Date: Fri, 7 Jul 1995 09:07:07 -0400 (EDT) From: Competitive Enterprise Institute To: Recipients of the CEI List Subject: CEI List: Proteting the Pension Protecting the nation's pensions by Gregory Conko appeared in +The Washington Post+ May 18,1995 Congressman James Saxton (R, NJ) introduced a bill this week, intended to remind pension fund managers that private pension assets must be invested solely in the interest of pension plan participants and beneficiaries. This seemingly innocuous idea may, however, generate a great deal of controversy. Until recently, private pension assets were clearly protected by the Employee Retirement Income Security Act (ERISA) of 1974 and the common law of fiduciary responsibility, which require pension managers to discharge their duties "solely in the interest of the participants and beneficiaries" and "for the exclusive purpose of . . . providing benefits to participants and their beneficiaries." Now, more than ever, Americans are depending on their employer-sponsored pension plans to provide them with adequate retirement income. The Social Security system will be incapable of meeting the needs of the next generation of American retirees. Enter Labor Secretary Robert Reich, who insists that "American workers should not have to worry that they will be shortchanged on their pensions. . . . Those who work hard and play by the rules should get the secure retirement they have earned." Tragically, Reich's actions belie his words. Last summer, the Labor Department issued two significant regulations that may seriously undermine America's private pension system. During his 1992 campaign, Bill Clinton promised to encourage state, local, and private sector pension funds to invest their $4.8 trillion in assets in "Economically Targeted Investments" (ETIs), such as public housing projects, targeted emerging industries, and public works. On June 22, 1994, the Labor Department released an Interpretive Bulletin allowing pension managers to consider the ancillary benefits to politically targeted groups in addition to the interests of plan participants. Secretary Reich declared that ETIs really are consistent with federal pension law. Moreover, Reich now intends to create an "ETI Clearinghouse" within the Department of Labor, to promote such investments. For years, many of America's state and local government pension funds (which are not covered by ERISA) have been investing in ETIs for political gain, at great loss to plan beneficiaries. Those "social" investments have lost significant sums of money from Connecticut to California. By providing a loophole in traditional fiduciary standards, Reich would allow private pension managers to escape punishment for taking on such risky investments. Reich followed up with another release on July 28, 1994. That one encourages shareholder activism on the part of pension funds. Such activism involves holders of corporate stock using their influence as a firm's owners to change existing management activity. Unfortunately, the practice has become widespread among public pension funds whose managers advance ideological social positions to the potential detriment of beneficiaries. The most notable example is the California Public Employee Retirement System. Its broad range of social investing has led it to promote preferential hiring policies for women and racial minorities, oppose "excessive" compensation for corporate executives, and shun firms which did business in South Africa in the 1980s. The new regulation nearly compels shareholder activism by instructing plan managers that proxy votes are to be considered plan assets, and that they should be used to promote the interest of beneficiaries. As with ETIs, fiduciary standards have long prevented private pension managers from engaging in excessive shareholder activism. Now, however, they have an excuse to enter the fray. According to Reich, "Responsible shareholder activism by pension plan managers can improve the long-term company performance, increasing the return to plan participants and strengthening the competitive advantage of American business." In part, he is correct. TIAA-CREF, the giant $142 billion dollar pension fund for teachers, forced W.R. Grace & Company to reorganize its board of directors. While it is too soon to know for sure, the action could arguably shake out static and entrenched directors, ultimately improving company performance. Problems arise, however, when pension funds use their influence to pursue "social" goals that will do nothing to improve the performance of the firms they own. For example, TIAA-CREF unveiled in 1993 a set of "corporate governance" guidelines that it expects to be followed by all 1,500 companies in which it owns stock. The guidelines insist upon a majority of independent or non-management directors on every board, and the fund expects the members to include women and racial minorities. No evidence, however, exists that this will help the companies perform better. This year, TIAA-CREF filed shareholder resolutions with 15 companies demanding this new diversity. Last week, three of them, Nucor Corporation of Charlotte, NC, Federal Paper Board Company of Montvale, NJ, and Shared Medical Systems Corporation of Malvern, PA, each defeated the motions at their annual shareholder meetings. These proposals are not intended to reverse the companies' dismal performances. Indeed, Nucor may be the embodiment of corporate success. In the past decade, the firm has nearly quadrupled its sales and its stock has risen 800%. The minimill steel producer's board has only five members, each with extensive knowledge of the steel industry and with a combined 139 years with the company. Nucor CEO Ken Iverson insists that these factors contribute to the firm's stellar success, and that the diversity proposal would only serve to harm shareholder interests. In this case, a vast majority of the shareholders agreed. Most shareholders, understandably, would vote against such counterproductive proposals. More striking, however, is that the boards of directors of ten other corporations agreed to the demand without even putting it to a shareholder vote. The Labor Department's new regulation will only encourage more such activity in the future. This week, Congress' Joint Economic Committee will convene a hearing to consider Saxton's bill and investigate Reich's ETI Clearinghouse proposal. The Saxton proposal provides a firm reminder that pension fund managers need to remember for whom they are working. _______ ________ __________ / | | | |_______ | | | | \ _______ |_______ __________ COMPETITIVE ENTERPRISE INSTITUTE 1001 Connecticut Ave. NW #1250 Washington, DC 20036 202-331-1010, fax 202-331-0640 Permission to reprint must be obtained from the publishing journal listed above. Permission to copy granted as long as these lines are left intact. To subscribe to the cei list, send a message to CEI@digex.com. "The Virtual Hand: CEI's free-market guide to the information superhighway" is available for $5. CEI's monthly newsletter, "CEI UpDate," is free to contributors of $25.