Broken Pension Promises, and You’re On the Hook

Posted On Dec 16, 2016 By Dave Gonigam

  • Can rum settle a debt among old friends?
  • The phony math that gussies up corporate pension plans…
  • … and why it matters to you even if you don’t rely on such a plan
  • Post-election follies: The Russia thing is no longer “behind us”
  • A “chilling, disgusting, vile distrust”
  • Gentleman farmers reading Aristotle: If history had turned out differently

We begin this Friday with some unfinished business from the Cold War. The last one, that is. (We’ll grapple with developments in the current one a bit later…)

The government of Cuba proposes to settle a $276 million debt to the Czech Republic… in rum.

The debt dates back to when Cuba and the former Czechoslovakia belonged to the communist bloc. Being rather short on cash these days, the Cuban government is offering rum or pharmaceuticals or both.

Valuable currency for settling intergovernmental debt

The pharmaceuticals are a no-go, since Cuban drugs lack European Union certification.

So rum it is. “However,” the BBC reports, “Prague said it preferred to get at least some of the money in cash.”

We can understand where the Prague government is coming from. Cuban rum is popular in the Czech Republic. But even at current consumption rates, an all-rum settlement would keep the country swimming in the stuff until well into the 22nd century…

Fun with numbers: Between the “Trump bump” in stocks and the leap in interest rates that came with it… U.S. corporate retirement plans are looking flush. The operative word here is “looking.”

Just since Election Day, the shortfall in these plans has been slashed by $116 billion — according to figures compiled by The Wall Street Journal.

“That should make it easier for U.S. corporations to meet their obligations to retirees,” says our income specialist Zach Scheidt. “And hopefully, retirees can sleep better at night, with confidence that their pension checks will continue to arrive on schedule.”

Here, the operative words are “should” and “hopefully.”

“While a $116 billion advance is certainly good news,” says Zach, “U.S. corporations are still left with a $414 billion shortfall. That’s money that corporations will need to add to their pension programs if they plan to meet their obligations to retirees.”

Bonus points: That $414 billion shortfall is still $10 billion higher than at this time a year ago.

And after you strip away the “looking” and “should” and “hopefully”… the picture gets even worse.

“You see, pension funds need to estimate how much cash they will have in the future,” Zach explains, “based on their current capital and an expected rate of return. November’s $116 billion advance was largely due to higher expectations for future investment returns.

“Basically, the pension funds are looking at higher interest rates and assuming that they’ll be able to grow their investments faster.”

It reminds us of how government accountants project future budget deficits: They assume there will never be another recession that would crater tax receipts. See? Fun with numbers.

But what’s it to you if you don’t have a traditional defined-benefit pension plan?

Plenty, Zach reminds us: “You can be sure that the federal government isn’t going to sit by and let corporate pension funds fail without stepping in and bailing them out.

“That doesn’t mean that retirees will be made whole. Who knows how the situation could pan out — but retirees could be forced to accept smaller monthly payments or reduced lump-sum payouts. But it does mean that the U.S. government could be saddled with huge expenses.”

On top of the expenses it’s already saddled with, we’ll add. The Pension Benefit Guaranty Corp. is supposed to backstop corporate pension plans, the same way the FDIC backstops your bank account. Unfortunately, the PBGC is broke, with assets of $88 billion and liabilities — from previous pension plan collapses — of $164 billion.

“And that means higher taxes for you and me,” says Zach, “and possibly another round of financial crisis in the U.S.”

It’s even possible retirees would be made whole in a crisis, or very nearly so — piling up the expenses even higher. The bulk of those retirees belong to a union; as of 2012, two-thirds of private-sector union members take part in a defined-benefit plan, according to the AFL-CIO. That compares with only 15% of nonunion workers.

President-elect Trump is surely aware of how many union rank and file broke with their leadership to vote for him. Would he leave them hanging?

Another way a pension crisis would affect you is your stock holdings.

“The pension fund shortfall affects big companies that trade on the U.S. stock exchanges,” Zach says. “If projections for future returns wind up being too optimistic (which I believe they will), and as these corporations are forced to put more cash into their pension funds, stock prices will likely drop.

“A fall in the stock market (due to lower profits as companies fund their pension plans) could hurt your retirement — even if you’re not counting on a pension check!”

Once again, we look longingly to our neighbors to the north for a real retirement solution.

The Canada Pension Plan is Canada’s version of Social Security. But unlike Social Security, it’s professionally managed. And unlike both Social Security and the typical corporate pension plan, it’s running a surplus and growing its reserves.

Here’s an updated chart of the CPP’s finances. “It shows not only the expected growth of the CPP fund,” says Zach, “but also the success of the CPP in beating expectations over the past several years”:

Even better, Zach tells us “the Canada Pension Plan currently boasts a 7.3% 10-year annualized return. That’s a tremendous rate of return, especially when you consider this return includes the 2007–09 financial crisis period.”

No wonder Zach is so keen on “piggybacking” the CPP for your own retirement. If you haven’t learned how to do so yet, you won’t want to miss Zach’s revised and updated introduction. Here’s where to go.

As the week winds down, traders are shrugging off any concerns about what a rising dollar means for corporate profits. At last check, the Dow is up a third of a percent, back in record territory above 19,900.

The dollar index sits at yet another 14-year high of 103.2. Gold is stabilizing after its post-Fed smackdown on Wednesday at $1,130. But Treasuries are losing ground again, with lower prices pushing yields up still higher; a 10-year note has now crossed the 2.6% threshold. Crude is rebounding at $51.75.

The big economic number of the day is housing starts, which badly missed expectations. But those numbers have been extremely volatile of late. Permits are always a better indicator of future activity, and those fell 4.8% in November.

No, that doesn’t jibe with the optimism in the homebuilder sentiment survey yesterday, but there you go.

On the geopolitical front, the question of the day is: What the hell happened to “that’s behind us”?

Yesterday, President Obama promised unspecified retaliation against Russia for its alleged interference in the election. “We need to take action and we will,” he told NPR, “at a time and a place of our own choosing. Some of it may be explicit and publicized. Some of it may not be.”

What changed since Nov. 20? On that day, Obama was in Lima, Peru, for an economic summit and he spoke briefly with Russian president Vladimir Putin. They talked about Syria. “The issue of the elections did not come up,” Obama told reporters, “because that’s behind us and I was focused in this brief discussion on moving forward.”

Today Putin’s spokesman said, “They need to either stop talking about this or finally present some sort of proof.” No luck there: The CIA is refusing to brief the House Intelligence Committee on the matter, even behind closed doors. Ditto the FBI and the Office of the Director of National Intelligence.

[Ed. note: “Russia is a natural ally” of the United States, says Jim Rickards in a provocative essay coming in today’s Daily Reckoning.

Gee… Will an article like that get flagged by Facebook’s new “fake news” filter? Anyway, keep an eye out for some out-of-the-box thoughts by our resident “Deep State rogue operative”…]

“So let me get this straight,” writes one of our regulars as we pivot to the “hacked election” topic in our mailbag…

“The real issue, according to the POTUS, the Dems, MSM, et al., isn’t that certain Democrats internally conspired and committed substantial acts toward preventing a fair election of Bernie Sanders, nor that it was proven that debate questions were fed in advance to Hillary by the media, nor the fact they showed snarky disdain toward certain groups and religions, and so on…

“No, the only issue is that the information was made public, allegedly through hacking of the Soviets?

[For the irony-challenged, we’ll note the reader is probably using the term “Soviets” deliberately even though the Soviet Union ceased to be 25 years ago this month. Please don’t write in to correct him.]

“No one is stating that any of the information that was released, by whatever method (phishing isn’t hacking, and there is no proof shown that anything was done by the Soviets), is false or even misleading.

“And by the way, who interfered in the election of Bernie Sanders? That seems to be a much more substantial case based on the leaked — sorry, I mean hacked — email evidence. And why is no one talking about the unmitigated gall and the tremendous irony that Dems and MSM now use interfering in an election as a heinous act perpetrated by the Soviets?

“I have a chilling, disgusting, vile distrust, and it is not against the Soviets.

“Love my country, fear my government.”

The 5: Pretty much. Before the election, they told us the emails were a nothingburger. After the election, they’re telling us the emails were decisive to the outcome!

But at no time did anyone credibly claim that anything released by WikiLeaks was phony. WikiLeaks has an unblemished record for releasing only authentic documents over its 10-year history. But it’s a “fake news” source, dontcha know…

“More good stuff in The 5 today,” a reader wrote after Tuesday’s episode this week, “but you are also guilty of perpetuating one of the hoariest canards of conservative folklore.

[Without retracing all our steps, we said government cannot create new wealth, but only take wealth from Peter to pay Paul.]

“This assertion is disproved by everyone from Adam Smith in The Wealth of Nations to Felix Rohatyn in his more recent book Bold Endeavors.

“Mr. Rohatyn was, of all things, an investment banker, back in the days when such people actually sought to create things that not only generated profits but added to the store of the world’s productive capacity to meet genuine human needs. In his book, published in 2009, he cites the transformative effects of everything from the Louisiana Purchase and the transcontinental railroad to the GI Bill and the Interstate Highway System, leaving out, for some reason, the creation of the internet, through which you and I are now happily communicating.

“The point of all of this is that while (good) governments do not directly hammer in the spikes of the transcontinental railroad or finish building the locks of the Panama Canal (after a private investment consortium failed at the task), they do ‘set things in motion,’ and they encourage the private sector to take on works of such a magnitude or so close to the ragged edge of the current state of available technology that single investors might shrink from taking such daunting risks.

“The debate over the proper role of government in such endeavors is an ancient one, but to suggest — as you seem to be doing today — that it has no role, or that has never accomplished anything of lasting worth or value, really doesn’t add much credibility to your otherwise thought-provoking commentaries.”

The 5: Point taken. But you raise an interesting question your editor has pondered now and then: What if, in the grand debate over what America was supposed to be, Jefferson had won the day over Hamilton?

After Hamilton’s generation came Henry Clay and his “American System” of protective tariffs, central banking and subsidies for “internal improvements” like roads and canals. The generation after that brought us the railroads — as crony-capitalist an endeavor as anything you could point to today. And so on…

But did it have to be this way? What if Jefferson’s vision won out over Hamilton’s? How would things be different? Would we lack many of the modern wonders that surround us?

We suspect not. We suspect human ingenuity would have still delivered modern wonders. Maybe even better ones. Certainly more resilient ones.

With scale comes vulnerability — sorta like Jim Rickards talks about in complexity theory. We’ve got a food distribution system that relies on the proverbial “3,000-mile Caesar salad.” We’ve got an electricity distribution system that relies on only three gigantic grids. When these systems go down, a single point of failure in Ohio can knock out power to 55 million people in the United States and Canada. (See “2003, Northeast Blackout of.”)

Perhaps in Jefferson’s world, more of us would still be growing our own food and powering our homes with wind and solar power aided by truly cheap and efficient batteries. Which lines up with Jefferson’s aspiration that we’d all be gentleman farmers tilling our fields in the morning and reading Aristotle in the afternoon (because we’d only have to work a few hours a day).

Would that be such a bad thing?

Have a good weekend,

Dave Gonigam
The 5 Min. Forecast

P.S. The man you’re about to meet has ZERO financial experience.

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