5.24.2009

Dependency Ratios for Companies and Countries

I've been devouring Malcolm Gladwell's slate of New Yorker columns the last couple days.  I especially enjoy the way he looks at common problems in a unique light.  For instance, in regards to national growth spurts and corporate pensions he highlights the importance of the dependency ratio, which is the ratio of dependent members of a group to productive members: 

Demographers estimate that declines in dependency ratios are responsible for about a third of the East Asian economic miracle of the postwar era; this is a part of the world that, in the course of twenty-five years, saw its dependency ratio decline thirty-five per cent. Dependency ratios may also help answer the much-debated question of whether India or China has a brighter economic future. Right now, China is in the midst of what Joseph Chamie, the former director of the United Nations' population division, calls the "sweet spot." In the nineteen-sixties, China brought down its birth rate dramatically; those children are now grown up and in the workforce, and there is no similarly sized class of dependents behind them. India, on the other hand, reduced its birth rate much more slowly and has yet to hit the sweet spot. Its best years are ahead.

Gladwell rightly notes that the concept of company-funded pensions and health care is a dead-end street.  If the company becomes more productive, it lays off workers and creates unproductive obligations.  Since it must continue becoming productive, the only reasonable solution is endless growth - which is not possible in the scheme of decades and generations.  Hence, he says, we have perverse market incentives like GM selling cars at a loss in order to keep from laying off its workforce.

Gladwell's proposed solution is government pensions and health care: 

If you combined the obligations of G.M., with its four hundred and fifty-three thousand retirees, and the American manufacturing operations of Toyota, with a mere two hundred and fifty-eight retirees, Toyota could help G.M. shoulder its burden, and thirty or forty years from now—when those G.M. retirees are dead and Toyota's now youthful workforce has turned gray—G.M. could return the favor. For that matter, if you pooled the obligations of every employer in the country, no company would go bankrupt just because it happened to employ older people, or it happened to have been around for a while, or it happened to have made the transformation from open-hearth furnaces and ingot-making to basic oxygen furnaces and continuous casting.

I find this conclusion strange in a couple of ways, considering the evidence to the contrary in Gladwell's piece.  The first is his several-paragraph explanation of the deleterious effects that high dependency ratios have on not only businesses, but nations as well.  We see every year or so one or two countries go bankrupt or hyperinflate their currency.  Right now it's Zimbabwe and Iceland.  It happens with empires too - in fact, it's pretty difficult to bring an empire down in any way except economic collapse.  The argument that we would all be safer by concentrating risk with one payer rather than each company paying is ridiculous - the bankruptcies might be separated by centuries rather than decades, but the effects are so much worse that it's difficult to even compare the two with a straight face.  One notes that this doesn't happen to nearly the same degree with small corporations; why would making the pool larger make us all better off?

The second piece of evidence comes from Gladwell's open offering of, yet complete ignorance of the other, better answer: 

When Bethlehem Steel filed for bankruptcy, it owed about four billion dollars to its pension plan, and had another three billion dollars in unmet health-care obligations. Two years later, in 2003, the pension fund was terminated and handed over to the federal government's Pension Benefit Guaranty Corporation. The assets of the company—Sparrows Point and a handful of other steel mills in the Midwest—were sold to the New York-based investor Wilbur Ross.

Ross acted quickly. He set up a small trust fund to help defray Bethlehem's unmet retiree health-care costs, cut a deal with the union to streamline work rules, put in place a new 401(k) savings plan—and then started over. The new Bethlehem Steel had a dependency ratio of 0 to 1. Within about six months, it was profitable.

So the answer here was not spreading the risk among companies, per se - although that was the effect, since workers basically diversified the risk of Bethelem Steel going bankrupt by buying stocks and bonds in a wide range of companies and governments.  It was the opposite - mass-individualization.  The key is to put workers in control of their own retirement and health care costs through individual accounts.  The company now gives them cold, hard cash (with strings attached to be sure, but it's still their's) instead of IOUs.  They share profits during good times.  They take it with them when they leave, and when the company goes bankrupt.  Sounds pretty socialist to me.

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