What is fair? It is sometimes a hard concept to grasp. As a first-grade teacher, I constantly heard students say “That’s not fair.” Sometimes the complaints were unfounded, like when the most obnoxious student in the class complained that the students following the rules were rewarded with a piece of candy. At other times the claim had merit, like when I copied a lesson on discrimination out of Jane Elliot’s book. Throughout the day, I favored blue-eyed children over all other children. By lunchtime the class couldn’t take it anymore and a boy burst out, “It’s just not fair, Mr. Shuls!” The truth is, some things are just fundamentally unfair; so much so that even a first-grader can see it.
There are other sorts of inequities, however, that are much stealthier. They are no less unfair, just less noticeable. Take for example the Public School Teacher’s Retirement System of Missouri. Most public school teachers love this retirement plan. It allows many teachers to retire by their mid-fifties and earn a steady income for the rest of their lives. But most teachers don’t know that this system has been built with a structural flaw that favors some individuals over others.
As Andrew Tipping and I demonstrate in our forthcoming peer-reviewed article in Educational Researcher, “Cross-subsidization in Teacher Pension Benefits: Examining Rates of Return Among School Districts,” teachers in some school districts get disproportionately larger returns on their retirement contributions. We calculated the rate of return for a career teacher in 490 school districts. The rate of return is the interest rate that would be needed, based on all contributions, to pay out a specific benefit for a pre-determined period of time. For instance, if I put $100 into a savings account and wanted to take out $110 in a year, I would need to earn a 10 percent return. We simply do the same sort of calculation, but over a 30-year career and a 30-year retirement. We find a tremendous disparity in the rates of return among career teachers in different school districts. The variation of rates of return among school districts is displayed in the histogram below taken from our article:
Source: Authors' calculations on the basis of Missouri School Boards' Assocation (2015), Public School Retirement SYstem of Missouri (2016), and district salary schedules.
We found that in general, smaller, lower-paying school districts have lower rates of return and larger, higher-paying school districts have higher rates of return. This occurs because of the structure of the system. So why does this happen?
Let me try to explain. Imagine you and I decide to pool our investments, and we each invest $500 for a total of $1,000. Only, we do not invest our money all at once. We do it over a period of five months. You invest $100 every month for five months. I invest $65 the first month and increase my investment each month with a final contribution of $123 in the fifth month. I somehow convince you that we should base the payout on just the fifth period and not our entire investment. We earn a 10 percent return on our $1,000 investment, but distribute the funds based on our final period five contributions, which leads to a 45/55 split, despite both investing the same amount of money in total.
That is essentially what happens in the pension system and no one seems to notice.
Teachers in poorer school districts contribute more in the beginning of their career relative to the end, and because of the way the system works, they end up subsidizing the retirement benefits of teachers in wealthier school districts. This cross-subsidization of pension benefits occurs because benefits are not tied to total lifetime contributions. In fact, only the final three years out of a teacher’s entire career are used to determine benefits. It is this design of the system that allows this unfairness to occur. Yet, unlike my first graders, no one seems to be shouting out “That’s not fair!”