While many in Washington and on Wall Street are talking about cutting Social Security, the real problem is that America's patchwork retirement system is already eroding. Once, the majority of America's seniors could look forward to at least a modestly middle-class retirement. That dream is fading.
America's retirement system is said to be a three-legged stool made up of private savings, pension plans, and Social Security. But each leg of the stool is wobbly, while a fourth unacknowledged leg -- asset accumulation from home equity -- has also taken a huge hit. Absent drastic changes in retirement policy, more elderly Americans will be poor, and many more will be working, often in low-wage jobs, because they can't afford to retire.
Even without further cuts, the normal Social Security retirement age is set to increase to 67 in 2022. Compared to where it was before the last major changes enacted in 1983, Social Security has already been cut close to 20 percent, in terms of how much wage income it typically replaces.
The private pension part of our system is in even worse shape. Over half of workers have no pension plan. Of those who do, only 20 percent have traditional plans that provide a guaranteed benefit, while the other 80 percent have 401(k)-type plans that shift all the risks to the retiree. In 2009, the account balance for the average-income household with a 401(k) plan was only about $67,000. Even the oldest workers in the highest-earning households, of $100,000 annual income and over, have on average only about $173,000, which yields a lifetime monthly income of just $500.
According to the Center for Retirement Research at Boston College, less than half of American workers will have enough income to adequately maintain living standards into retirement. The risk of insufficient income in old age is higher for workers today than it was for their parents and grandparents.
The 30-year experiment with 401(k)-type retirement plans has failed for six reasons: Only half of the workforce has access to a retirement account or pension plan; the plans are voluntary, making retirement savings rates too low and too inconsistent; 401(k) and individual retirement account (IRA) management fees are too high; financial markets are too volatile; many people cash out their accounts to meet immediate needs; and lopsided tax breaks go mainly to the richest taxpayers. So individuals bear too much risk of under-accumulation, unreliable returns, and the absence of a steady stream of lifelong retirement income.
In 2009, Vice President Joe Biden's Middle Class Task Force acknowledged the eroding retirement-income system. It urged more choices in retirement accounts and universal coverage. In the same year, the Government Accountability Office recognized the failure of 401(k)-type plans and reviewed four serious pension-reform ideas. The best of these was the Guaranteed Retirement Account plan.
GRAs, which I helped to develop working with the Economic Policy Institute and Rockefeller Foundation, would ensure everyone has a retirement plan that effectively supplements Social Security. Participation in a pension plan would be automatic for everyone; contributions would be required by both employers and employees and thus, would be consistent and adequate. Professional managers would invest the GRA money at low fees, and the accounts would have a guaranteed inflation-adjusted rate of return, provide automatic annuities, and prevent withdrawals before retirement. A $600 tax credit would be given to everyone, not just those taxpayers with large deductions, ensuring every worker gets help from the government.
GRAs are similar to plans available to university professors, nonprofit employees, members of Congress, and other public-sector employees. GRAs would also break the lock that Wall Street currently has on most retail and brokerage retirement products. The management of 401(k) and IRA plans is among the financial industry's most lucrative business. Fees are hidden and so large that they can easily erode the value of the fund by 20 percent.
Alternatives such as extending IRAs to Americans without pensions are no solution. With universal or automatic IRAs, people will still not save enough, pay too many fees for risky investments, and have no assured income stream for life.
So the current Social Security debate has it backward. The real issue is not how much to cut the system's already meager benefits but how to assure decent living standards for Americans in old age. Part of the answer is to restore decent wage growth for working Americans, so that their contributions to retirement will be more nearly adequate. But the retirement system itself is in need of major overhaul.