Reinventing Retirement Income in America
Table of Contents
- Executive Summary
- The Importance of Retirement Income
- Determinants of Retirement Income
- The Change in Retirement Pension Plans
- The Performance of 401(k) Plans
- Explaining the Poor Investment Returns
- Other Causes of Low Returns
- The Threat of Future Liability
- Goals for an Effective Retirement System
- Building a Better Retirement System
- About the Authors
The Importance of Retirement Income
Any discussion of retirement income must take into account U.S. and global trends: people are living longer and retiring earlier and thus need more retirement assets. At the same time, fertility is declining and the ratio of workers to pensioners is falling. Retirees will get less help from the next generation either through public or private means.
Longer Lives. Consider: life expectancy has increased 110 days annually for the past 100 years! Life expectancy at birth increased from about 50 years to about 80 years in the 20th century.3 As a result, retirement income has become a major issue around the world. It is not hyperbole to call this the Longevity Revolution.
Until the last century, people over age 65 never made up more than 2 or 3 percent of the population. In today's developed world, they account for nearly 15 percent of the population. They could reach 25 percent by the year 2030, closing in on 30 percent in some countries. According to United Nations projections:4
- By 2050, the number of people age 64 to 84 worldwide will grow threefold, from 400 million to 1.3 billion.
- The number of people age 85 and older will grow from 26 million to 175 million (more than a sixfold increase).
- The number age 100 and over will jump from 135,000 to 2.2 million (a 16-fold increase).
The longevity revolution represents a triumph of public health, modern medicine and new technology. The elderly and their families may treasure the extra years of life. Unfortunately, pension plans and other retirement benefit programs were not designed to provide additional years of benefit payments.
"People are living longer and retiring earlier."
Early Retirement. Although the "normal" retirement age enshrined in Social Security is age 65, a growing proportion of workers have elected to retire earlier - at age 62 or even 55. Indeed, from the 1970s to 1990s, many employers seeking to reduce payroll expense while improving productivity offered workers early retirement with fully vested pension benefits as if they had continued working to normal retirement age. Other workers volunteered to retire early with reduced pension benefits.
Social Security benefits are also reduced for workers who retire before the normal age - which under current law is set to gradually increase to age 67 for workers born after 1960. This has reduced the workforce participation of older workers.
Declining Fertility. At the same time that life spans are increasing, fewer babies are being born. This is part of a secular downward trend worldwide that has brought the global fertility rate - the average number of lifetime births per woman of childbearing age - to about 2.7. In the United States, the fertility rate has been declining steadily for more than two centuries, interrupted only by the baby boom after World War II. From a fertility rate of 8.0 in 1800, the U.S. today is fast approaching the replacement rate of 2.1 (the rate required merely to maintain a constant population).5 The fertility rate is already below that figure in most developed countries.
Ratio of Workers to Pensioners. Due to population aging and declining fertility, the ratio of working taxpayers to nonworking pensioners in the developed world is around three to one. By 2030, absent reform, this ratio will fall to 1.5:1. In some countries, such as Germany and Italy, it will drop to 1:1 or lower.6
What implications do these demographic trends have for retirement income? The primary, obvious one is that with longer life expectancies, people are going to need income for a greater number of years. Further, the prospect of getting less help from the next generation means that individuals will have to save at a higher rate, receive a higher rate of return on their savings or do both if they are to have enough retirement income to maintain a reasonable standard of living.