State Pension Funds: Evidence of Public Class’s Overcompensation

Gubernatorial candidate Rick Snyder has promised to bring public employment costs down to private-sector averages, though MIRS reports (subscription required) that he expects this to be "one of the toughest things that the next governor has to do."

Public employees in Michigan receive compensation packages that are generally more expensive than in the private sector, and the biggest disparities exist in the cost of benefit packages. The difference between the two is estimated at $5.7 billion. A new study details the costs for one type of benefit - retirement packages - and shows that the benefits provided by the state's two largest pension plans are substantially out-of-line with the private sector. Retirement benefits in the plans cost between 19 and 37 percent of employee wages, while the private-sector equivalent among major Michigan employers is around 7 percent. Thus, members of these two plans receive benefits that are 3 times to 5 times higher than private-sector retirement benefits.

The study used data from Aon Hewitt, a human resources consulting firm, to look at the average benefits offered by 22 major Michigan private-sector employers. While Michigan government offers pensions  for state and school employees in its two largest plans, most private-sector employers offer 401(k) plans and other "defined-contribution" plans. Half of state government employees, however, are now on defined-contribution plans.

In addition, the state offers retiree health care benefits that have been essentially eliminated in Michigan's private sector. Only 3 of the 22 companies in the Aon Hewitt survey offered any kind of employer subsidization of retiree health care benefits, while state and public school employees are currently offered up to 90 percent of the state's health insurance premium bills.

The cost of providing this benefit in the 2009 fiscal year was $1.1 billion, up from $0.6 billion in fiscal 2000.

While it's possible to design a pension plan that is as inexpensive as a 401(k) plan, the state's current offerings are far from it. The study showed that private-sector average costs for Michigan major employers' defined-contribution plans are around 6 percent of an employee's salary. In contrast, the state's pension system costs taxpayers 12 percent to 24 percent of employees' salaries. Retiree health care adds another 7 percent to 13 percent to the cost of employment in the private sector.

Recent revisions to the state's retirement system do little to bring these benefits back in line. If Michigan's next governor wants to benchmark government employee compensation to the private sector, further reform will be required.