I was reading about Bernie Madoff’s investment scandal and it suddenly struck me that defined-benefit pension plans (public and private) operate on the same principal as Madoff’s Ponzi plan.
Bernie Madoff defrauded his investors of $65 billion dollars with a massive ponzi scheme. Madoff was smart by never offering suspicious high returns to everyone, but did guarantee a steady and modest return regardless of the state of the stock market. This latter point should be suspicious to any intelligent investor.
Yet that is exactly what our public and private defined benefit plans are doing. They guarantee a return or benefit rate. Yet how can they do this? Just like Madoff did, by using new money brought in from new investors (or pension contributors) to help meet the payout obligations. As long as new citizens grow up and are forced to contribute to the pension plans, the plan remains viable.
But, perhaps we would all be better served by a defined-contribution plan, where the return is based on how well one’s money is managed, instead of compelling citizens to make pension contributions to maintain unsustainable payouts.