December 27, 2006
Alex Pollock, a resident fellow at the American Enterprise Institute, suggests a simple tool for thinking about retirement savings: the work-to-retirement ratio.
Let's say a worker today enters the work force at age 22 and stays until age 62, for a 40-year working life:
- If he lives to 82, he will need to finance 20 years of retirement; thus, the work-to-retirement ratio is 40 years divided by 20 years, or 2:1.
- In the 1880s, when German Chancellor Otto von Bismarck instituted the first state-run retirement program, the typical ratio stood at a far more favorable 27:1.
- The smaller the ratio, the more of your current income you have to save.
Given reasonable assumptions about wage growth, income needed in retirement and investment performance, a typical worker today must save 14 percent of pretax income to finance retirement. The current savings rate is negative 0.5 percent; that is, Americans are spending more than they earn, rather than saving, says Pollock.
Source: "Work-to-Retirement Ratio," The American, November/December 2006; based upon: Alex J. Pollock, "Retirement Finance: Old Ideas, New Reality," American Enterprise Institute, Financial Services Outlook, September 25, 2006.
For AEI study:
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