In 1996, the Michigan state legislature passed a first-of-its-kind bill that closed the state employees’ defined benefit pension fund to new members and created a defined contribution pension system for future hires. Members already in the defined benefit system were allowed to remain and their benefits continued to accrue as originally promised, though the workers were given an opportunity to take a buyout of their earned benefits and have those transferred to a defined contribution account. New workers had their pension contributions put into personal accounts that they could manage on their own and take with them if they left employment with the state.
Given that the state employees’ defined benefit fund had a relatively healthy funding ratio at the time, this was an unusual move. But in retrospect, the decision seems highly prescient. Pension reform in Michigan has meant the State Employee Retirement system is more solvent today than if the legislature had not closed the defined benefit plan for new hires, with a full system funded ratio of 88% as of 2015, compared to an estimated 68% funded ratio without reform.
However, while Michigan provides valuable insights for how to pursue adopting pension reform—such as taking sufficient time to fully analyze a pension plan’s problems, avoiding conflict by communicating with all parties, and having determined elected officials leading the effort—the state has also provided an example of how not to manage the implementation of pension reform.
This 2016 update to our original study finds:
- Michigan’s poor management of the pension reform process has directly led to the state’s growth in unfunded liabilities over the past two decades. A properly managed pension reform process would have added about $8.4 billion to the assets of state employee retirement plan as of 2015, meaning the plan would be overfunded instead of deep in the red.
- Closing the state employee defined benefit plan has prevented the state from taking on even more unfunded liabilities than without a change. But the positive effects of pension reform have been muted by the failure to manage the defined benefit plan well as it is being closed over time.
- Collectively, the process of reforming the Michigan State Employees’ Retirement System provides a number of lessons for policymakers today facing similar challenges to their pension plans.