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Cost Shifting and the Freezing of Corporate Pension Plans

54 Pages Posted: 23 Nov 2013  

Joshua D. Rauh

Stanford Graduate School of Business; National Bureau of Economic Research (NBER)

Irina Stefanescu

Federal Reserve Board, Washington D.C.

Stephen P. Zeldes

Columbia Business School - Finance and Economics; National Bureau of Economic Research (NBER)

Date Written: August 31, 2013

Abstract

Many U.S. corporations have frozen defined benefit (DB) pension plans, replacing new DB promises with contributions to defined contribution (DC) plans. We estimate expected DB accruals from the age-service and salary distributions of a large sample of U.S. corporate pension plans with more than 1,000 employees. Comparing the counterfactual DB accruals to the actual increase in 401(k) and other DC contributions for firms that freeze, we find only partial compensation to employees for the lost DB accruals. Net of the increase in total DC contributions, firms save 2.7-3.6% of payroll per year, and over a 10-year horizon they save 3.1% of total firm assets. Workers would have to value the structure, choice, flexibility, or portability of DC plans by at least this much more to experience welfare gains from freezes. The forgone accruals and net cost effects are initially largest for older employees but over time become largest for middle-aged employees who plan to stay with the firms until retirement. Furthermore, the probability that a firm freezes a pension plan is positively related to the value of new accruals as a share of firm assets. While there are differences in the age-service distributions of firms that freeze versus those that do not, we find that the differential accrual effect is largely driven by differences in benefit factors and the relative importance of labor in the freeze firm's production function. The results overall support the hypothesis that pension freezes affect overall compensation and therefore that they change compensation costs relative to a worker's marginal product.

Keywords: defined benefit plans, pension freezes, pension cost, labor cost, firm value, benefit accruals

JEL Classification: G14, G23, G32, J31, J32, J33

Suggested Citation

Rauh, Joshua D. and Stefanescu, Irina and Zeldes, Stephen P., Cost Shifting and the Freezing of Corporate Pension Plans (August 31, 2013). FEDS Working Paper No. 2013-82. Available at SSRN: https://ssrn.com/abstract=2357987 or http://dx.doi.org/10.2139/ssrn.2357987

Joshua D. Rauh

Stanford Graduate School of Business ( email )

655 Knight Way
Stanford, CA 94305-5015
United States

National Bureau of Economic Research (NBER)

1050 Massachusetts Avenue
Cambridge, MA 02138
United States

Irina Stefanescu (Contact Author)

Federal Reserve Board, Washington D.C. ( email )

20th Street and Constitution Avenue NW
Washington, DC 20551
United States

Stephen P. Zeldes

Columbia Business School - Finance and Economics ( email )

3022 Broadway
Uris 825, Dept. of Finance & Economics
New York, NY 10027
United States
212-854-2492 (Phone)
212-208-4699 (Fax)

HOME PAGE: http://www.columbia.edu/~spz1

National Bureau of Economic Research (NBER)

1050 Massachusetts Avenue
Cambridge, MA 02138
United States

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