THE ACTION TAKEN

In response to the severe downturn in the worldwide capital markets (see charts), effective April 1, 2009 the Board of Trustees of the Central Pension Fund reduced the rate at which future benefits will accrue. The benefit accrual rate for contributions after the effective date was reduced from 3% to 1%.

This action does not reduce or in any way affect the benefits currently being paid to pensioners and their beneficiaries. Likewise, this action does not reduce or in any way affect the amount of benefits accrued prior to April 1, 2009 by active participants.

For example, if a retiree was receiving a monthly benefit of $1,000 a month as of March 31, 2009, that same benefit will continue unchanged; and if an active participant had an accrued benefit on March 31, 2009 of $1,000 per month, payable at his or her Normal Retirement Age, that accrued benefit remains unchanged.

What has changed is that for active participants, the same contribution amount going forward will accrue a benefit only one-third as great as previously. For example, if in the year prior to April 1, 2009, a participant had worked 2,000 hours with a CPF contribution of $3 an hour, that $6,000 in contributions would have earned an additional monthly benefit of $180 at Normal Retirement Age ($6,000 x 3% accrual rate = $180). If, however, in the 12 months following April 1, 2009 the participant works 2,000 hours at $3 per hour, he or she will earn an additional monthly benefit of $60 ($6,000 x 1% accrual rate = $60).

It is important to remember that this reduction in the future benefit accrual rate can be offset by increased contributions that may be negotiated in future contracts.

CRISIS DEMONSTRATES THE STRENGTH OF DEFINED BENEFIT PLANS

While reducing the rate at which future benefits will accumulate, this action is a powerful example of the superiority of defined benefit pension plans over 401(k) plans.

By design defined benefit plans can accommodate even the most severe economic crises, by adjusting future expectations while preserving all benefits earned to date. 401(k) plans have no ability to protect anything previously accumulated.

It is this protection of accrued benefits that explains why CPF reduced the future accrual rate by 67% when the Fund experienced asset losses of only 26% in the most recent fiscal year. Logically it would seem that a 26% loss in assets could be offset by a 26% reduction in benefits. That would be true if CPF reduced not only the rate at which future benefits accrue, but also reduced benefits accrued to date, and reduced benefits currently being paid to pensioners and their beneficiaries. However, because defined benefit plans always protect both the benefits accrued to date, and the benefits currently being paid, a disproportionate reduction to the rate at which future benefits will increase is required.

In addition, a 2006 change in federal law requires a larger reduction in the future accrual rate than did prior law. Prior law permitted defined benefit plans greater flexibility over time to align benefit liabilities with investment returns. However, the new law requires an accelerated response. It requires that adjustments for asset losses be made over a time period of as little as 7 years, versus the 30 years permitted previously. The effect of the shorter time period is to increase the magnitude of the required change. This concept is similar to how home mortgage payments differ if the mortgage loan is made over 30 years, versus 15 years. Mortgages with shorter maturities require a higher monthly payment. Similarly, benefit adjustments required to be made over a shorter time period require a higher adjustment.

This ability to respond to an economic collapse greater than any since the Great Depression --- while fully protecting all accrued benefits --- is a true testament to the strength of defined benefit plans.

CRISIS EXPOSES THE WEAKNESS OF 401(k) PLANS

The protection provided to defined benefit plan participants stands in stark contrast to the plight of those who must rely entirely upon 401(k) plans for their retirement security.

Everything that 401(k) participants accumulate in their retirement accounts is always completely at risk and subject to sudden depletion by the investment markets. And that is exactly what has happened over the last year. 401(k) account balances have taken a nose dive. Assets saved for years have simply disappeared.

Even more unfortunate are those 401(k) participants who have already retired. The national media has recounted countless stories of those who retired on their 401(k) accounts prior to the economic crisis, and are now --- having aged into their 60’s and 70’s --- seeking to return to work because they cannot survive on their reduced 401(k) balances. And, tragically, they are trying to find work at precisely the same time that unemployment is spiraling upward due to the same economic crisis that devastated their 401(k) accounts.

THE FUTURE

While no one can predict when the capital markets will recover from the current crisis, CPF participants can rest assured of three things:  First, their accrued benefits are protected; Second, they can continue to increase their benefit accruals by increasing contributions at the bargaining table and; Third, the Board of Trustees of the Central Pension Fund will begin to restore the benefit accrual rate as soon as prudence and sound financial judgment will permit.