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America's current financial crisis has diverted the spotlight from a looming crisis that will not go away even after any economic rebound.
The Center for Economic and Policy Research (“CEPR”) has just completed a sobering study that should scare the hell out of everybody. There are currently 78 million Baby Boomers (age 45-64) in the USA. CEPR projects that slightly over half, 40 million, will be relying almost exclusively on Social Security during their retirement. Social Security was never intended for such utter reliance by so many. When conceived in 1935, Social Security was intended to be one part of a three-legged stool to provide for seniors: The other two legs of the stool were personal savings and employer-sponsored pensions.
Personal savings rates have badly eroded over the past 25 years. In the 1980’s, the average individual saved about eight cents of every dollar earned. During the new millennium, the average worker’s savings rate has turned negative. In the 1980s, many private sector employers were thrilled to make 401(k) plans the focus of their retirement program. Such employers were able to transfer investment risk and, in many cases, contribution burdens to their employees. Also, traditional defined benefit pension plans were (and continue to be) under siege from regulators. The federal government got involved by forcing companies, sponsoring a defined benefit plan, to pay steadily increasing insurance premiums and comply with a dizzying array of arcane regulations. Even the accountants stirred the pot, as they forced companies to reflect volatile short-term swings in pension plan market values in their financial statements.
Relying on defined contribution plans, like 401(k)s, ignore one fundamental reality of the markets: Both bear and bull markets operate in long cycles, as follows:
|Time Frame||Market Type|
Relying on a traditional defined contribution approach simply cannot work. If a program is designed to provide employees, retiring during a bull market, with adequate income, that same program will tend to provide insufficient income for bear market retirees. If a defined contribution program is designed to provide adequately to new retirees during a bear market, excessive income will result to new retirants during the good times.
One of the biggest
challenges facing America over the next generation will be to have
programs that will assist employees in their retirement in a
meaningful way. Public sector employees have largely been successful
in fending off attempts to modify or eliminate their defined benefit
programs. Whether traditional defined benefit plans are the best
answer is debatable. What is regrettably clear is the absence of a
concrete national plan to address this looming crisis in a meaningful
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