In Good Times and in Bad: Defined Benefit Pensions and Corporate Financial Policy

Abstract

U.S. sponsors of defined-benefit pension plans make smaller contributions not only as a function of the funding level and past performance of the pension plan, but also if they have less cash, are less profitable and are financially distressed. As a result, plans have larger funding deficits if the sponsor is closer to bankruptcy and the plan has low investment returns. In fact, U.S. pension plans are still significantly underfunded in 2014 despite recent regulation to improve funding levels. Similarly, plan sponsors make more aggressive pension plan assumptions if they are financially distressed. While plan sponsors generally take less risk with their pension assets if they have high business or financial risk, there is some evidence of risk shifting during the financial crisis. As a result, funding rules, pension plan assumptions and investment policies are areas to consider for pension policy to protect plan beneficiaries.