Lessons from a small government

We live in a private community in NE Pennsylvania which has approximately 900 homes, mostly second or vacation homes, but with a significant share of year-rounders.  For the last two years, I have been a member of the Board of Directors of our association.  The Board meets monthly and also attends two homeowner meetings.  The Board determines the annual budget and the dues assessed to support that budget, directs all major functions in the community and hears suggestions (and complaints!) from homeowners.  The Board is effectively the government of our association and I have learned some useful lessons about government during the last two years.  Some of these lessons include:

  • Most members will comply with the association’s rules without any reminder.  A second group will comply when the rules are explained to them (after accidental violation or through inquiries).  A third (small group) will comply when they are sanctioned in some way.  A fourth (tiny) group will only comply after legal actions are taken.   The best approach to non-compliance is a gentle persuasion, but willful obstruction has to be challenged.
  • Rules should be enforced evenly and fairly or should be done away with.
  • Not every problem should be solved with a new rule. Some problems are isolated and an additional rule may be superfluous.  Second, each new rule may impose burdens on innocent or well-intentioned members. Finally, each new rule must be enforced and communicated which makes it more likely that members will not know the rule.
  • It is impossible to contain every infraction of rules, however reasonable those rules are.  It is a mistake to try for 100% compliance because you will not be successful and you will create a culture of recrimination.
  • Even in a small community, where members are likely to know each other, and are able to attend meetings to petition the Board, misunderstandings occur.  Rumors circulate (on Facebook for example) and create enmity.
  • All good government is founded on self-government.  If members/citizens do not try to obey the rules and treat others with respect, you can’t impose good government.
  • Our Board members are conscientious and the discussions and decisions made have been reasonable, civil and sound.  If that were not so, and Board members attempted to enrich themselves or fight amongst themselves, the community would suffer and serious harm could be done.

Reflecting on what I have learned and applying it to the towns, states and Federal government of the United States, I see several problems:

  • Too many rules, especially those generated in Washington.  It becomes difficult for specialists to keep up with the rules, and impossible for private citizens.  Rules-making is an end in itself and there is no effective mechanism for evaluating and rescinding rules.
  • The further the government entity is from the people, the less restraint on it.
  • Bad motives by officials who seek to play off one group against another or mislead or lie to citizens is causing tremendous harm.  Honesty is considered a weakness when political advantage is at stake.


What’s so bad about income and wealth inequality?

I have to admire Thomas Piketty.  Has there been a more effective book promotion than that for his book “Capital in the Twenty-First Century”?  The promotion has been years in the making, with the Occupy Movement, the war on Mitt Romney and the ongoing efforts of Obama to stir up resentment of the wealthy.  As they say, you can’t buy publicity like that.

I have not read Piketty’s book and I am unlikely to (although I would not definitely rule it out).  I have read reviews and commentary, pro and con, enough so that I believe I understand the main features of the book:

  • Empirical data measuring inequality in various countries over several hundred years
  • Such data shows increasing inequality since WWII
  • Observation that if the rate of return on capital r exceeds the rate of growth g, those with capital will own an increasing share of the wealth
  • Increasing inequality is bad, so it must be combatted
  • One way of curtailing a tendency to inequality is the imposition of a global wealth tax, progressive, of course.

Critics have questioned his data and methodology in the last week or so.  That is an interesting controversy, but my questions are independent of his calculation methods.  What puzzles me is why some consider inequality to be harmful? I can think of several explanations why:

  • It creates resentment and jealousy in those who have less
  • It is unfair that some have so much more (e.g., current CEO’s earn 257 times the average employee)
  • The concentration of income/wealth in few hands will result in the impoverishment of the rest (i.e., there is a fixed pie)
  • The wealthy use their money to influence the government which will then oppress the rest of the population or steal their wealth
  • Related to the previous explanation, the wealthy have already rigged the rules of the game to favor themselves (e.g. property rights, contract rules, rules of incorporation)

First, isn’t it clear that individuals are unequal in key respects?  We are not born equal in intelligence, in athletic ability, attractiveness.  We differ in our willingness to work hard, our reaction to adversity, and our general optimism or pessimism in outlook.  We don’t choose the circumstances of our birth including the intelligence or wealth of our parents.  We may be lucky – in the right place at the right time or know the right people.  Is it any wonder that outcomes can be widely divergent and unequal?  Proposition 1 – individuals are naturally unequal which inequality leads to large differences in income and wealth.

Critics of inequality often use language which begs the question by describing income as something that is distributed.  Thus income is viewed as a common store which is doled out by some agency.  This creates an impression that those with more income have somehow jumped to the head of the line and took more than their “fair” shares.  There is no pot of income that is just sitting there for the taking aside from that which is created by the efforts of individuals – income has first to be created.  Under our legal system, the income that is produced goes to the those who produce it.  Income produced by groups of individuals is divided based on the agreed upon arrangement (e.g., employer/employee/investor/stockholder).

A second line of argument is that since the rules under which income is produced and allocated are enforced by a government, any such allocation is arbitrary and thus redistribution of the results is fine.  There are several problems with this argument.  First, when you leave people alone, trade and exchange naturally occur; it does not have to be imposed.  Consider the millions of businesses in the US economy.  The vast majority were started by individuals not in response to a government mandate but in service to individual desires.  The allocation of revenue is also determined by individual agreements; for example, employees receive certain periodic payments (wages), salesmen earn commissions based on sales and owners receive the residuals which represent profits.  The common law rules that govern such organizations have largely evolved without legislative action – humans are capable of working cooperatively and arrive at rules to govern their collaborations without top-down mandates.  Of course some will object that a key rule such as the limited liability corporation did not evolve but was created by a legislature but I don’t think that is a crucial objection – businesses existed before the rule and would exist without it. Proposition 2 – the rules governing the creation and ownership of income are not arbitrary and are based largely on standards evolved over time to govern cooperation between individuals.

Second, there is a key difference between establishing the rules of commerce and judging the results fair if the rules are followed on the one hand and altering the results afterward because you don’t like them.  The first approach allows for a system of individual freedom and non-interference while the second one requires a heavy state presence.  If the rules are stable and well-known, people can make plans based on them.  It may be objected that a system of redistribution can be set up in advance through income and wealth taxes that will run on automatic pilot.  For argument’s sake, I would concede the possibility, but believe that creates secondary problems connected with increased government power, which are discussed in more detail below. Proposition 3 – efforts to reduce inequality are inconsistent with a free society and would require/result in a much larger central government.

Another claim is that the increasing concentration of wealth allows the wealthy to commandeer the government and somehow oppress everyone else.  My understanding is that this is one of the key arguments in Thomas Piketty’s Capital in the Twenty-First Century.  I find this argument puzzling.  I recognize that individuals and organizations can manipulate the government to gain advantages through grants of monopoly, elimination of competitors, and contracts with the government.  I am in favor of reducing the powers of government to grant favors to the politically connected (while recognizing the difficulty of eliminating such favoritism). Aside from these areas, I do not see how government control is advantageous to those who have earned their wealth through free exchange.  At worst, I believe the successful have much less to gain from the government and a lot to lose, through taxation and the depredations of the political class.

The solutions that Piketty advocates, a wealth tax and punitive income tax, will increase the power of government and the attractiveness of government manipulation.  This seems to go in the wrong direction – a smaller government that spends less is a less attractive takeover target.  Finally, a larger government with more favors to dispense makes citizens less secure – for those receiving benefits, and for those funding the benefits.  If you are a recipient, your benefit can be withheld.  For an example, remember the success of the Democrats in preventing any modifications to Medicare by accusing the Republicans of killing grandma back in the 1990′s.    If you are a taxpayer, more of your income (and wealth) can be taken away, especially if you are identified as one of the undeserving rich.


What is your goal in writing, whether blog posting or commenting, or in face-to-face meetings?  It could be one of several:

  • Education – describing something that the reader might like to learn more about
  • Debate – presenting an argument to counter a competing argument
  • Insult – a putdown, the wittier the better
  • Expression – translating the thoughts in your head into words

What if your goal is to persuade?  How many are willing or capable of being persuaded?

I think there is a hierarchy of beliefs.   At the top is the general outlook of the person: optimist/pessimist, in favor of limited government or in favor of a large government, views on  business: generally helping us or are they trying to screw us at every chance, etc.  At a lower level are beliefs in the virtue of large projects:  healthcare reform, stimulus.  At the bottom are judgements about specific situations:  was the food good, what is the weather like outside.

It is very difficult to persuade a person to change his or her topmost beliefs, although it does happen, sometimes through experience or reflection.  When I was in high school I believed that society could be run much better if smart people were in charge of it (basically, the progressive outlook).  In college, I read Karl Marx and marveled at his analysis of society in economic forces (although I would never have considered myself a Marxist).  But I was exposed to classical liberalism in college through the works of Hayek, von Mises, Rothbard and Milton Friedman, and became a libertarian.  My views have changed only slightly since then.

In college, I was attracted to the logic of the libertarian position: no initiation of force.  Now, I realize that few will be persuaded on that basis – in the end the case for liberty must be made by showing how illiberal approaches are harmful and how limited government reduces tension in society by reducing the scope of all-or-nothing choices.


What is the persuasive style? A few characteristics come to mind:

  • Avoidance of ad hominem attacks
  • Make arguments based on specifics – avoid generalities (Bush is bad, Obama is bad) in favor of concrete examples.  Highlight a specific policy or action and enumerate the reasons why it is bad.
  • Do not respond to an attack with an attack
  • Keep a cool head
  • Be of good humor
  • Do not argue with those who are unpersuadable – remember - “It is useless to attempt to reason a man out of a thing he was never reasoned into.”
    ― Jonathan Swift

If you deflect heated words and parry with a temperate reply you will confuse your adversary and possibly open him or her up to the smallest particle of mind-changing.  Or not, but at least you will not be sucked in. When you wallow with pigs, expect to get dirty.  Stay away from arguments with fools, lest you look like one.

Gorging on the Beatles

My wife often says that she used to like the Beatles but I destroyed them for her by playing their music and talking about them too much.  Sorry, but let’s move on.

I finished Mark Lewison’s Tune In, which is the first of three projected books chronicling their history. Tune In takes them up to the end of 1962, on the verge of breaking out in England.  It starts before they were born, with excursions into Beatles family genealogy and the history and culture of their hometown, Liverpool.  According to Amazon, the book is 944 pages, so I won’t bother to give a detailed recap (I read in on the Kindle, so I wasn’t turning pages in the old way – there are a lot of footnotes after each chapter and at the end, so the actual text is probably 600-700 pages).

They were born during dark moments in Britain and grew up in modest circumstances. Starting with John Lennon, each was brought into a series of musical groups with shifting goals and personnel.  No drummer at first, but a surplus of cheap guitars.  Eventually, a mediocre drummer was added (Pete Best) and they performed around Liverpool until they were booked for an extended stay in the fleshpots of Hamburg.  Their job was to play multiple sets each night and day in front of drunks and gangsters.  When they returned to Liverpool, they had been transformed into one of the top draws.  But they would not have gone much further if they had not met a manager (Brian Epstein) who cleaned up their look and persisted in shopping them to indifferent record companies.  Finally, Epstein found someone who would give them a chance – George Martin, a record producer for EMI’s Parlophone label.  Martin was ambivalent, but felt that there was something about this young group.  The Beatles fired their drummer and replaced him with Ringo Starr and their lineup was set.  Tune In ends with the recording of their first record, Love Me Do.  Not a huge hit at first, but it stayed on the charts for an unusually long time, moving up and down, but generally higher.

What stands out from the Beatles early history?

  • The role of passion in driving them to immerse themselves in listening to and learning the music that they loved
  • Their quirky interest in unusual music and the B sides of records
  • Their interest in writing their own songs, apparent from an early age
  • The sharpening of their showmanship through marathon gigs in sordid Hamburg clubs
  • Serendipity – the appearance of key players who were essential to their success – Brian Epstein, George Martin, Astrid Kirchherr (who photographed them in Hamburg and gave them their Beatle haircuts)

I am anxious for the second book to come out.

Mark Lewisohn also wrote The Complete Beatles Recording Sessions: The Official Story of the Abbey Road Years 1962-1970.  This seems like it would be pretty technical and it is, but there are many interesting photographs which provide a history of their development.  In addition, it charts the evolution of their recording techniques, from the recording of their first album in less than 10 hours, to Sgt. Peppers, which took more than 700 hours.  The Beatles never stood still; they were always driven to innovate and invent.  Accidental sounds were incorporated in their recordings, strange effects became essential parts of their songs – note particularly the backward guitars that came into play on Revolver.  These sounds were not easily obtained: guitars were recorded and the tape was reversed for the final result. Today, you can go to Guitar Center and buy equipment to create bizarre effects.  Even Garageband seems has more capability than Abbey Road studios in the early years.  In the Beatles’ days, it was new, and it was hard work.

The effects of unprecedented fame and years of working closely together undid the Beatles.  During the later recordings, longtime engineer Geoff Emerick quit because he couldn’t stand the atmosphere in the studio.  They were demanding, they fought, they were torture to work with.  So many seek fame without understanding its demands.

Fame, (fame) lets him loose, hard to swallow
Fame, (fame) puts you there where things are hollow

(Fame, David Bowie, co-written with John Lennon)

The fame that the Beatles achieved was unique – it was a product of four outstanding talents who were confident enough to ride the wave for almost 10 years, it was a product of the times and chance.  It may be replicated again some day, but not soon.

Adam Smith warned us about Obamacare

I read an amusing but painful aphorism: “Good judgment comes from experience, and a lotta that comes from bad judgment.”  Most of us learn from experience.  We believe we know better when we are young and ignore the advice of our elders.  Time passes, we make painful mistakes  and eventually come to realize how much wisdom we ignored.

Despite our sophisticated technology and advanced knowledge, human nature has not changed in thousands of years.  Many of the lessons about human life and human folly which were noted by philosophers many years ago remain true and we ignore them to our own sorrow.

Adam Smith is recognized as the father of modern economics based on his Wealth of Nations, which was published in 1776 and which helped inspire the principles on which the United States was founded, among them free trade, free markets and limited government.  Less well known is a book that he wrote in 1759, The Theory of Moral Sentiments,   As described by the Adam Smith Institute, “It identifies the basic rules of prudence and justice that are needed for society to survive,and explains the additional, beneficent, actions that enable it to flourish.”

In this book, Smith described what he called “the man of system”:

“The man of system, on the contrary, is apt to be very wise in his own conceit; and is often so enamoured with the supposed beauty of his own ideal plan of government, that he cannot suffer the smallest deviation from any part of it. He goes on to establish it completely and in all its parts, without any regard either to the great interests, or to the strong prejudices which may oppose it. He seems to imagine that he can arrange the different members of a great society with as much ease as the hand arranges the different pieces upon a chess-board. He does not consider that the pieces upon the chess-board have no other principle of motion besides that which the hand impresses upon them; but that, in the great chess-board of human society, every single piece has a principle of motion of its own, altogether different from that which the legislature might chuse to impress upon it. If those two principles coincide and act in the same direction, the game of human society will go on easily and harmoniously, and is very likely to be happy and successful. If they are opposite or different, the game will go on miserably, and the society must be at all times in the highest degree of disorder.”

In other words, there are people who think they know how to arrange society and seek to impose their vision.  They put their plan into operation with highly detailed rules, penalties and prescriptions.  They override the individual desires of the governed and subject them to the will of the government.  In the end, the failure to take into account the desires and actions of the governed leads to disorder and unhappiness and in the end, the destruction and overthrow of the plan.

The failure to heed the wisdom contained in Smith’s words has caused great suffering.  The French Revolution attempted to remake society, but resulted in thousands of murders and the eventual reaction.  The various Communist revolutions led to millions of deaths, the oppression of the survivors and impoverishment of most of those living under these regimes.   Most very eventually overthrown, but a few miserable countries continue to live under these systems.

But the man of system doesn’t just try to remake entire societies, but can try to execute plans of more limited scope. We are living through the imposition of just such a system, which is formally known as the Patient Protection and Affordable Care Act.  Who could be against protecting patients and making healthcare affordable? But the law’s name was only a wish, an intention, designed to make it seem desirable.  Added to this branding PR, the administration has added deception and changes to the legislation by fiat in order to keep it afloat as its major provisions are poised to come into effect in 2014.

First came the problems with the Healthcare.gov website, which we are promised will be fixed.  Next came a wave of cancellations of policies and replacement with less desirable or more costly policies.  The chessboard pieces stopped moving smoothly and started to howl.  The number of enrollments is pitifully small for a law that promised universal coverage. This is just the start – next will come the employer policies which will not be compliant with the law.  More howling.  There are more clinkers in the law which will cause more damage and pain.


Want to bet that Obama did not read Adam Smith?

Adventures in healthcare and healthcare insurance

I retired in July of 2013, and elected to continue coverage under the high-deductible healthcare plan that I had when employed.  Even though the COBRA rate was much higher than the monthly rate before I retired (employer subsidy), I did not know what the effect of Obamacare would be and wanted to have a backup in case of difficulty. Good thinking, validated by subsequent events.

I did look at plans available on ehealthinsurance and found a few with substantially lower monthly costs. When I went to fill out the detailed application, there was a question about cholesterol.  I had been doing an experiment to see if I could discontinue the small statin dose I had been taken, but I found out that my cholesterol was significantly lower with the statin.  I called my physician and got a refill and began taking it again – she estimated that it would take about a month for it to have effect.  After taking it for 5 weeks, I decided it was time to get a blood test.

Under my HDHCP, the cost of the test was not likely to be covered as I was well below the deductible, so I thought I would shop for a test based on price.  I went to a lab connected with a local system and asked for the price. The nurse did not know the price and spent a couple of minutes searching on her computer before she told me that it was roughly $380.Aha – a price!  I thought that was high compared to what Labcorp (the authorized lab under my insurance, United Healthcare) had charged me in the past, so I checked their website, could not find a price, but decided to set up an appointment.  When I got there, one of the papers I had to sign was one indicating that I would be responsible for a charge of $233 if my insurance did not cover it.

I did also find a lab, Econolabs, which had prices for various tests, but I could not be sure if the tests that my doctor had ordered corresponded exactly to the ones on their list.  I think that their prices were a bit lower than Labcorp – maybe $150-200, but decided to err on the side of safety.

As soon as my tests come back (with an expected lower cholesterol level) I will return to ehealthinsurance and finish my application.  My worry is that for 2014, my HDHCP will be much more costly or eliminated.  I realize that any plan I get may be deep-sixed by the end of 2014, but I am not going on the exchanges, given what I have read about them.

My experience has driven home the key point of John Goodman’s excellent book, Priceless, which is the basic lack of a market in healthcare products and service (outside of some isolated situations).  Our country has prospered with a market economy.  Why is healthcare more like a Soviet-style system?

Does Social Security favor the “rich”?

Isn’t it obvious that Social Security (SS) favors the rich?  Let me count the ways:

  1. The tax rate is the same for all (6.2% for OASDI)
  2. Taxes only apply to wage income and ignore investment earnings, for example
  3. Taxes only apply up to the Taxable Wage Base (TWB), which is $113,700

Seems unarguable as long as you forget the relation of SS taxes  to SS benefits. Most taxes do not entitle the taxpayer to a specific service or benefit, so there is no advantage to paying higher taxes or disadvantage to paying lower taxes.  But SS taxes and benefits are linked via a “progressive” formula that favors the lower paid and disadvantages the wealthy.  The higher your income, the worse the deal is for you. To understand the effects of this link, you need to understand how SS benefits are calculated.

How SS Benefits are determined

The core benefit is the Primary Insurance Amount (PIA) which is the monthly benefit payable to the retiree at his Social Security Normal Retirement Age (SSNRA).  SSNRA was age 65 until changes were made in the 1980′s as part of big fix of SS finances.  SSNRA is based on the retiree’s year of birth.  I was born in 1951 and my SSNRA is age 66.  Younger workers will have SSNRAs as late as age 67.  You can elect to receive a benefit as early as age 62, but your PIA will be reduced – mine would have been 75% of the PIA if I had elected to take it at age 62.  I plan to defer it until at least age 66, but that is the subject of another post.

The PIA is based on the Average Indexed Monthly Earnings or AIME. AIME is the average of your Social Security Earnings adjusted for increases in the National Average Wage (NAW).  35 years of earnings is considered to be a full career – in that case your AIME is the sum of your indexed wages divided by 420 (35 years times 12 months).

Next, you apply the PIA formula to the AIME using what are called “bend points”.  There are two bend points and the BP that applies to you is based on their values when you attain age 62 (they change each year),  For someone turning 66 in January 2013 the BP are based on those for 2009. Those bend points are $744 and $4,483.  How are these used in the formula? All AIME up to the first BP are multiplied by 90%; all AIME in excess of the first BP and up to the second BP is multiplied by 32% and any AIME in excess of the second BP is multiplied by 15%.

A simple example will show how this works.  Assume AIME is $3,385 and the bend points are those for 2009. What is the PIA?

  1.  90% of PIA up to the first BP – 90% times $744 or $669.60, plus
  2. 32% of PIA above $744, but not above $4,483, or $3,385 less $744 ($2,641) times 32% or $845.12, plus
  3. 15% of AIME in excess of $4,483 or 0, because AIME is less than the second BP

The total PIA is thus $669.60 plus $845.12 or $1,514.72.  The actual benefit payable at SSNRA is about 5% higher because the COLA adjustments after age 62 are also applied.

How does the benefit vary for various pay levels?  The following chart shows the PIA at SSNRA for three compensation levels:

  • A worker whose earnings were always equal to the TWB – “high paid”
  • A worker whose earnings were alway equal to NAW – “Average paid”
  • A worker with low earnings (as defined by the SS calculator) – “Low paid”
Annual pay before retirement PIA as % of
High paid  2,533  8,073  110,100 31% 28%
Average paid  1,596  3,385  42,979 47% 45%
Lower paid  968  1,523  19,341 64% 60%

Remember that taxes are proportional to earnings.  If benefits were equivalent for each pay level, the benefits for each pay level would be similar.  The fact that the benefit proportions for the high paid are less than 50% of those for the lower paid and less than 2/3 or those for the average paid worker show that SS is a relatively bad deal for the higher paid, by a large margin.  Note also that for those whose earnings are a multiple of the taxable wage base, the benefit does not go up, but declines as a percentage of earnings.

Some will argue that the lower paid are less healthy and have lower lifetimes.  Even if that were true, it is not likely to offset the advantage that the lower paid have in the basic benefit.  There are also death and disability benefits which are available which are likely to be more valuable to those in worse health.

The illustrations shown in this post were developed using the downloadable calculator which is available at the Social Security website at this link.

Social Security – basics

What is Social Security?  Are taxes for SS really regressive and do the “rich” unfairly get a break by the cap on wages subject to tax?  Will this program vanish before the current 20-somethings (Gen X, Y or Z) reach retirement?

History of Social Security

The Social Security Act was passed in 1935 and taxes were first levied in 1937.  The original tax rate was 2% combined employer and employee, on income up to $3,000.  That was just a start – the following chart shows the combined tax rate, the maximum earnings on which taxes were based and the maximum combined tax each year:

SS rate chart

As you can see, things started small, but taxes climbed steadily.  A combination of repeated benefit enhancements and declining ratio of workers to retirees lead to an increase in taxes on workers.  Although almost half of American workers pay no Federal Income tax, most pay Social Security of FICA taxes.  Because the FICA tax is a flat rate and applies up to the wage base, many claim that FICA taxes are regressive and demand that the maximum taxable wage be increased, or that all wages be subject to tax.  As we will explore in a later post, this claim fails to take into account the Social Security benefit formula, which is strongly skewed in favor of the lower paid.  This also has important implications for retirement planning.

New-found respect for top bloggers

The only way you can really understand the difficulty of performance is to try it yourself.  I It could be sports, it could be music, but trying your hand at it makes you appreciate the talents of top performers.

I now appreciate how hard it is to write interesting blog posts on a daily basis.

Was there a “golden age” of retirement?

Apparently, the American retirement system is a mess where the failure of the 401k plan has left millions unprepared for enjoyment of a post-employment future.  The old system of defined benefit plans was dismantled by greedy employers and merger and acquisition vultures, leaving workers to rely on their own resources.  I haven’t watched it yet, but PBS  has run a documentaryThe Retirement Gamble, explaining how the 401k system has failed workers.

In the old days, workers were covered by a defined benefit plan and worked for one employer and then retired with few cares to live out the last stage of their lives on the golf course. Did they really?

First, a brief explanation of the difference between the defined benefit (DB) plan (the traditional pension plan) and the defined contribution (DC) plan (of which the 401k plan is the most common example).  The DB plan uses a formula to determine what the participant receives at retirement, as a monthly income.  Traditional formulas are typically based on the last 3-5 years of compensation at retirement, with a percentage based on the years of service.  A plan could provide 1% of final 5-year pay times the years of service; for example, an employee with average pay of $75,000 and 30 years of service would receive 30%  of $75,000 or $22,500 annually at retirement.  In practice, DB plans usually provide benefits at age 65, but also reduced amount at earlier ages, and also upon death and disability.

The key to the DB plan is that the output (benefit at retirement) is specified.  It is the obligation of the employer to see that the funds are available to provide the benefits.  He does this by using an actuary to determine the present value of plan benefits and how much the employer should contribute to the plan in the current year.  The risk of providing the benefits is undertaken by the employer (and by government agencies if the employer goes out of business).

The DC plan defines how much will go into the plan, and what comes out as a retirement benefit is variable.  It depends on the investment performance of contributions.  So, your employer might make a basic contribution of 3% of pay to the plan, and match 50% of the first 6% of your contributions.  You put in 6%, your employer puts in 3% plus a 3% match for a total of 12% of your pay contributed.   What you will have at retirement will depend on what you put in, and how well your investments perform.  The employer’s obligation is satisfied by making the agreed contributions and the risk (or reward) that the balance will be adequate for retirement is borne by the participant.

The DB plan rewards a long tenure with the employer, especially with your last employer, for two reasons: longer service means a greater benefit and the average pay is based on the years immediately prior to retirement.  If your service is divided between two employers with identical DB plans, your benefit would be significantly lower because the earlier one would be based on (lower) pay well before retirement.  DC plans do not have this disadvantage – you can build the same benefit as long as you maintain your contributions and do not withdraw money early.

Since tenure is key for the DB plan, how has this changed over time?  The Employee Benefit Research Institute is a valuable resource in this and many other areas related to employment and retirement benefits.  They have tracked job tenure by age and gender since the early 1950s.  What you see is that job tenure, while lower than in the 1950s, is not radically different. In figure 2, job tenure for males 55-64 peaked at 15 years in 1983, but is still 10+ years currently; in terms of a DB plan formula this is not a huge difference.

What about plan coverage?  Once again, from EBRI, the following shows coverage by medium/large and small employers. For large and medium employers, 84% of employees were covered by a DB plan in 1980, declining to 30% by 2010.  For small employers, only 20% were covered by a DB plan in 1980, declining to 9% by 2010.  The following chart from EBRI shows the percentage of private sector workers covered by DB, DC or both plans.  Even in 1979 only 38% were covered by a DB plan.

So even in the golden era, only a minority of employees were covered by a DB plan and most had not spent their entire career with a single employer.  Although any DB plan was useful, those who were covered by one were more likely to have an benefit that supplemented retirement rather than provided the main source of income.  If that was a golden age, only a minority of workers benefited.