Rising benefits burden

An increasing part of production costs in America comes from the price of promises.

There are corporate commitments to provide a pension - some 44 million Americans get a monthly check - that add up to as much as $124 billion a year. There are also healthcare benefits that many companies have agreed to provide, either voluntarily or by union contract, at a cost of billions more each year.

Now, even with the economy far from a recession, the cost of these promises is becoming a drag. On Tuesday, the size of the drag became more apparent for General Motors, which said it would eliminate 25,000 jobs by 2008 - in part because of the cost of its healthcare commitments, now amounting to about $1,500 per car.

The problems go well beyond GM and the other automakers: Some of the nation's steelmakers, airlines, and old-line manufacturers - and even some municipalities - are also carrying large "legacy costs" - and may face similar layoff decisions.

"Big companies that dominated the economic landscape 20 to 30 years ago are really struggling," says John Challenger, CEO of Challenger, Gray & Christmas, a Chicago outplacement company. "This may not be the last major job cut announcement we see this year as other companies, including the other American automakers, struggle to make a profit amid escalating healthcare costs, not to mention the ongoing health benefits to the growing ranks of retirees."

It's also an issue before Congress, which held hearings this week on corporate pension reform. One of the major spurs for this has been the bankruptcy of United Airlines, which dumped its $10 billion pension liability on the Pension Benefit Guaranty Corp. (PBGC), the government insurer supposed to guarantee workers some protection if their employers go under. Because of loopholes in pension rules, many of United's workers were not aware their pension fund was in danger.

Sen. Charles Grassley (R) of Iowa has introduced one bill requiring that pension-fund investments be adequately diversified and workers have access to information about their pension plans.

Sen. Michael Enzi (R) of Wyoming also hopes to introduce a comprehensive reform package aimed at making sure the PBGC remains solvent, says a spokesman, Craig Orfield.

The Democrats have introduced legislation, too, including a bill from Sen. Edward Kennedy (D) of Massachusetts that would impose a six-month moratorium on terminations of some pension plans.

Even though Congress has a tight schedule this year, lobbyists think pension reform might pass. "We do think Congress will take a hard look at this," says Bob Shepler, director of corporate finance and tax at the National Association of Manufacturers (NAM).

He says business is watching the legislation carefully: "They want to preserve their plans and make sure the funding rules Congress comes up with are fair and predictable from a business planning perspective."

Although GM is in the news now, in the past the legacy costs have bedeviled the steel industry. In 2001, Bethlehem Steel went into bankruptcy, throwing its pension commitments over to the PBGC. At the time, the industry said its $12 billion in legacy costs for 600,000 workers made it difficult to compete.

After it dumped its legacy costs, Bethlehem Steel, now part of the International Steel Group, became profitable. In mid-April, Mittal Steel Company, now one of the world's largest, acquired ISG for about $5 billion.

But the trouble in the auto industry is also spreading to the auto-parts suppliers, such as Delphi, which are also carrying significant pension and healthcare costs for young retirees. If these structural problems are not dealt with soon, production may move offshore, according to Edward Hill, professor of economic development at Cleveland State University's College of Urban Affairs. He cites Delphi's $150-per-hour manufacturing cost as opposed to China's $1-per-hour cost for auto parts.

"Auto-part production in the US is not only possible, but also competitive if the labor cost is some $15 to 25 per hour, with a contribution-based benefits plan, possibly coupled with a profit-sharing plan, with employees and retirees participating in copays on healthcare," Dr. Hill says. "I realize it's a political issue, but in terms of the economics of it, it's inevitable."

Delphi, for its part, has been consolidating manufacturing facilities. Since 1999, the company, a former subsidiary of GM, has closed 78 business lines or facilities. Last quarter, it cut its workforce by 1,500, part of a plan to shed 8,500 workers this year.

Some of the companies, including GM, maintain they are making progress on reducing some of their costs. On Tuesday, the chairman of General Motors, Rick Wagoner, said, "We've worked the healthcare topic hard for a long time, and from every angle." But, he added, "Frankly, the continuing double-digit US inflation in healthcare costs is swamping that progress."

In fact, per car, GM is now spending more on healthcare than it does on steel. "A startling number," says Neil Trautwein, assistant vice president for human-resources policy at the NAM. According to GM, its future healthcare costs for all its 1.1 million employees, retirees, and their dependents is $60 billion. The company now has 2-1/2 retirees for every active worker.

While costs may still be rising at double-digit levels at GM, they rose 7.5 percent last year for the 600,000 employers surveyed by Mercer Human Resources Consulting. This is the lowest increase since 1999. Behind the slowing costs, says Mercer, is more shopping for better prices by companies, continued efforts to get employees to pay more, and better management of people who are chronically ill. Companies are also planning to make changes once the Medicare prescription-drug benefit comes into full effect in 2006. "This will help GM and others," says Mr. Trautwein. "But it won't make the problems go away."

• Anna Levine-Gronningsater contributed to this story.