FTC Staff Comment Before the Office of Personnel Management Concerning Proposals to Adjust Severance Pay Regulations

BEFORE THE
OFFICE OF PERSONNEL MANAGEMENT
WASHINGTON, D.C. 20415
V890081
COMMISSION AUTHORIZED
Pay Administration (General), Severance Pay 1989
5 CFR Part 550, RIN 3206-AC41
COMMENTS OF
THE STAFF OF THE BUREAU OF ECONOMICS OF THE
FEDERAL TRADE COMMISSIONl
(submitted July 31, 1989)
I. 	INTRODUCTION
The staff of the Bureau of Economics of the Federal Trade Commis'sion
(FTC) appreciate the opportunity to submit these comments to the Office of
Personnel 	Management 	(OPM) 	in 	support 	of 	OPM's 	proposals 	to 	adjust
severance 	pay 	regulations. 2 	In 	particular, 	we 	support 	the 	proposal 	to
provide severance pay benefits to Federal employees involuntarily separated
through reductions in force (RIF) who accept employment within ninety days
with the private contractor who provides the service previously performed by
the 	RIFed 	employee. 3 	We 	believe 	that 	proposal 	is 	likely 	to 	improve
efficiency 	by 	smoothing 	transitions 	from 	Federal 	to 	private 	provision 	of
1 These 	comments 	are 	the 	views 	of 	the 	staff 	of 	the 	Bureau 	of
Economics of the Federal Trade Commission. 	They are not necessarily the
views of the Commission or any individual Commissioner. 	'Questions about
these 	comments 	may 	be 	addressed 	to 	John 	C. 	Hilke, 	Federal 	Trade
Commission, Bureau of Economics, 6th Street and Pennsylvania Avenue, N.W.,
Washington, D.C. 20580, telephone: (202) 326-3483.
2 The OPM proposals are discussed in Federal Register 54:103 (May 31,
1989) pages 23215-18.
3 Current regulations provide a RIFed worker with severance benefits
only if he begins working for the contractor at least 90 days after being RIFed.

commercial 	services.· 	OPM's 	proposals 	may 	also 	help 	private 	suppliers
compete to supply commercial services to the government.
To further smooth transitions to private contracting, OPM may wish to
consider 	additional 	changes 	in 	its 	severance 	pay 	regulations 	to 	provide
increased 	incentives 	for 	RIFed 	workers 	to 	accept 	job 	offers 	from 	the
contractor. 	In 	considering 	these 	options, as 	well 	as 	in 	reviewing 	its 	own
proposals, OPM may wish to evaluate the costs and benefits of the proposed
changes. 	Finally, OPM may 	wish 	to consider a 	low 	cost 	increment in 	its
record keeping requirements to facilitate improved analysis of the effects of
the revised severance pay regulations.
II. 	EXPERTISE OF THE STAFF OF THE FEDERAL TRADE COMMISSION
The FTC is an independent regulatory agency responsible for fostering
~ompetition and safeguarding the interests of consumers.s 	The staff of the
FTC, upon request by federal, state, and local government bodies, regularly
analyze 	regulatory 	or 	legislative 	proposals 	that 	may 	affect 	competition 	or
the 	efficiency of 	the economy. 	In conjunction 	with 	these 	responsibilities,
the staff of the Bureau of Economics are conducting studies of opportunities
• Under the Office of Management and Budget's (OMB) Circular A-76,
which establishes the rules of transitions to private contracting, commercial
services 	are 	transferred 	from 	the 	government 	to 	private 	competitive
contracts if the lowest private bid is more than 10% lower than the lowest
cost at which the government can produce the service in-house. 	Commercial
services 	are 	services 	commonly 	provided 	by 	several 	private 	firms 	to
consumers, 	other 	private 	firms, 	and 	governments. 	See 	Supplement, 	OMB
Circular 	A-76 	(Revised), 	U.S. 	Office 	of 	Management 	and 	Budget,
"Performance of Commercial Activities," August 1983, Part I, pp. 11-15. 	Also
see Executive Order No. 12615 of November 19, 1987, Federal Register 52:225
(November 23, 1987), p. 44853.
S 15 U.S.C. § 41 tl ilil.
2

to 	enhance 	competition 	and 	increase 	economic 	efficiency 	in 	commercial
services supplied to the government. 6 	In addition to these ongoing studies,
we 	have 	prepared 	a 	number 	of 	comments 	and 	a 	report 	which 	note 	that
private 	provision 	of 	services 	could 	represent 	a 	potentially 	attractive
alternative 	to 	government provision. 	Our 	work 	includes: (1) 	comments on
competition 	issues 	related 	to 	the 	U.S. 	Postal 	Service's 	electronic 	computer
originated mail (E-COM) service;7 (2) a review of options to privatize the air
traffic 	control 	system;8 	(3) 	comments 	on 	the 	efficiency 	effects 	of
government regulated utilities competing with private insulation contractors;9
and 	(4) 	comments 	on 	the 	efficiency 	and 	competitive 	implications 	of
exempting addressed 	third class mail from 	the private express (government
monopoly) statutes. 10
6 Staff's 	work 	in 	antitrust 	and 	consumer 	protection 	litigation 	also
commonly involves assessing the effects of incentives on economic decisions
of individuals and groups of individuals.
7 See FTC staff comments on the U.S. Postal Rate Commission's Docket
No. R83-1, filed 	June 	I, 1983; Docket No. R83-1, filed 	June 	16, 1983; and
Docket No. R84-1, filed December 23, 1983.
8 Ogur, J., et aI., The Deregulated 	Airline Industry: A Review of the
Evidence. Washington, D.C.: Federal Trade Commission, Bureau of Economics
Economic Issues Reports, 1988, Chapter III.
9 See "Comments of the Federal Trade Commission 	to the Department
of Energy Pursuant to Section 216(g) of the National Energy Conservation
Policy 	Act," 	42 	U.S.c. 	Section 	8217(g), 	provided 	November 	15, 	1985, 	and
"Statement 	of 	T. 	Muds, 	Director 	of 	the 	FTC 	Bureau 	of 	Competition, 	on
Competition 	by 	Utilities 	in 	Energy 	Conservation 	and 	Home 	Appliance
Markets," before the Senate Committee on Small Business, November 3, 1983.
10 See the FTC Bureau of Economics staff comments to the Postal Rate
Commission, Docket No. C89-1, filed February 28, 1989.
3

III. 	OPM'S SEVERANCE BENEFITS PROPOSALS
OPM's 	proposed 	changes 	in 	the 	Federal 	government's 	severance 	pay
regulations seek 	to improve the efficiency of transferring 	the provision of
commercial services from 	government 	to private contractors 	by 	facilitating
the movement of Federal employees to 	the private contractors. 	Experience
indicates 	that 	considerable 	cost 	savings 	can 	be 	realized 	when 	competitive
contracting is introduced.ll 	Agencies with extensive contracting experience
report 	that 	contractors 	often 	can 	increase 	efficiency 	by 	reorganizing 	and
adopting more efficient management techniques while employing some of the
workers 	that 	the 	Federal 	government 	employed 	to 	do 	the 	same 	work.
However, OPM reports 	that the net benefits of increasing competition and
efficiency through contracting-out have been diminished, at least during the
initial transition period, by difficulties some contractors have encountered in
hiring 	RIFed 	employees. 12 	OPM 	believes 	that 	current 	severance 	pay
11 See 	MuseH, 	M, 	Contracting 	Out: 	Potential 	for 	Reducing 	Federal
~ 	Washington, 	D.C.: 	Congressional 	Budget 	Office, 	1987. 	In 	reviewing
data for 180 privatization assessments at the Department of Defense covering
1984 to 	1986, MuseH found that 65% of the contemplated transfers actually
took place with average cost savings after a year of 35%. 	In the remaining
35%, 	internal 	management 	improvements 	were 	sufficient 	to 	continue
government 	provision, 	with 	average 	cost -savings 	of 	over 	20%. 	Cost 	and
quality evaluations over a 90-day period were not included by Musell, hence
this study cannot be used to quantify the transition effects considered by• 	• 	I
OPM 1D Its proposals. 	.
MuseH estimated that considerable potential for additional Federal cost
savings remained because approximately 1.4 million Federal workers perform
jobs that are classified as commercial services.
12 Federal 	Register 	Notice, 	p. 	23215. 	OMB's 	Circular 	A-76 	requires
that 	the government make efforts 	to 	hire displaced 	workers and 	that "the
contractor will give Federal employees, displaced as a result of conversion to
contract performance, the right of first refusal for employment openings on
the 	contract 	for 	positions 	for 	which 	they 	are 	qualified." 	However, 	the
Department of Defense reported in 1984 that only three percent of Federal
4

regulations substantially contribute to this problem by creating a disincentive
for RIFed employees to accept employment with the private contractor.
Under current 	regulations, 	Federal employees 	who 	accept employment
with 	the 	contractor 	within 	90 days 	of 	being 	RIFed 	receive 	no 	severance
benefits. 13 	This 	provision 	creates 	a 	disincentive 	for 	these 	employees 	to
accept 	jobs with 	the 	contractor 	before 90 days 	have 	passed, 	making 	them
more 	difficult 	for 	contractors 	to 	hire 	during 	the 	transition 	period.
Ironically, 	a 	worker',s 	incentive 	to 	wait 	90 	days 	before 	accepting
employment 	increases 	with 	the 	length 	of 	service 	and 	(presumably)
experience. 14 	OPM proposes to encourage experienced workers to accept job
offers 	from 	the 	contractor 	by 	eliminating 	the 	90 	day 	requirement, 	thus
granting 	severance 	benefits 	to 	those 	who 	accept 	employment 	with 	the
contractor sooner than 90 days after the RIF.
employees 	involuntarily separated due 	to 	private contracting went· to work
for private contractors while 94% retired or transferred to other government
jobs. 	The 	1985 report of the General Accounting Office (GAO) indicated
that 	in 	its 	random 	sample 	of 	conversions, 	86% 	retired 	or 	obtained 	other
government employment while only 7% accepted jobs with contractors. 	See
U.S. 	General 	Accounting 	Office, 	Information 	from 	Previous 	Reports 	on
Various Aspects of Contracting Out under OMB Circular A-76, Washington,
D.C.: GAO, 	1985. 	Also see Stolzenberg, R., and S. Berry, A Pilot Study of
the Impact of OMB Circular A-76 on Motor Vehicle Maintenance Cost and
Quality in the U,S. Air Force (Study R-3131-MIL), Santa Barbara, California:
Rand 	Corporation, 	1985. 	Similar 	findings 	have 	been 	reported 	concerning
contracting out in local 	governments. 	See Dudek & Co., Privatization and
Public 	Employees: 	The 	Impact 	of 	City 	and 	County 	Contracting 	Out 	on
Government Workers. Washington, D,C.: National Commission on Employment
Policy, 1988.
13 Under 	Section 	550,704, 	other 	workers 	ineligible 	for 	severance
benefits include those who are eligible for retirement and those who refuse a
reasonable offer of employment from the Federal government.
14 Severance 	benefits 	increase 	with 	the 	length 	of 	government service
and with age.
5

We agree with OPM that the current regulations probably increase the
costs 	of 	private 	contractors 	and 	thereby 	reduce 	the 	quantity 	of 	services
converted 	to competitive contracting. 	During 	the 	initial 90 day 	transition
period, the contractor may have to spend additional money for 	training or
pay 	a 	wage 	premium 	because some 	RIFed 	employees 	can 	be 	expected 	to
decline employment offers. 	Those higher costs will increase contractors' bids
in 	general, 	and, 	in 	some 	instances, 	the 	increases 	may 	prevent 	competitive
con tracting. 15 	An 	additional 	social 	cost 	arises 	because 	the 	current
regulations may encourage RIFed employees to remain idle or to accept less
productive 	work 	during 	the 	90 	day 	interim.
nonrecoverable losses of productivity.
Those 	outcomes 	involve
OPM's request for comments does not mention additional costs likely to
be associated with the proposed changes. 	We discuss two' such costs. 	First,
some workers who accept job offers from the contractor will respond to the
proposed changes by choosing to start work immediately rather than waiting
90 days. 	Government costs increase because the government is required to
make 	severance payments earlier. 	However, this 	additional cost 	would 	be
minimal, 	equalling 	the 	present value of the 	interest 	that could 	have 	been
earned 	had 	the 	severance 	payments 	been 	delayed 	90 	days. 	Second, 	the
proposed changes may cause some additional RIFed employees to qualify for
severance 	benefits. 	For 	example, 	some 	employees 	who, 	under 	current
15 Transfer of a service to competitive contracting is only indicated if
cost 	savings 	are 	more 	than 	10% 	higher 	than 	the 	lowest 	feasible 	cost 	of
providing 	the service in-house. 	The lowest 	feasible 	in-house cost includes
cost reductions from internal management reforms. 	Musell, op. cit.
6
.._.. - '.--:-

regulations, would choose to seek and obtain other positions in the original
agency 	(and 	therefore 	not 	qualify 	for 	severance 	pay) 	may 	now 	prefer 	to
accept 	employment 	with 	the 	contractor and 	thereby 	qualify 	for 	severance
pay. 	OPM may wish to conduct an additional evaluation of the effects of its
proposals by balancing expected increased costs of severance benefits against
increased efficiency in transitions to contracting. 16 	Any additional costs or
benefits of reducing the number of workers transferred within the original
agency should also be considered.
In sum, we agree with OPM that the proposed changes in the severance
pay 	regulations 	are 	likely 	to 	alleviate 	some 	transition 	inefficiencies 	by
diminishing 	current 	disincentives 	to 	accept 	job 	offers 	from 	contractors
during the transition phase.
IV. 	ADDITIONAL OPTIONS
In addition 	to 	the current proposals, OPM may 	wish 	to consider four
modifications 	to 	the 	regulations 	that 	we 	believe 	could 	further 	smooth
transitions 	to 	competitive 	contracting. 	All 	of 	these 	options 	increase
incentives for RIPed employees to accept job offers from the contractor who
will be responsible for providing the service. 	In the first of these options,
we 	believe that incentives can 	be increased at little or no additional cost.
The other options could involve payment of severance benefits to additional
16 Part 	of 	this 	evaluation 	may 	also 	depend 	on 	the 	effects 	of 	the
proposed 	changes 	on 	the 	climate 	of 	cooperation 	among 	OPM, 	OMB,
individual agencies and representatives of Federal workers concerning the A-
76 	program. 	In 	general, 	changes 	with 	positive 	compensation 	effects 	on
RIFed employees should make the A-76 program more attractive to workers.
7

RIFed employees and OPM may wish to assess and balance the added costs
against the potential efficiency benefits. 	We also believe that evaluation of
the 	effects 	of 	the 	changes 	discussed 	below, 	as 	well 	as 	OPM's 	original
proposals, could 	be 	enhanced 	by 	keeping 	slightly 	more 	refined 	records 	of
employment of RIFed employees by contractors.
(I) Increased Incentives Not to Reject Employment with the Contractor:
Rejection of a reasonable offer from the original government agency results
in 	denial 	of 	severance 	benefits 	under 	OPM's 	current 	and 	proposed
regulations. 	Thus, 	the 	proposed 	regulations 	provide 	a 	penalty 	for 	RIFed
employees 	who 	reject 	a 	reasonable 	offer 	from 	the 	original 	government
agency. 	However, 	the 	proposed 	regulations 	do 	not 	provide 	a 	similar
disincentive 	for 	RIFed 	employees 	to 	reject 	a 	reasonable 	offer 	from 	the
contractor.
OPM may 	wish 	to 	consider 	regulations 	to 	provide 	parallel 	denial 	of
severance benefits when a RIFed employee rejects a 	reasonable offer from
either 	the government or the contractor. 17 	This should increase incentives
to accept a job offer from the contractor and should, therefore, increase the
17 To 	implement 	this 	suggestion, 	OPM 	would 	have 	to 	define 	a
"reasonable employment offer from the contractor." 	This could include pay,
benefits, 	commuting 	area, 	job security 	and 	other 	job 	characteristics. 	The
provisions required of reasonable private offers could parallel or differ from
the 	definition 	of 	a 	reasonable 	offer 	from 	the 	government 	contained 	in
Section 	550.703 	(definitions). 	Simple 	and 	clear 	regulations 	defining
reasonable private employment offers may be important to avoid litigation
concerning the sufficiency of contractors' offers. 	As proposed by OPM, a
reasonable government offer must provide pay no more than two grade levels
below the employee's current grade level.
8

contractor's ability to provide a .smooth transition. 	This option should not
in vol ve increased government severance costS.I 8
(2) 	Grant 	Severance 	Pay 	to 	Those 	Who 	Accept 	a 	Job 	with 	the
Contractor 	Even 	If 	They 	Have 	Refused 	a 	Reasonable 	Offer 	from 	the
Government: 	Under current rules, Section 550.704(b)(2), a RIFed employee
who 	has 	refused 	a 	reasonable 	offer 	from 	the 	government 	receives 	no
severance 	benefits 	even 	if 	he 	or 	she 	accepts 	employment 	with 	the
contractor. 	This 	feature 	of 	the 	current 	regulations, 	which 	would 	not 	be
changed 	by 	the 	proposed 	rules, 	appears to 	be 	inconsistent 	w·ith 	the 	stated
purpose of OPM's proposals by biasing RIFed employees toward accepting an
offer 	from 	the 	original 	agency. 	OPM 	may 	wish 	to 	consider 	granting
severance 	benefits 	to 	RIFed 	employees 	who 	accept 	employment 	with 	the
contractor, but would be disqualified for severance pay under current and
proposed 	rules 	because 	they 	refused 	a 	"reasonable 	offer" 	of 	government
employment.
18 OPM could apply this approach to' all Federal employees or only to
government 	employees 	hired 	after 	these 	new 	regulations 	go 	into 	effect.
Prospective employees would have information about the new regulations and
would 	be 	expected 	to 	include 	this 	consideration 	in 	making a decision 	to
accept Federal employment. 	Incumbent employees would not have had this
information at the time they were making employment decisions. 	Although,
incumbent employees accepted Federal employment knowing the unilateral and
often negative nature of changes in pay and benefits in Federal employment,
the more often the government makes such negative unilateral changes, the
more likely it is that prospective employees will take that into account in
their 	decision 	making. 	This 	effect 	may 	make 	it 	more 	difficult 	for 	the
government to hire and retain a workforce in the future. 	Thus, any action
by 	the 	government 	in 	this 	instance 	that 	negatively 	alters 	the 	terms 	of
employment 	could 	have 	some, 	albeit 	small, 	negative 	impact 	on 	the
government's ability to hire in the future.
9

This 	alternative 	could 	increase 	the 	government's 	total 	severance 	pay
costs 	because 	employees 	who 	refuse 	a 	government 	offer 	and 	accept 	the
contractor's 	offer 	would 	become 	eligible 	for 	severance 	benefits. 	In
considering this option, OPM may wish 	to weigh 	the 	benefits of smoother
transitions 	and 	additional 	competitive 	contracting 	against 	the 	costs 	of
additional severance benefits. IO
(3) 	Additional 	Incentives 	for 	Retirement 	Age 	Employees 	to 	Accept
Employment 	with 	the 	Contractor: 	The 	proposed 	regulations 	continue 	to
prevent payment of severance benefits to employees who are eligible for an
immediate Federal annuity -- for example, workers of retirement age. 20 	This
provision may discourage the most experienced workers from transferring to
the 	contractor. 	If 	attracting 	experienced 	workers 	during 	the 	transition
period is. as important in making a smooth transition as OPM suggests, OPM
may 	wish 	to consider eliminating this exclusion of retirement age workers
from 	severance 	benefits 	when 	they 	transfer 	to 	the 	contractor. 	Doing 	so
could 	provide 	an 	increased 	incentive 	for 	experienced 	employees 	to 	accept
employment 	offers 	from 	the 	contractor. 	In 	considering 	this 	option, 	OPM
may 	wish 	to 	balance 	possible 	efficiency. gains 	in 	transitions 	against 	the
potential increase in severance payment costs. 21
19 This 	option 	could 	also 	provide 	benefits 	(or 	costs) 	by 	reducing
bumping and intra-agency reassignments of RIFed personnel. 	Bumping refers
to the right of an employee facing a RIF to displace another worker with a
lower grade and length of service within the same occupational class.
20 Section 550. 704(b)(5).
21 This option may require legislative approval.
10

(4) Eligibility of Emoloyees Hired by the Contractor before the General
Notice 	of 	a 	RIF: 	The 	proposed 	regulations 	classify 	an 	employee 	as
involuntarily separated, and therefore eligible for severance benefits, as long
as 	the 	employee 	resigns 	after 	receiving 	official 	notice 	of 	the 	transition
(RIF).22 	However, this official notice may be received some time after the
contract to transfer the service to the private sector has been let. 	In those
situations in which the contractor believes that recruiting soon-to-be RIFed
workers at the earliest possible date would be helpful in making a smooth
transition, 	OPM 	may 	wish 	to 	co'nsider 	authorizing 	severance 	pay 	to
employees who resign to go to work for the contractor before the issue date
of the official RIF notice. 23 	In most cases the notice to employees probably
provides 	sufficient 	lead 	time 	for 	the 	contractor 	to 	organize 	for 	the
transition, but in some cases the contractor might be able to provide a more
efficient and smoother transition if current employees did not lose severance
benefits 	if they 	were 	hired 	after 	the 	contract 	is signed 	but 	prior 	to 	the
official RIF notice. 24
22 Federal Register 54:103 (May 31,1989) at page 23217.
23 Since 	this 	option 	involves 	paying 	severance 	benefits 	earlier 	than
would otherwise be the case, the contractor could reasonably be required to
repay the government for the interest cost of earlier payment of severance
benefits. 	.
24 The 	contractor 	could 	provide 	a 	bonus 	or 	other 	incentive 	to
compensate for 	the 	loss of severance 	benefits, but 	this would 	increase the
contractor's 	costs 	by 	more 	than 	it 	saves 	the 	government. 	The 	savings 	to
the government of postponing payment of severance benefits until after the
RIF 	notice 	is 	at 	most 	a 	few 	weeks 	worth 	of 	interest 	on 	the 	severance
benefits. 	The cost to 	the contractor 	to overcome 	the employees' incentive
to wait until the RIF notice is issued is equal to the entire present value of
severance benefits, since the employee loses all severance benefits if he or
she 	resigns 	before 	the 	RIF 	notice 	is 	issued 	(under 	OPM's 	current
regula tions).
11

Record 	Keeping: 	OPM may 	wish 	to 	ask 	agencies 	to 	record 	(1) 	when
RIFed employees (who agree to work for the contractor) make the transfer
and 	(2) 	whether 	such 	RIFed 	employees 	continue 	to 	be 	employed 	by 	the
contractor 	during 	the 	following 	year. 	Such 	information 	could 	facilitate
OPM's 	evaluation 	of 	the 	effects 	of 	the 	new 	regulations 	as 	well 	as 	to
increase information about the effects of contracting-out on the employment
experiences of RIFed employees. 	The current proposed data requirements do
not 	address 	either 	of 	these 	questions 	and 	these 	data 	should 	be 	routinely
maintained and readily available from the payroll records of contractors.
V. CONCLUSION
OPM 	has 	identified 	an 	aspect 	of 	its 	severance 	PllY 	regulations 	that
appears 	to 	increase 	the 	costs 	of 	transferring 	commercial 	services 	from
government to competitive contracting. 	In light of the large potential cost
savings 	provided 	by such 	transfers, 	we commend OPM for 	taking 	steps 	to
alleviate 	the 	problem. 	We 	believe 	that 	OPM's 	proposals 	may 	substantially
improve transitions to competitive contracting.
I
OPM may 	wish to consider some additional measures 	that could help
smooth transitions by further encouraging experienced, qualified workers to
accept 	job offers from 	the contractor 	who provides 	the service 	previously
provided 	by 	the 	government employees. 	OPM reports 	that contractors are
able 	to 	provide 	better and 	more 	efficient 	service 	during 	transitions 	when
they 	are able 	to hire 	these workers. 	We believe that revising the concept
12

\ 	. .
of a "reasonable offer" to include offers of reasonably comparable pay from
contractors could 	provide such 	additional 	encouragement. 	We 	also 	believe
that 	permitting 	retirement 	age 	employees 	to 	transfer 	without 	loss 	of
severance 	benefits could 	improve 	transitions. 	In 	considering 	both 	its own
proposals and 	those discussed 	in 	these comments, OPM may wish 	to assess
the 	proposals' 	costs 	and 	benefits 	and 	give 	preference 	to 	those 	in 	which
expected benefits exceed the expected costs. 	OPM may also wish to enhance
its 	ability 	to 	measure 	the 	effects 	of 	the 	proposed 	changes 	by 	requiring
agencies to track retention rates for 	RIFed employees who accept positions
with the contractor.
13