Saving for retirement has traditionally been compared to a three-legged stool supported by Social Security benefits, workplace pensions, and household savings. As the prevalence of defined benefit pensions has diminished in recent decades, the importance of household savings has grown. To enable and encourage saving among lower-income Americans, policymakers have established several types of tax incentives. The Earned Income Tax Credit (EITC) provides an immediate reduction in income tax liability (or a larger refund) for eligible households. Additionally, certain types of retirement saving accounts and defined contribution saving plans lower current tax liability by deferring taxation of the amounts contributed until the funds are withdrawn in retirement. Using data from the Understanding America Study, this article compares the retirement-related financial behavior and preparedness of EITC-eligible and ineligible households and examines whether EITC eligibility affects the use of tax-advantaged retirement saving plans.
When to claim Social Security retirement benefits is one of the most important financial decisions many people make. The Social Security Administration (SSA) provides a variety of online tools and publications to help individuals decide on their own when to claim benefits but maintains a neutral stance on when a person should claim. Because SSA remains neutral, other government, nonprofit, academic, and for-profit entities have developed tools to assist the public with their claiming decision. This note analyzes the advantages and limitations of six online benefit calculators. Users of these online tools should consider the source of their information and understand that the benefit estimates they produce are based on different underlying assumptions, which can result in different estimated benefit amounts.
The authors present data on annual retirement income of American Indians and Alaska Natives (AIANs) from the American Community Survey and include separate analyses for AIANs of single-race and multiple-race backgrounds. The authors also compare retirement income of AIANs with that of whites and blacks and find that, overall, annual retirement income among all AIANs was significantly lower than that of whites and also of blacks.
This study uses data from the Health and Retirement Study (HRS) to analyze financial literacy within the American Indian and Alaska Native (AIAN) population. The HRS is a nationally representative longitudinal survey of individuals aged 50 or older and their spouses. The study compares AIAN financial literacy scores from an 18-question financial literacy module with those from other racial groups, all of whom score higher than the AIAN sample.
In this article, the authors use the Health and Retirement Study to compare retirement resources of the foreign born with those of the native born. They find that immigrants have significantly lower Social Security benefit levels than natives; however, after controlling for demographic characteristics immigrants have higher levels of net worth. The immigrant/native differential in retirement resources varies systematically by number of years in the United States.
The income of the aged is composed largely of Social Security benefits, asset income, and pension income. Over the past three decades, the primary form of employer-sponsored pension has shifted from the traditional defined benefit plan to defined contribution plans, such as the 401(k). That trend creates problems for measuring the income of the aged because most household surveys of income either do not collect information about distributions from defined contribution retirement accounts or do not include those distributions in their summary measures of income. This article examines the impact of including distributions from retirement accounts on the estimated income of families headed by persons aged 65 or older.
This article explores how psychosocial variables relate to financial literacy. Although prior research has examined mainstay economic variables, this study examines whether previously unexplored variables—financial satisfaction, hopelessness, and religiosity—impact financial literacy. The study uses Health and Retirement Study data and finds that financial satisfaction and religiosity are associated with financial literacy.
Financial illiteracy is prevalent in the United States, and low levels of financial literacy are associated with poor financial choices and negative economic outcomes. We examine previous work on the effect of financial education on household saving and find mixed results. Workplace financial education seminars positively affect household saving, but the size of this effect varies widely across studies. The effects of other financial education initiatives are less clear, highlighting the need for rigorous econometric evaluation of efforts to improve financial literacy.
The majority of research dealing with the retirement decision has focused on the health and wealth aspects of retirement. Research in the areas of judgment and decision making and behavioral economics suggests that there may be a number of behavioral factors that influence the retirement decision as well. This review highlights such factors and offers a unique perspective on potential determinants of retirement behavior, including anchoring and framing effects, affective forecasting, hyperbolic discounting, and the planning fallacy. The author describes findings from previous research, as well as draws novel connections between existing decision-making research and the retirement decision.
The Role of Behavioral Economics and Behavioral Decision Making in Americans' Retirement Savings Decisions
This article outlines findings from the judgment and decision making (JDM) and behavioral-economics literatures that highlight the many behavioral impediments to saving that individuals may encounter on their way to financial security. It discusses how behavioral and psychological issues, such as self-control, emotions, and choice architecture can help policymakers understand which factors, aside from purely economic ones, may affect individuals' savings behavior.
Assessing the Performance of Life-Cycle Portfolio Allocation Strategies for Retirement Saving: A Simulation Study
The investment performance of life-cycle portfolio allocation strategies is evaluated using a stochastic simulation based on historical asset returns during 1926–2008. Lifetime contribution streams to the accounts are determined using the actual earnings histories of 13,000 workers born in 1915–1942. The results are compared with those of four alternative strategies that vary in terms of investor exposure to stock and bond market risk.
This article reviews the research contributions of the Center for Retirement Research at Boston College over its 10-year history and their implications for Social Security and retirement income policy in three major areas: (1) Social Security's long-term financing shortfall, (2) the adequacy of retirement incomes, and (3) labor force participation at older ages as a means to improve retirement income security. The center has received substantial funding support from the Social Security Administration (SSA) in each area and has also successfully leveraged SSA's investment by attracting funding from other sources.
This article uses the U.S. Federal Reserve Board's Survey of Consumer Finances to examine near retirees' (aged 50 to 61) debt holdings in 1995 and 2004. Employing a variety of measures on household borrowing, our results show that near retirees in 2004—the leading edge of the baby-boom cohort—had more consumer and housing debt than their counterparts in 1995. We observe a modest increase in the median debt service and debt-to-assets ratios between the two cohorts, but no statistical difference in their respective average. Analysis of several demographic and socioeconomic subgroups reveals certain population segments, such as single female households, with significantly higher debt service ratios in 2004.
This article examines pension participation and nonpension net worth of two cohorts of near retirees. Particularly, the authors look at people born in 1933 through 1939 who were ages 55–61 in 1994, and the more recent cohort consisting of people of the same age in 2004 who were born in 1943 through 1949. Data are from the Health and Retirement Study, a longitudinal, nationally representative survey of older Americans.
On July 1, 2007, New Zealand introduced KiwiSaver, a new subsidized retirement savings plan. All new entrants to the labor force and anyone starting a new job are automatically enrolled in a plan and may opt out if they wish. Anyone younger than age 65, including the self-employed and anyone not in the labor force, may choose to set up a KiwiSaver account. The government provides tax credits for both employer and account holder contributions, a one-time tax-free payment to each account, and an annual fee subsidy to defray administrative costs.
This article provides an overview of the literature on best practices for retirement savings plan design and financial education in the workplace. Without a successful plan design, financial education will not be effective and even a well-structured plan can fail to achieve retirement savings goals without financial education. The main components of a retirement savings program that employers must consider include options for enrollment, investment choices, employer matching of contributions, and distributions over the working career and at retirement. In addition, employers control the core aspects of financial education, such as the topics covered, the delivery methods used, the frequency with which it is offered, and its general availability.
Sweden's new multipillar pension system includes a system of mandatory fully funded individual accounts. The Swedish system offers contributors more than 600 fund options from a variety of private-sector fund managers. However, in the most recent rounds of fund choice, more than 90 percent of new labor market entrants have not made an active choice of funds and thus have ended up in a government-sponsored default fund.
The Swedish system offers a number of lessons about implementing a mandatory individual account tier. Centralized administration keeps administrative costs down but requires considerable lead time. A very large number of fund options are likely to be offered unless strong entry barriers are in place. Engaging new labor market entrants in fund choice is likely to be difficult. A significant percentage of those making an active fund choice may choose funds that are very specialized and risky. Finally, special care must be devoted to designing a default fund and continual consumer communication.
Executive Summary from—Survey Estimates of Wealth: A Comparative Analysis and Review of the Survey of Income and Program Participation
Education about retirement affects how employees use distributions from their defined contribution pension plans. Retirement education substantially increases the probability that participants age 40 and under will save a distribution but decreases the probability that college graduates and women will save one. These important differentials are concealed by estimates of the effect of retirement education on participants generally.
Analysis of the wealth held by white, black, and Hispanic households points to differences in saving behavior, notably a disinclination on the part of minority households to invest in riskier, higher-yielding financial assets. This finding may account for some of the great disparities in wealth across racial and ethnic groups that cannot be explained by income and demographic factors.
There are large differences in wealth across racial and ethnic groups, much of which remain unexplained even after controlling for income and demographic factors. This paper studies the issue of whether differences in saving behavior and rates of return on assets are a possible source of the differences in wealth. It uses data from the Health and Retirement Study to examine the differences in various components of aggregate wealth (including nonhousing equity, housing equity, financial assets, and risky assets) and to inspect differences in portfolio choices by race and ethnicity.
Descriptive tabulations of components of aggregate wealth and portfolio choices shown here point to differences between white and minority households in their saving behavior and choice of assets. These findings suggest that some of the large differences in wealth across racial and ethnic groups that remain unexplained even after controlling for income and demographic factors, may be attributable to the smaller participation in financial markets by minority households.
This article compares participation rates in three existing voluntary individual account-type plans—individual retirement accounts (IRAs), 401(k)s, and the federal Thrift Savings Plan (TSP)—in an effort to analyze who might participate in a voluntary individual account system.
In recent years, a number of proposals have been advanced for privatizing all or part of the Social Security program in the United States. These proposals range from the immediate abolition to the gradual phasing-out of Social Security taxes and benefits. This paper evaluates several premises that often underlie privatization proposals—that rates of return in the private sector exceed those implicit in the Social Security program, that privatization would lead to an increase in national saving, and that privatization could somehow improve the lifetime welfare of all affected generations. The paper first considers whether rates of return in the private sector actually exceed those implicit in the Social Security program and discuss the conditions required for privatization to lead to an increase in national saving. The paper then demonstrates theoretically that an existing, well-managed, pay-as-you-go social security program is Pareto optimal in an economy with exogenous factor prices, regardless of the extent to which privately available rates of return exceed those implicit in the pay-as-you-go program; i.e., no privatization scheme can be found that benefits at least one present or future generation without harming at least one other generation, and no scheme can be found that allows the winners from privatization to compensate the losers and still come out ahead. The analysis is extended to incorporate the assumption of endogenous factor prices and the possibility that pay-as-you-go social security programs reduce private saving. The theoretical conclusions are illustrated by using a long-run economic projection model to simulate the aggregate economic and intergenerational redistributive effects of two stylized privatization schemes.
This paper reports on an analysis of the consumption decisions of individuals. A consumption function is developed that can be viewed as an extension of the traditional life cycle-permanent income specification, with consumption determined as an age-specific proportion of current and prospective wealth. Special attention is focused on the degree of substitutability between current and prospective wealth and on the differential effects of the various types of prospective income flows on the consumption decision.
In a recent article in the Journal of Political Economy (Leimer and Lesnoy 1982), we presented new time series evidence that cast considerable doubt on earlier evidence presented by Martin Feldstein (1974) which implied that social security had a large and statistically significant negative effect on personal saving in the United States. Our results may be summarized as follows: First, the social security wealth variable used by Feldstein was seriously flawed as a result of a computer-programming error. Simply correcting this error substantially changes the estimated effect of social security on saving. Second, the statistical evidence depends upon assumptions which are embedded in the construction of the social security wealth variable. These assumptions relate, first, to how individuals form their expectations about the social security benefits they expect to receive and the social security taxes they expect to pay and, second, to estimates of the number of workers, dependent wives, and surviving widows who will receive benefits. Adopting reasonable assumptions that differ from those used by Feldstein leads to generally weaker estimates of the relationship between social security and saving. Finally, the estimated relationship between social security and saving is acutely sensitive to the period of estimation examined. We concluded that the time series evidence simply does not support the hypothesis that social security has substantially reduced personal saving in the United States.
The purpose of this paper is to consider several alternative specifications of the consumer expenditure function.
Social Security and Private Saving: A Reexamination of the Time Series Evidence Using Alternative Social Security Wealth Variables
In an important article in the Journal of Political Economy , Martin Feldstein estimated that the introduction of the social security system had reduced personal saving by 50 percent, with serious consequences for capital formation and output. His conclusion was based on a consumer expenditure function estimated with U.S. time series data and incorporating a social security wealth variable of his construction.
The original intent of this paper was to examine the sensitivity of Feldstein's conclusions to certain assumptions underlying his construction of the social security variable. In particular, we wanted to examine the implication of his assumptions concerning how individuals perceive future benefits and taxes.
This paper attempts to make two contributions to this research. The first one is expositional. A simple overlapping generation's model is developed and used to reinvestigate the wealth and endowment redistribution effects from the introduction of pay-as-you-go social security. Our second contribution is substantive and extends the analysis of the endowment redistribution effect. Finally, perspective is offered on the relationship between pay-as-you-go social security and private saving.