What are the pros and cons (from all of the employer’s, employee’s, and society’s perspective, because, hey, you are the all-knowing Grumpies) of “lumpy” benefits. By “lumpy” I basically mean something that’s a step function with a long time-horizon; for example, at 30 years of service my DH’s pension got MUCH more valuable than it had been at 29 years, 364 days; if I work where I am now until DS is a college student (and the system doesn’t get tweaked, or tweaks are grandfathered), we’ll qualify for a great tuition benefit (provided, basically, that he goes to an expensive school — it’s structured as a % of tuition with a noticeable but not huge deductible). Actually I could debate that latter from all sorts of angles (fairness, value, moral hazard on the part of the student), but for now I’m just asking about the employer/employee relationship.
Ok, so lumpy benefits are related to Lazear contracts, which we discussed here. Lazear contracts being one type of lumpy contract that is used in situations in which employee monitoring is difficult and employers want to keep employees working hard so they don’t get fired.
Employers: These odd benefit structures are generally used by larger companies that have a lot of firm-specific human capital building– they want employees to stay and learn things that will help them at the specific firm but won’t necessarily help them outside that firm. Employers like knowing that they can encourage employees to stay for a full 30 years on the job, and then hopefully retire soon after that in a predictable fashion, having trained up a replacement. That’s the idea. Employers can also offer lower wages during the earlier period with the promise of a big lump benefit later on, and if the employee leaves before that period, then the benefit is never realized and the company has not lost as much from their investment. And, as discussed earlier, having delayed benefits decreases the need for monitoring of employees because the loss if caught is so high for an employee who has not yet vested.
Employees: In general, employees like deferred compensation, that is, they like having increasing income and bigger benefits later on, rather than say, having real income degrade each year because of salary compression and inflation (*cough*). Many employees, particularly the reliable ones who don’t get bored (they’re not “scanners” in Barbara Sher’s terminology) like the ability to stay with one company, and they like being able to predict what their future income stream, expenditures, and employment are going to be. Being in that situation in which they know how long the company wants to keep them and when their benefits are going to vest adds to that predictability.
Society: When employees get delayed compensation, that’s a form of forced savings (in theory, they are trading in a lower salary today for a lump sum benefit later). When people who are spendy are forced to delay their compensation, that’s good for society because that means we have to worry less about impoverished retirees or huge amounts of student debt, or whatever the delayed compensation scheme is giving out in benefits. In addition, if folks have lower wages early on, they get used to spending less while they’re earning income, and they have more money later for things society cares about: tuition, health care, and not eating catfood.
Employers: Sometimes within that 30 year period things change for the employers and industry and employers find that they promised more when times were good than they can afford to pay out but are still committed to when times were bad. This is less of a problem in private industry than in public because the government put in regulations about how much money firms have to have in their, say, pension plans so in general they have funded pension plans. The money is there and can’t be completely raided for other things. Ironically, there are no such regulations on government plans, which explains say, the situation in Illinois which has promised a lot more than it can give out ever. (Ironically again, Wisconsin’s pension plans were/are mostly funded! All that union-busting was not needed in Wisconsin.)
Employees: Lumpy benefits can lock employees into jobs they would not otherwise keep if it were not for waiting to vest the benefit– this is termed “job lock” (job lock also refers to keeping your job for the health insurance). My MIL finally left a job she hated 2 years before vesting her pension because she just couldn’t stand it anymore– and wished she’d made that decision at least a decade earlier. Eventually the carrot wasn’t enough to keep her there, but it kept her longer than she should have stayed.
Current generations tend to prefer mobility to stability in terms of benefits. They like being able to get outside salary offers and are less likely to trust firms not to reneg on their promises. And indeed, shady employers do sometimes reneg on lumpy benefits, firing employees without cause right before a benefit is vested.
Society: Job lock is a problem for society as well as for employees. When employees don’t make as productive a match as they otherwise would, less stuff is made, stuff is more expensive, and everybody loses.
State governments use lumpy benefits to make promises they cannot keep. Because of short political cycles, the people making the hard decisions in the future when the bills come due will be different people than the ones giving out the deferred compensation benefits. We’re starting to see those bills coming due now.
ERISA also makes it difficult for employees to stay with the same firm after they start drawing down a pension– this has negative implications for employers, employees, and society when the worker’s most productive match is to do part-time work for the same firm but they can’t live on a part-time salary.
Hopefully that’s enough of a discussion for the main post… there’s probably aspects I’ve missed, but it should cover many of them. Feel free to add things for bogart in the comments!