National Conference on Public Employee Retirement Systems

The Voice for Public Pensions

The Hidden Costs of Pension Reforms: Rising Income Inequality, Lagging Economic Growth

The Hidden Costs of Pension Reforms: Rising Income Inequality, Lagging Economic GrowthA 2024 study from NCPERS finds that the shift away from pensions to 401(k)-style plans has increased income inequality. The Hidden Costs of Pension Reforms: Rising Income Inequality, Lagging Economic Growth examines the relationship between pension reforms (consisting primarily of benefit reductions) in both the private and public sector, income inequality, and economic growth.

The study finds that policies that reduce pension benefits or promote transitions to defined contribution plans, which are usually implemented to save money, may end up costing more due to the dynamic interrelationship between pension reforms, income inequality, the economy, and market returns.

In order to isolate the impact of reducing pension benefits or access, lead researcher Michael Kahn examined other variables that impact income inequality, including the lack of investment in public education, regressive taxation, and a decline in union membership. The analysis found that each of these variables has an inverse relationship with income inequality.

Historically, many policy makers have made cuts to pensions and embraced regressive taxation models with the idea that economic benefits will ‘trickle down.’ However, this new research makes a powerful statement about the dangers of this approach and the risks we face with rising income inequality. By broadening access to pensions, instituting a progressive tax framework, or promoting workers’ right to organize, we can help increase income equality and ultimately create a positive ‘trickle up’ economic effect, the study concludes.

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Diving deeper into the study’s findings, key takeaways include:
  • Between 2000 and 2020, income inequality increased by approximately 18 percent. Rising inequality reduces growth in GDP by 2 to 4 percentage points annually.
  • When income inequality rose by one unit in a state, the annual rate of economic growth in that state fell by 2 percent.
  • The share of the US workforce covered by pension plans decreased by 13 percentage points from 1977-2021. During the same time, the top income quintile earned almost 14 times more than the bottom quintile in 2021 compared to only 7 times more in 1977.
  • A single negative pension change (i.e. benefits reduction, creating plan tiers, increased employee contributions, or plan closures) increased the ratio of the top to bottom income quintiles – the study’s measure of income inequality – by 0.27.
  • The decline in union membership is highly correlated with income inequality at -0.97, indicating that as union membership declines, income inequality rises. 
  • The marginal tax rate declined from 70 percent in 1977 to 37 percent in 2021. During the same period, income inequality nearly doubled.
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