Published by EH.NET (October 1998)

Steven A Sass, The Promise of Private Pensions: The First Hundred Year


Cambridge: Harvard University Press, 1997. ix + 332 pp. $39.95 (cloth),

ISBN: 0-674-94520-4;

Reviewed for EH.NET by Samuel H. Williamson, Department of Economics, Miami


The rise and fall of private pensions in the United States is very much a

twentieth-century story. Thus, publication of this book by Steve Sass is well

timed. It tells the story of how the institution takes off with the creation of

the Pennsylvania Railroad Pension in 1900, peaks in the postwar period, and

slides into decline in the last two decades. In chapter one,

Sass explains that during the first half of the 19th century most men worked in

handicrafts or farming, and support in old age was provided by their offspring

who had taken over the family

business or farm. The last third of that century saw manufacturing employment

increase at twice the rate of population growth, and these new workers needed

to find a different way to provide for their old age. This was also a period

when banks,

insurance companies and the stock and bond markets were developing many new

financial capital instruments for retirement saving. While there is some debate

on the adequacy of these new methods of “life-cycle”

saving practices, it is clear that for many older workers “retirement was not

an option they could afford.”

This was also a period of widespread labor unrest, with violent strikes and the

rise of labor unions. As the nineteenth century ended, employers faced an aging

workforce with potentially diminished capacity. In response, some of the more

enlightened employers started providing a variety of benefits for their

workers–a response that has been called “welfare capitalism.”

The railroads were the nation’s first large business and the first to develop a

hierarchical labor structure. Sass lays out how the industry started the first

pensions, basing them on three different rationales:

career, welfare and efficiency. In 1874, the Grand Trunk, a Canadian line,

created a pension only for their management. The

plan required employees to join by age 37 and remain at work until at least age

55. The pension deferred part of their wages until retirement, thus “buying”

loyalty in what labor economists call a “wage-tilt” contract. Ten years later,

the Baltimore and

Ohio added pensions to a relief program that already included death, accident

and sickness benefits. Such relief plans required membership contributions, but

worker membership was voluntary. In 1900 the Pennsylvania Railroad, the largest

private employer

in the country,

established the first modern pension. After much study and deliberation, it

created a plan that was equal to one percent of the average wage in the last

ten years of employment times the number of years worked. The plan,

including a mandatory retirement age of 70 and covering all workers, was

justified as a “payroll” saving since older workers could be replaced with less

expensive and more productive younger workers. In order for the company to

have complete control, the plan was noncontributory and the pension board did

not include labor representation. (Sass is in error when he states that

“Because of the thirty-year service requirement, the original cohort of

retirees in 1900 had all been hired prior to 1870″ (p.

58). The 35-year service requirement was needed only to qualify for disability

at age 65 to 69; all workers who reached age 70 were pensioned regardless of

length of service. The new maximum age of hiring at 35 was designed to make a

minimum tenure of 25 years the rule, but this rule applied only to new hires.)

The Pennsylvania plan established a model that was soon followed by

other railroads and large corporations in other industries during the next


years. At first pension plans were justified as a tool to increase


loyalty, and to reduce strikes and turnover. As employers found that pensions

were not very successful meeting these objectives, they became more interested

in the value of mandatory retirement. This was the period of scientific

management, when

it was thought that older workers (over 45)

could not keep up.

In chapter 4, Sass explains that private pension providers at first had little

understanding of the actuarial realities of the pension plans they were

creating. During the first two decades of this century, most large

corporations financed their pensions from operating funds and had no reserves.

After the well-publicized failure of the Morris Packing Company pension in

1923, suggestions for reform came from government, consultants and insurance

companies, specifically, that pension cost should be accrued,

funds should be held with an independent fiduciary, and workers should be

vested. Reforms were resisted on all three counts. From the beginning, most

plans were non-contributory so that employers could terminate them at any

time. Actuarial costs were difficult to estimate with most plans because

benefits were based on final salaries. Building trust funds was expensive and

these might be seen as employee assets. Corporations did not want to turn over

funds to another institution when they felt they could better use the funds

themselves. Finally, vesting was the least desirable idea, since employers

wanted to give pensions to reward only long-serving employees. In general,

there was a conflict

between the reformers’ view of pensions as deferred wages and the

corporations’ views of pensions as tools for controlling their workforce.

In chapter 5, Sass discusses how the Depression and the New Deal affected

private pensions. In the early ’30s, railroad workers succeeded in pressuring

Congress to nationalize all railroad pensions. At first,

carriers resisted for fear they would lose the control and loyalty a pension

engendered, but finally agreed to a revised plan in 1937 (after the original


plan was declared unconstitutional). The Railroad Retirement Act was the first

step in the process of creating Social Security. One interesting aspect of the

debate on this program was the Clark Amendment,

which proposed to allow “corporations with plans

no less advantageous to their employees to opt out of the federal program.”

In the end, however,

corporations were happy to have the government take over. They hoped that

Social Security would be mostly a welfare program for the poor, so corporations

could influence workers by augmenting the government program with their own.

After the Act went into effect, most private pensions, new and old, became

“integrated” with Social Security; private pension benefits were reduced by

what the retiree was receiving from Social Security.

The tax increases of the New Deal also created an incentive to use pensions for

tax relief. Several changes in the tax code were made to tighten control of

pension plans. The most important was the 1942 Revenue Act,

which imposed

a variety of rules on pension plan tax exempt status. Under normal

circumstances this would have discouraged the creation of new plans,

but during World War II, tax rates became very high and at the same time there

were wage controls. Thus by increasing

the promised pension, firms could give raises in the form of deferred wages

and get a tax deduction by putting more funds in the pension reserves.

Chapter 6 examines the postwar period and the importance of union bargaining

after the 1948 NLRB declaration that pensions “lie within the statuary scope

of collective bargaining.” First the United Mine Workers and then the CIO began

pushing for industry-wide standards for pensions. Their success is measured by

the fact that between 1945 and 1960 almost entirely due to union initiatives,

pension coverage increased from 19 to 40 percent of the workforce.

In chapter 7, Sass discusses how the pension industry reorganized.

Insurance companies continued their efforts to convince employers to turn the

functions of

their pensions over to them. Results were mixed: most companies preferred to

self-insure but actuarial consulting firms competed successfully to provide

other services.

In chapter 8, Sass explains how, after over a decade of political debate, a


new set of federal regulations of private pensions– the Employment Retirement

Income Security Act (ERISA)–was signed into law in 1974. Issues addressed in

the debate over reform were vesting, faster funding of past services, employer

liability and federal pension insurance. Jimmy Hoffa’s misuse of the

Teamsters’ pension fund and the failure in 1964 of the UAW Studebaker pension

were important impetuses. Employers continued to resist the possible loss of

freedom in setting pension rules and the expected increased costs from vesting

and past service funding requirements. Over the period of debate, however,

voters learned of more cases in which pensions failed and workers lost, and

pressured Congress to act. When Gerald Ford sought to deflect national

attention from his pardoning Nixon,

Congress gave him the ERISA bill to sign on Labor Day, 1974.

In the epilogue, Sass neatly summarizes what he sees as the factors

contributing to the post-ERISA decline in pension coverage. His theme is that

the private

pension system was a creature of big labor, big government and big business.

During the last quarter of the century, “all three either grew weaker or became

less interested in pensions.” In the 1960s and 70s,

unions negotiated increases in benefits and earlier retirement with full

benefits. This added expense prompted employers to reduce their pension

obligations, while the ability of unions to resist this reduction eroded;

by 1994, union membership as a percent of the workforce had fallen by over 50

per cent. Insufficient terminations greatly increased claims on the Pension

Benefit Guaranty Corporation, so Congress raised the premium that sponsors had

to pay and narrowed the discretion they had in selecting actuarial assumptions

such as the discount rate. At the same time, net wages were reduced as Social

Security contribution

rates were raised out of concern for the program’s viability. Finally, since

the maximum federal tax rate fell from 70 to 34 percent in the 1980s, the tax

deferment advantage of a

pension became less important.

Sass contends that, in the corporate sector, the market for labor was changing.

Human capital was becoming less firm-specific, and productivity was more

important than long and loyal service. When mandatory retirement was abolished

in 1986, using a pension to encourage early retirement became potentially more

expensive. New pension plans were overwhelmingly defined contribution or

401(k), where there was no uncertain future burden. As the end of the century

approaches, Sass

sees a return to individual households needing to assume more direct

responsibility for their retirement incomes.

With the rise in life expectancy and the desire for earlier retirement, he is

not sure if they are prepared.

Samuel Williamson Department of Economics Miami University of Ohio

Sam Williamson is director of EH.Net and the author of articles on pension

history including “Pensions in the United States and Canada before 1930: A

Historical Perspective,” in Trends in Pensions 1992 and “The History

of Industrial Pensions in the United States” in Reforming Financial Systems:

Historical Implications for Policy, 1997 (Cambridge University Press).