Employer-sponsored defined benefit pensions are declining in popularity, yet these long-term obligations will influence firm decisions for decades to come. The first chapter models how the tax and other incentives posed by sponsoring a defined benefit pension interact with traditional moral hazard between stockholders and bondholders. While the contracting problems associated with each may be manageable, moral hazards arising from investment risk and from contributing to a pension plan together lead to first-order distortions. The second chapter describes how this dynamic leads to higher borrowing rates among firms with defined benefit pensions. Like traditional corporate bonds, pension debt is a long-term liability that influences default risk and firm value -- two important determinants of bond spreads. Yet pension debt magnifies default risk stemming from agency problems, implying that a ten percentage point increase in unfunded pension liabilities raises defined benefit firms' bond spreads by 23 basis points, while an equivalent increase in standard external leverage increases bond spreads by only 2.6 basis points. Finally, the third chapter looks at how sponsoring a defined benefit pension influenced firm performance in the Great Recession. Many firms with defined benefit pensions experienced dramatic losses in the value of pension assets between 2007 and 2009 that led to high required pension payments. A general concern was that those payments prevented firms from making productive investments that could assist economic recovery. This paper suggests, instead, that pension losses allowed firms to borrow from their pensioners, while the credit crunch prevented those firms from taking on sub-optimally high leverage ratios and investment risk that are usually motivated by costly pensions. Indeed, firms making minimum required contributions from 2000 through 2007 supported leverage ratios that were 4.6 percentage points higher and default premiums that were 22 percent higher than their counterparts with less costly pensions. This wedge did not exist during the Great Recession.PhDEconomicsUniversity of Michigan, Horace H. Rackham School of Graduate Studieshttp://deepblue.lib.umich.edu/bitstream/2027.42/133288/1/laymarga_1.pd
