Bankruptcy

Rebuilding the Retirement Dream

By Christian E. Weller

Ahh, retirement ? so many possibilities, so little time! Turns out that for millions of Americans the dream of a secure retirement was just a dream. From 2007 to 2008, total retirement wealth in private and public sector pension plans and retirement savings plans dropped by $2.8 trillion (in 2008 dollars).

Not all retirement plans are created equal, though. Data from the Fed show that holding gains and losses ? changes in asset values minus contributions ? relative to initial asset values tend to be higher for traditional pension plans than for retirement savings plans, such as 401(k) plans. Holding gains are typically used as an approximation of rates of return for these data.

The difference is nothing to sneeze at. In 2008, holding losses for retirement savings plans were equal to 28.7% relative to the balance at the end of 2007. In comparison, relative to holding losses for traditional pension plans were 24.2% -- or 15.7% less than for retirement savings plans.

This was not a one-time occurrence. Over the entire last business cycle ? from 2000 to 2007 ? the average holding gain for traditional private sector pension plans came to 4.0%. The same average for retirement savings plans came to less than half of this with 1.6%.

Most experts understand that this difference is the result of a range of factors. High fees are part of the story. Another part of the story is that individuals are not wired for ?do-it-yourself? retirement savings plans. Individuals are more likely to be driven by emotions in investing their money than institutional investors are. For instance, individuals will follow fads and thus buy high and sell low and they will put too much money into their employer?s stock, among other similar financial decisions that adversely affect their rates of return. Finally, money matters. Employers have cut back on even offering retirement plan at work and have reduced their matching contributions to retirement savings plans since the last recession in 2001. And, when employees have the option to participate in a retirement savings plan with employer contributions, employees often leave money on the table. They are not getting the full match from their employer because they don?t know about it or underestimate its value.

A range of policy proposals are meant to address these shortcomings. For instance, there is some talk of better disclosing fees on 401(k) plans to increase competition. Also, policy can help to automate a lot of saving and investment decisions, thus reducing the effect of behavioral patterns on rates of return and getting more savers to take full advantage of the employer and public saving incentives that already exist. Rebuilding trillions in lost retirement wealth won?t be easy. Fundamentally rethinking how retirement savings plans are regulated and designed is a promising first step.

Full post as published by Credit Slips on March 17, 2009 (boomark / email).