this was set up to enforce and ensure the safety of pensions, how did it get such a big loophole?

You have to remember who wrote it. Our representatives in Washington got together, largely with the companies they were going to regulate, and they wrote a statute that wasn't one that the employees were happy about. It was one that the companies would be happy about.

What that meant was maximum flexibility for the companies: Maximize the number of tax breaks they get, and maximize the control they are going to have over that money so that they can use it for whatever business purposes they want to use it for and not be in violation of the law. ... That was the whole design.

In the late '90s and even on into early 2000, 2001, 2002, there were companies that for years didn't put any cash into their retirement programs. They only counted on growth and stock value during the stock boom, and then when the stock boom collapsed, they got "credit balances" from the good years, which they could apply against the bad years. ... How did they get away with that?

Let's just be as blunt as we can. They got away with it because the regulators let them get away with it. In all those years in the '90s, when we were doing well, when it was boom times, the big companies kept a sharp eye on what pleases the investors. ... It did not please the investors to put money aside for the employees, and so the big corporations simply didn't do it.

[Corporations] set their lawyers to work to find as many loopholes in the bills as they could, and those lawyers were good. The laws had been written with loopholes, and the lawyers found them, and they exploited them. As a result, we end up now with companies that even in good times didn't put money aside. Now that they are in bad times, they're getting credit for what they allegedly put aside in good times. The bottom line is they keep making those promises to their employees, and there's nothing there at the other end.

How much [were] the changes in the ERISA law -- because it was amended a number of times through the '80s and '90s -- and the way the 401(k) law was interpreted driven by the financial interests of CEOs and CFOs as they saw their own pensions being affected? Is there any evidence in the legislative history of the 401(k) provision that people ... understood that it might become the basis of a mass national savings plan? ...

Much of the law governing 401(k)s and much of the push toward 401(k)s was not driven by ordinary workers who were looking for a way to set a few dollars aside for their retirements. It was driven by CEOs who were looking for tax protection in order to maximize the value of their retirements. ... If you read the legislative history ... of the 401(k), it's clear this was a little tax break and special protection for people on a very high margin, the folks who made lots and lots of money. ... That's the irony. What it was designed for and what it's being put to use for are totally different from each other. ...

So it wasn't designed as a middle-class retirement program.

No, it was not. ... It's being harnessed for that because that's the only alternative now. There is nothing left on the table. If the defined pension benefit plan goes away, as it is quickly doing -- it is melting like a snowball in Texas in July -- all that's left is Social Security and the 401(k). Middle-class America knows it can't live on Social Security, and so everyone's attention is now riveted on what an employee can do and can't do through a 401(k) to protect himself through the retirement years. ...

ERISA gets passed in 1974. Four years later you get a new Bankruptcy Code, ... and you begin to see these two things intersect. How and why?

In 1978, we adopted a new Bankruptcy Code in the United States, and a principal part of this was designed to adjust to the new corporation, to find ways to let a corporation that had gotten into financial trouble reorganize itself. A big part of the selling point on this bankruptcy law was it will preserve jobs. ... Go back and read the legislative history: Lots of words about employees, about retirees. ... "We need to save those jobs, and we need to make sure that the employees and retirees are going to be taken care of." ...

... In reality, there are lots of corporations that have figured out that there are loopholes in this bill, just like in the ERISA bill. What those loopholes permit companies to do is make promises to a few sophisticated creditors to lock up all the assets of the business so that if the company ultimately fails, there won't be any sharing of the pain. The sophisticated guys will walk out with everything, and the employees and pensioners will be left with nothing.

Is this the way Congress wrote the law? ... Has the law been distorted from what its original intent was?

The text of the law clearly gives a priority to the banks and the other creditors who protect themselves by contract. They come ahead of all of the employees and all the pensioners. It's been there since 1978; it is in the law today. If Congress wanted to change it, they could change it with the stroke of a pen, but that is what the statute says. ...

It said when something goes wrong, [the] banks that have signed contracts and [are] already guaranteed, ... they get the lion's share of the assets. Those contracts will be honored in bankruptcy. People like the employees, the pensioners who have nothing more than the naked promise from the company, they just have to wait to see if there are any crumbs left over. What has changed over time is how much the banks are seizing in terms of the assets, ... so that by the end of the day, there is less and less and less left over for the employees and for the retirees. ...

Is this the way it's done universally? Is this a standard way of operating?

No. Other countries around the world make employees and retirees first in the priority. For example, in Mexico, the bankruptcy laws say if a company wants to go bankrupt, ... obligations to employees and retirees will have a first priority. That has an effect on every negotiation that takes place with every company in Mexico. ...

Do understand that around the world, there are more countries that ... do it the way Mexico did it [rather] than ... the way the United States did it. ... Other countries have said it is important as a matter of government policy to say that the employees and retirees have to be taken care of. Banks will adjust their prices accordingly. ...

Very often in bankruptcy, it is globalization and global competition that is cited as one of the main reasons for having to get rid of ... the pension and the health benefits of retirees. And yet you are saying that in some of the countries ... we compete with, it's exactly the opposite. ...

Indeed. What we are starting to create now is a notion in the United States that it's old-fashioned and clearly unprofitable to make good on your promises to your employees and retirees. We've switched the whole conversation over so that companies say, in effect: "Hey, look, I'm competing around the world. I need you to give up your pension rights, your health care rights, all the promises that I've made to you, because prices would be lower somewhere else in the world." But ... in many other parts of the world, whatever promises you've made to the employee, even if it's a lesser promise than the kinds of promises we've made in the United States, that promise is sacred. ... Evidently not so in our country. ...

... Particularly since this '78 bankruptcy law, it looks like you've got a whole industry, ... a culture of bankruptcy. Bankruptcy 30, 40 years ago [had] sort of distasteful connotations to it. It wasn't such a good thing. Now it's almost become ... a very fashionable corporation strategy.

No one wants to go bankrupt. There is no CEO who wakes up one morning and says, "This could be the day that we get to file for Chapter 11." That's not where we are. The Chapter 11 has become an effective tool for reorganizing a business, for transitioning a business from those poky, old-fashioned promises of the 1950s and '60s and '70s into that lean, mean fighting machine of 2006. ...

Bankruptcy is less a culture and more a tool. It's more a device. It's more like a knife on the surgeon's table. Bankruptcy is the official, federal, formal way to take legal promises [and] just slice them off. ...

... If you look back at the biggest law firms in America in 1978, when the bankruptcy law was passed, not a single one had a bankruptcy department; in fact, most of them didn't have a single partner that worked on bankruptcy. Bankruptcy was fringe; it was small; it was the crumbs. The smaller firms worked on it. Today you can't find a major law firm in the United States that doesn't have a principal profit center in bankruptcy work, important partners doing important work for the firm and ... sending out important bills on behalf of the firm. ...

[But] the fees paid in Chapter 11 bankruptcies are only a very small tip of the iceberg. The real industry that's been born is the turnaround industry, the reorganization industry. In fact, the number of actual Chapter 11 cases continues to shrink, because now everyone understands how to negotiate in the shadow of the law. The turnaround specialists come in, ... and they say: "Here is the deal. We can file this company for bankruptcy, but here's how it's going to come out: The banks are going to [do] fine, and the employees and retirees are going to end up with nothing. We are willing to offer you a little better than nothing. Take it or leave it."

Are you saying that in a bankruptcy case, from the outset it is clear the banks are going to clean up and the employees and the retirees are going to get clobbered?

The law is clear on this, that when a company files for bankruptcy, you just have to read [the statute], and you'll know who is going to get paid and what order of priority. It's not rocket science.

Why does a company like United Airlines take three and a half years, then, to do that, and some other companies take 11 months?

The reason ... can be twofold. They can either have outdistancing fights -- "No, I didn't make that promise;" "Yes, you did. The promise was this big" -- that's part of it, but the other is they want to continue to operate in the future. ... The company has to reshape itself so that tomorrow's banks will come in and lend money and so that the employees will still come back tomorrow and go to work.

A lot of the time and energy and careful negotiations that take place in Chapter 11 are not about the past. That money is gone. That order of priority is spelled out in the Bankruptcy Code. What it really comes down to is how much can we take away from the employees before they finally say, "Fine, you take it, but I'm not working here anymore"? And no one else will come to work for them either.

There's a reality check in it, but the reality check is in effect when a company like United turns to its employees and says: "Look, you can either have a job and no pension, or you can have no job and no pension. What do you want to work out in there?" That's the kind of negotiation that's been going on at United Airlines. ... That's what corporate reorganization in America has become: "How much less can I give you and still keep you here?"

What is all the business of United going to the [Air Transportation] Stabilization Board [ATSB] for a loan guaranty?

Why not? They still need operating capital. ... But do keep in mind how the game has changed. ... [At] the hearings post-9/11, the big question was, were we going to put up money to try to help the airlines? Remember, they have been grounded; they were going to undergo all these new costs because of 9/11. So everyone is lining up to say, "Yes, let's give the airlines billions of dollars." ...

One of the senators says, "If [we] give you these loan guaranties, ... will you lay off employees?" And I thought, here it comes, ... the whole quid pro quo that the airline only gets loan guaranties if it won't lay off workers. ... And the airline industry executive looks back and says, "We'll be laying off lots of employees." And the senator says, "Good." And that was the end of the conversation.

In other words, Congress itself is becoming a handmaiden to the notion that the way companies will prosper in America is to terminate their promises to their employees to shrink their work forces, to shrink their promises for pensions and for health benefits. ...

The ATSB said at one point, "You've got to revise your plan," and they ticked off three or four things, but one of the things was, "You've got to get rid of your legacy costs." When they finally turned [United] down in 2004, ... when the notes were published some months later, the principal problem was the business plan did not include eliminating the pension plan.

In other words, they hadn't socked it to the employees hard enough in order to quality for government help. ...

Greg Davidowitch of the [United] flight attendants has argued ... that United could afford to keep the flight attendants' pension plan, which was nowhere near as expensive as the pilots' plans or the mechanics' plan. ... Was there a legitimate argument that United could in fact financially have done this in some other way than eliminating its pension plans?

There are two different points in time. The first one is back 15 years ago. If they had been setting aside enough money week after week, month after month, as they had promised their employees they were going to do, then the legacy costs wouldn't be the issue today. ...

Today, it comes back to priorities. United Airlines still has assets, and it still has a viable business going forward. The question is, who gets a piece of it ... going forward? Right now ... it's going to go to the lenders, to the banks, to the sophisticated insiders, not to the employees. ...

LTV [Steel] went into bankruptcy twice. What is the significance of the LTV case Is there a template here? Are we seeing a kind of a pattern played out?

LTV was one of the first big corporations that carefully moved all of its assets outside the reach of the employees. There have been plenty of corporations that had moved some of the assets away, but LTV took it to a new art form. ...

When the company imploded the first time, they said to the employees, "You've got two choices here: No job and no pension, or maybe a job and maybe a little bit of pension," and the employees took maybe a job and maybe a little bit of pension. But they continued to operate the company fully tweaked up, with all the assets committed. ... After they sucked what was left of value out of LTV, a little at a time, they just started closing it down. The final Chapter 11 for LTV was really just a funeral. ...

Who's calling the shots at that point? Is it the bankers? Is it JPMorgan calling the shots, or is it the management of LTV?

It's the turnaround management of LTV. The old management of LTV, who knew the steel industry but not the bankruptcy industry, weren't in charge anymore. ... [T]he turnaround specialists ... are the people who understand the game is about pleasing the banks and other investors. Employees are a disposable item like paper towels. You use them and you throw them away when you don't have any more use for them. ...

LTV at one point had a surplus in its pension plan, but when the PBGC took it over, there was a deficit of about $2 billion. ...

There was a surplus in its plan under the rules of ERISA accounting and PBGC accounting. That doesn't mean there were real dollars there. ... If LTV had properly funded its pension obligations as it went along and properly segregated that money for the benefit of its employees when it later collapsed into bankruptcy, the employees and retirees would have been taken care of. That's the heart of the matter.

The essence of it is not primarily the bankruptcy; it's the corporation's behavior before it ever got to bankruptcy.

That's right, and it's the fact that the bankruptcy laws permit them to kiss off the promise to the employees while they can make new promises to the banks and other investors. ...

In this case, the judge [William Bodoh] was known as the "judge of steel" because he handled so many steel cases. Is that an important part of the process? ...

The particular judge always matters, but the discretion is modest. ... There are bankruptcy judges ... who go home at night and weep over the [first-day] orders, understanding what is going to happen to the employees and the retirees in the communities where they live. But for many of them, their hands are tied. Congress [wrote] the rules, and the rules say the employees don't come first.

And yet if you go talk to some of the union leaders at the United Steelworkers [USW] today, and you go talk to management, they'll say to you, "Look, we've got several thousand people working now in the new company, and their benefits are as good as [or] maybe even better than some of the old." Does this process of bankruptcy pit active workers against retired workers so that active workers can be bought off?

Bankruptcy always pits the current employees against the past employees. It pits the young employees against the older employees. ... Anyone who is relying on a promise made in the past ... is the enemy of anyone who doesn't have any of those promises anyway and is hoping for a ... job in the new post-reorganization company.

The unions themselves are riven. They are doing their best to try to meet the needs of people who need jobs now and retirees who need pensions now. ... Within the union itself, we are often talking about brothers and sisters, fathers and uncles and fathers-in-law. The reality is that reorganization laws have put these two in conflict with each other. ... The law should never have permitted that to happen. If the ERISA laws had been written well to begin with, if they had been enforced as we went along, then that fight would never be necessary. ...

Does the survival of U.S. Steel, [which is still] paying defined benefit plan pensions, ... suggest that LTV and other steel companies could have adopted other strategies ... and honored those pension promises?

When we see surviving steel companies that are paying benefits, it tells us that there is enough of value in the steel industry to leave something on the table for the employees and retirees and still have something for the investors. ... The presence of an LTV Steel has an effect, however, on the steel companies that are surviving. It's changed the negotiation. The amount left on the table for ... the employees and for the retirees of the companies that have survived has begun to shrink. ...

What we have here is an unstable dynamic. Will the world become a world in which there is nothing left for the employees, [or] will there be some for the investors and some for the employees? Right now both exist in the steel industry; both exist in the airline industry. But Congress has written a set of rules that says the side where there is nothing left for the employees is the one that is more profitable for the investors, and so long as that option is on the table, there is a real risk that, over the next few years, all the companies [will] ... become the nothing-for-the-employee companies.

You have people working either in the companies or lawyers working for them ... who will say, ... "We've got to cut these legacy costs; they're an anachronism." ... What do you say to that?

This is the classic race to the bottom. Once one has gotten rid of their legacy costs -- and the law permits that -- ... everyone who competes with them has to do the same. The question up front about who will have what priorities if this business collapses is where the whole game is won or lost. Ironically it is the bankruptcy laws that are responsible for much of what has happened here, because bankruptcy laws currently say, "Banks, you can take it all." Because bankruptcy laws don't leave something one the table for employees and the retirees.

Every negotiation that takes place years in advance of bankruptcy takes place in the ultimate knowledge that ... if anything goes wrong, all the losses will fall over on the employees. ... So long as the game is written to say, "And if it goes bad, let's stick those guys," then we're going to have a problem in America. ...

And why should we care about that as a nation? ...

If we start to cheat America's employees, ... we start to hollow out the middle class. The middle class is what makes America America. It's what makes us strong economically; it's what makes us strong politically. ... It's the engine. ... And when you start saying to hardworking middle-class people ... who played by the rules, "They lied to you, and your government is going to back them up. You are not going to have any protection in your declining years; you're going to be dependent on your children, your grandchildren. In fact, maybe you will drag them down financially," ... then America isn't America anymore. ...

The consequences of losing your pension will echo through the American economy. People who don't have their pensions need to sell their houses in order to raise cash. If somebody gets sick and they need to sell fast, that pushes housing stock out onto the market. So I own a home; one of my elderly neighbors has to sell out and sell out fast, and that's not good for me.

People who don't have their pensions have to draw harder on the public system for their medical care, for their nursing home care. I pay my taxes every day. More of those taxes are going to go to taking care of those elderly people who thought they were taking care of themselves but who weren't, and who now as it turns out can't. Those effects reverberate in the economy.

When all of those individual workers, when those tens of thousands, hundreds of thousands, millions of people don't have the money they were counting on, instead of having an economy that grows, we have an economy that starts to shrink. ... And then comes the psychological effect, ... the people who are just scared: "I've got a job today, but do I know it's going to be there tomorrow? And what about that pension? I'm 15 years away from retirement -- will it really be there?"

So to the lawyer for the company who says corporate America has got to reorganize, what you are saying to them is, "You are courting disaster; you are playing with America's future. ... Don't do it"?

... Not only don't do it; you don't have the right to do it. The lawyer says, ... "My client is this corporation, and I'm doing everything I can to maximize profits." ...

No. We need to take a bigger view, and if that means it has to be done at the congressional level, ... then that's what we have to do. ... What we need is a new set of rules that does not permit corporations to put their short-term immediate profits ahead of the employees that have invested in these businesses for 20 and 30 years.

Are we looking at backdoor industrial policy? Are we essentially seeing reorganization of industries, in the case of steel, more obviously in the case of the airlines? ...

We are remaking industrial policy in America through the combination of the weak ERISA laws and ... bankruptcy laws that strongly favor the investors over the employees and pensioners, ... and we're doing it with no debate over the appropriate role of the worker and protection for the worker. ... For people who say this is long overdue, I say then let's have a debate about ... whether or not, as a matter of national policy, we want to have a world in which the only people who are guaranteed any ... value that is created in an industry are ... those people who bring capital to the table, and that there is nothing left over for the people who bring labor to the table. ... Let's have that debate. Let's not hide it off in weak enforcement of ERISA laws and in Chapter 11 of the bankruptcy laws. ...

We [have] had two great experiments, I suppose, in this field. One was with defined lifetime pension plan. Where does that experiment stand?

Well, many people think the defined lifetime benefit plan is going the way of the dodo, a cheerful offshoot that lasted for a while but is gone. But ... unlike the dodo, it's not gone because of natural forces. It's gone because Congress wrote a series of laws that killed it off. It's taken 30 years from ... the bankruptcy laws and the ERISA laws, but the combination will get rid of the defined benefit pension plan. It will be gone.

And what about the other experiment, which is the 401(k)? ...

The 401(k) experiment is coming into its own now. More and more, employees will be asked to cover it all themselves. That can be the good news in a rising stock market. That can be the good news if you don't get really sick when you get old. That can be the good news if you don't live very long after you retire. But all of those risks [rest] on each individual worker.

The way I look at is ... that all the little boats out in the harbor were linked to each other, and if one sprung a really bad leak, the rest of them kind of held it up. That was what defined benefit pension plans were like. Now ... all those little boats have been cut loose from each other. If one sinks here and one sinks over there, ... they just sink. If you happen to be on a boat that floats, you'll do fine, but if you're not, you drown.

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posted may 16, 2006

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