Paychecks or Promises? Lessons from the Death Spiral of Detroit

Thomas Holmes () and Lee Ohanian

No 14-4, Economic Policy Paper from Federal Reserve Bank of Minneapolis

Abstract: Pay-with-promises compensation plans accumulate liability for future employee benefits, such as retiree health insurance. A simple economic model demonstrates that such plans can exacerbate fiscal crises faced by cities that experience external economic shocks, such as the departure of a major employer. City leaders often raise taxes and/or reduce public services to pay off legacy employee debts, and such steps encourage residents to move out, reducing the tax base and raising fiscal stress. Pay-as-you-go compensation plans are more prudent; they settle liabilities to employees paycheck by paycheck.

Pages: 8 pages
Date: 2014-09-25
New Economics Papers: this item is included in nep-ias and nep-ure
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