From Golden Handcuffs to Pig Iron: Projecting Pension Reform’s Impact on the Homeland Security Enterprise

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Jeffrey Waldman

EXECUTIVE SUMMARY

The public sector is in a financial bind. Aggregate pension liabilities exceed assets at all levels of government, and the magnitude of the disparity is staggering. Reforms from the early 1980s put the federal civil servant pension system on a path to financial sustainability, yet despite the early and proactive nature of those reforms, the federal system’s unfunded liabilities are not projected to improve significantly for another two decades. At the state and local level, the situation remains daunting. Even under the optimistic investment return assumptions used by pension fund managers, the disparity between liabilities and assets is over a trillion dollars for state and local pensions. Worse, despite strong investment performance this decade, aggregate state and local pension debt remains at historically high levels, according to Pew Charitable Trusts. With or without future shocks to the capital markets, a significant proportion of pension funds appear on a path to insolvency. One way or another—either through proactive pension reform or something more drastic—the pension promises being made to most public servants are going to change.
For many, the story begins and ends there. That is, for many observers anxious about pension debt and reform, the concern lies solely with resolving the financial imbalances. The dilemma for the public sector, however, goes beyond fiscal issues because reform measures alter employee incentives embedded in traditional pension structures. Those incentives drive employee behavior and career choices as well as influence organizational culture. In turn, pension reform will impact organizational effectiveness through second- and third-order effects. If these effects are deleterious for organizations with homeland security missions, then pension reform and the implications thereof warrant the attention of homeland security leaders. Indeed, this dilemma warrants the attention of anyone who depends on public-sector organizations to succeed in critical missions related to public safety, disaster management, and public security.
These concerns raise the question of what impact pension reform will have on the homeland security enterprise. To respond to such a complex question, this thesis employs scenario-planning techniques. Key steps in the development of scenarios involve the identification and categorization of factors that will drive future outcomes. The research effort behind this thesis revealed relevant factors from myriad academic disciplines, including economics, public administration, organizational behavior, sociology, and social psychology. Not surprisingly, robust literature from economics explores the influence of financial incentives on employee behavior. Applicable literature from the other disciplines exists but seems sparse by comparison.
Pension-reform measures wean public servants and the jurisdictions that employ them off the traditional, defined-benefit pension structure. They do this by reducing the value of pension annuities or eliminating such annuities altogether. Viewing this move primarily through an economic prism, existing research suggests pension reform will impact the following:
• Turnover and employee retention
• Labor sorting patterns that drive the quality of workers in homeland security jobs
• Incidence of corruption and on-the-job malfeasance
• Increased wage-based competition among employers for human capital
The implications in these areas represent the second-order effects of pension reform. Third-order effects result from the increased reliance on wage-based competition for human capital. Such competition stands to decompress the wage structure of reforming organizations, which in turn has implications for worker motivation and organizational culture. These second- and third-order effects introduce factors that should be incorporated into any scenario-planning exercise on the implications of pension reform. Other factors emanate from non-economic perspectives that could short-circuit these second- and third-order effects. Existing academic literature suggests these pertain to the unique motivations of public servants and the work preferences or values of emerging generational cohorts. Such mitigating factors deserve attention, along with broader trends and uncertainties that may be exogenous to the dynamics surrounding employee financial incentives and pension reform.
In line with common scenario-planning techniques, relevant factors can be categorized as predetermined elements—the second- and third-order effects of pension reform—or critical uncertainties. The following tables summarize the factors used in the scenario exercise of this thesis:

Predetermined Elements Order of Effect
Turnover Effects: The degree to which pension reform increases employee turnover. 2nd order
Human Capital Effects: The human capital–related implications from pension reform. These include the quality of entry-level workers, the effectiveness of line employees, and the capabilities of mid- and upper-level management. 2nd order
Wage-Based Competition: The extent to which homeland security organizations need to enhance wages and disperse their pay structures to attract and retain human capital ex post to pension reform. 2nd order
Motivation Crowding: The sensitivity of workers to the crowding out of intrinsic and prosocial motivation in the face of enhanced wages. 3rd order
Intraorganizational Pay Structure Effects: Employee morale and collaboration-related maladies associated with dispersed pay structures and employee perceptions about the fairness underlying their compensation. 3rd order
Corruption Deterrence Effects: The degree to which the removal of pension-related deterrence diminishes the professionalism and ethical standards within homeland security organizations. 2nd order

Critical Uncertainties
Influence on Future Outcomes
Market Performance: Capital market investment performance and volatility over the next two to three decades. Will drive the type and degree of pension reform necessary to prevent pension fund insolvency.
Pension Politics: Legislative and macro-level policy outcomes that dictate public pension structures. Will define the options available to jurisdictions seeking to reform their pension systems.
Political Finance of Wage Rivalry: Micro-level political vectors and fiscal limitations related to compensation for public employees. Will determine how individual jurisdictions engage in wage-based competition for human capital.
Sociological Influences: Social trends influencing the choices, attitudes, and motivational composition of the workforce. May mitigate the effectiveness of enhanced wages or otherwise short-circuit the predetermined elements.
Technological Evolution: The potential for technological innovations to supplant human capital in the homeland security organizations. Could influence the degree to which human capital and organizational culture matter in determining organizational effectiveness.

A scenario planner can develop different future outcomes by varying the salience of different factors and imagining how critical uncertainties may change baseline assumptions. For this exercise, the author envisioned three scenarios delineating how things could get better, worse, or weird in the future. The scenarios presented describe the status of the homeland security enterprise a quarter century from now, in 2045. The outcomes can be summarized as follows:
Scenario #1: Centers of Excellence and Centers of Disarray. It depicts a plausible future where all the factors play out in a banal, almost expected manner. As a result, the homeland security enterprise trifurcates by 2045 into first-, second , and third-tier employers with a commensurate pecking order in terms of mission effectiveness. Things get worse under this scenario because a high proportion of homeland security organizations suffer a loss of effectiveness ex post to pension reform.
Scenario #2: A Pension Revolution Unshackles the Labor Market. It depicts a plausible future where developments in the capital market initiate a wholesale abandonment of the public sector’s defined-benefit pension regime. Things get better under this scenario because the benefits of labor mobility throughout the homeland security enterprise are realized by 2045, and non-economic leveling effects prevent the kind of stark divisions found in the first scenario.

Scenario #3: When a Jurisdiction Has to Hire a Rock Star. It depicts a plausible future where technological developments create a new class of worker, and the persistence of traditional pensions in some quarters complicates the pursuit of human capital for employers. Things get weird in this scenario because traditional pensions introduce perverse incentives for this new class of employees, and factors related to organizational behavior provide a comparative advantage to employers with insolvent pension funds.
A central message that emerges from the research and scenario analysis is that pension reform will change the homeland security enterprise, forcing organizations in the enterprise to adapt. Scenario planning can help by enabling leaders to plan for undesirable outcomes and empower them to leverage desired effects. That is not to suggest that the particulars of the scenarios presented here will do that. Rather, it is through a participative process of developing scenarios that leaders can gain foresight and engage in what Kees Van der Heijden calls “strategic conversations.” Accordingly, the main recommendation here is for further research into the problems presented by pension reform, and the thesis posits that such research will be most valuable for homeland security if it engages collaborative teams of practitioners and emerging leaders in organizations with homeland security missions. This thesis could facilitate such efforts through its exploration of existing academic research and its synthesis of factors that will drive future outcomes.

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