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Defined-Benefit Proponents Strike Back

Here at Via Meadia, we’ve long held that 401(k) style defined-contribution pension plans are a much better option for workers and employers than defined-benefit plans. They’re more stable, less susceptible to abuse by politicians, and less prone to collapse should an employer or municipality go broke. With more and more states struggling with their pension costs, this idea has been picking up steam in recent months.

But not everyone is convinced. In a new report, the Economic Policy Institute—a left-leaning think tank with close ties to organized labor—argues that the shift toward 401(k) plans has has increased income inequality among retirees, and has left low-income savers extremely vulnerable to shocks in the stock market:

Retirement-income inequality has grown in part because most 401(k) participants are required to contribute to these plans in order to participate, whereas workers are automatically enrolled in defined-benefit pensions and, in the private sector, are not required to contribute to these plans. Thus, higher-income workers are much more likely to participate in defined-contribution plans. In addition, higher-income workers have more disposable income and a higher investment-risk tolerance, receive larger tax breaks, and are more likely to work for employers that provide generous matches (CBO 2013; Morrissey 2009). Thus, even if participation had not grown more unequal, disparities in retirement preparedness would have grown with the shift from defined-benefit to defined-contribution retirement plans.

The shift to a retirement system based on individual savings also means that workers’ retirement prospects are increasingly affected by shocks to stock and housing markets and broader economic trends. Much of the 401(k) era coincided with a long bull market propping up household wealth measures even as traditional pensions became scarcer and the savings rate declined. This house of cards collapsed in 2001, and then again at the end of 2008. Though the share of households with any savings in retirement accounts has trended upward with the shift to defined-contribution plans and an aging population, it declined in the wake of the Great Recession (Figure 8). Nevertheless, aggregate savings in retirement accounts continued to grow faster than income even after the Great Recession (Figure 9), though median account balances declined (Figure 10) and retirement savings grew more unequal (Figure 11).

The EPI makes some good points, but fails to address the reasons to favor a (reformed) defined contribution system. Defined-benefit plans can reward lifers in jobs but also expose them to risk every time former employers struggle, go bust, or get merged. They work for large, stable institutions, but are particularly ill-suited for a job market in which small businesses, entrepreneurship and job-hopping are becoming the norm. Given that this is where the economy is headed, defined-contribution looks like a safer bet.

To make those plans friendlier to lower income workers, we could consider federal matches of employee contributions, mandatory opt-in rules, or tough investment regulations to protect the vulnerable from Wall Street sharks. The old feudal employment system of lifetime jobs isn’t coming back anytime soon, and corporate life is getting wilder, not tamer.

A good retirement security system should be a high priority for both parties, but it has to be grounded in the economic realities of the 21st century.

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  • bpuharic

    401K programs prove, again, conservatives love a beautiful theory, as long as they don’t have to test it by comparison with facts.

    Only 60% of people eligible for 401k’s actually HAVE them. And of those that do, the average value is about 100K. NOT enough to retire on

    But it’s certainly another way the right can scam the middle class. After all, you can blame the middle class because rather than paying for food, clothing, housing, cars, medical car, college for the kids, etc, they should be putting all that money they’ve earned into a retirement package

    Except, of course, the middle class hasn’t had a real wage increase in 30 years.

    • Bruce

      Yes, the right. In Australia, our private retirement system (“Superannuation”) was set up by a centre-left government, following the example of Pinochet’s Chilie. It is extremely popular, and it is defined contribution.

      The fluctuations in portfolio value that can be a problem for workers as they approach retirement are generally smoothed out by progressively moving investments into more stable investment classes as retirement approaches. At retirement, the payout can be used to buy a pension, which gives a secure income for life.

      Our system is different in that it is compulsory to contribute to a superannuation fund if you are working, and most people contribute around 9% of their salary to it. This is a fair bit of money, but the contribution was “ramped up” over some years, and people experienced a lower rate of wage increase in that time, rather than a big impost all at once.

      I don’t pretend to have a deep insight into middle class attitudes in the States, but here in Australia no one feels “scammed” by defined contribution plans; they feel empowered. They can re-allocate their funds to another plan if they want, and can even manage their own portfolio (although a minority of people do that). The tax advantages of making additional contributions mean that many people put even more into their super than they are required to.

      Change can be scary, I understand that, but it’s probably inaccurate to impute bad intent to advocates of a change to your retirement system.

      • bpuharic

        Except our system is an operational failure. Almost half of Americans don’t participate in it. And of those that do, most are worth less than 100K.

        The median income in the US is about 50K. At that salary range, a worker gets about $1100 a month in social security

        How many people do you know who can retire on $14,000 a year?

        • Jeff Jones

          What is your solution? Because, last time I checked, defined benefit will fade with or without the “right wing.” Imperfect as it may be, the 401k model is what we have.

          • bpuharic

            Given the fact middle class wages have been stagnant for 30 years, either increase wages for the middle class or bring back labor unions.

            We don’t ‘have’ a 401K since it’s useless. Thus the middle class HAS no retirement program

            What’s happening is that American is destroying its consumer class and turning us into a banana republic. The wealthy, however, like in all banana republics, is doing just fine

          • Jeff Jones

            Are you advocating minimum wages like the McDonald’s employees were demanding? Because if government mandates that a hamburger chain with relatively small margins has to pay $15/hr to unskilled workers, it will only result in those jobs being eliminated. If they can’t afford to pay, they won’t.

            Not all jobs are meant to provide a living. Like I’ve told you before, my first job at University of Houston made me $500 in three months. If the school had been forced to pay more than that, I would never have been given that experience.

          • bpuharic

            You go ahead and prove those jobs will be eliminated. We’ll wait

            The right wing in the US has all kinds of theories about why the rich need to be protected from the middle class.

            Funny thing, though. They NEVER look at the EVIDENCE, nor do they TEST their ideas. To the US right wing, if the facts don’t fit the theory, time to dump the facts. Anything to protect the wealthy.

          • ColoComment

            My employer is a national wholesale distributor. We have built three new regional warehouses in the past year and a half that incorporated the latest technological developments for supply line management: automated sku pick ‘n pack systems, conveyors, robotic product movers, and the like. …because minimum-wage human warehouse employees cost more over time in non-cash benefits and OSHA, EPA, EEOC, DOJ, etc., compliance expenses, and the like.
            Raise the wage requirements higher than the value that an employee brings to the enterprise, and in this century, as in the last, he will be replaced by automation.
            (…which creates jobs in automation sourcing businesses, by the way, but they’re probably not going to be low-skilled.)

          • bpuharic

            LIberals rely on evidence, conservatives on anecdotes

            When you have evidence let me know. The right gets paralyzed by its own failed delusions about the way the world works

          • Jeff Jones

            Your unhealthy negative obsession with wealthy people does not make this about protecting those people. What an exhausted liberal myth that is.

            > They (fiscal conservatives) NEVER look at the EVIDENCE

            [LAUGH] Even NPR admits that studies have gone both ways:

            “Some studies show raising the wage reduces the number of jobs, while others show that a modestly higher wage can stimulate spending without costing jobs.”


            Relying on slanted studies is unreliable at best. I listen to small business owners, not politicians, professors, or politicized economists.

            Having worked in the private sector for several years, I have seen no real world evidence to show that abruptly forcing a business to double compensation across the board will lead to anything but cost cutting, which will inevitably involve headcount reductions and possibly closed doors.

            But, I am supposed to believe ideas put forth by pointy-headed academics and politicians who have never held productive jobs. Mercifully, professors who don’t teach marketable job skills are about to join the ranks of the unemployed.

            And what do you mean when you say “bring back unions?” (spare me your usual childish insults) If someone wants to form a union in this country they can.

          • bpuharic

            I don’t have an obsession with wealthy people. I have an obsession with the right wing thinking the US should be the best 3rd world country in the world.

            You’re destroying the middle class with your myths.

            And I agree the studies are all over the place

            Which doesn’t do much for right wing dogma that minimum wage increases ALWAYS and NECESSARILY destroy jobs.

          • Jeff Jones

            > I have an obsession with the right wing thinking the US should be the best 3rd world country in the world.

            No argument on the obsession part.

            As for the 3rd world statement, tell that one to the street agitator in the Oval Office who rules like the “El Presidente” fruit-hatted banana republic stereotype in the Tropico video game series.

          • bpuharic

            Another vapid cliche filled diatribe that the right confuses with an argument.

            No wonder they keep losing elections.

          • Jeff Jones

            Losing elections in the states, where it really counts? or in the White House, which the street agitator has made utterly irrelevant?

          • bpuharic

            It it really counted in the states, Romney would be president

            And better a street agitator than a Wall Street thug

          • Jeff Jones

            I am talking about state governments and Capitol Hill. 2010 was hardly an example of
            lost elections. And the states have more power than most people realize.

            You’re still focused on the presidency, as evidenced by your mention of Romney, who was a “settle for” candidate on the order of McCain, Dole, Gore, and Mondale. The GOP won’t keep putting up duds forever because its constituency won’t allow it. And the Democrats will have to run in 2016 on 8 years of bad job numbers, and most of the country is already puking when they use the “Bush did it” excuse.

            This will be my final post on this blog entry, as it is moving way down the list.

          • bpuharic

            The GOP won’t put up duds forever? Sure they will. The GOP is the most extreme right wing it’s been for 60 years and it’s getting more right wing. It’s losing demographics and even young Republicans hate the far right. So as you go further right, you’ll keep losing more and more

  • Jane the Actuary

    Yes, it’s true that for private-sector workers there’s no going back to the Defined Benefit pension that was nearly universal as recently as the ’80s or even the ’90s. But this report is right to highlight the serious problems with our current DC/401(k) system — though, disappointingly, it didn’t offer any prescriptions.

    • Corlyss

      Probably no going back for the feds either. Although . . . you never can tell what some whacked out legislators will do when faced with the opportunity for the celebratory kow tow to the first special ethnic or female President . . . CSRS took no new enrollees after 1983, so it will become history when the last of us on it die off.

  • ColoComment

    The present concept of “retirement” is relatively new in the history of mankind. Up until just the last century people typically worked until they dropped. Or they lived with family members if they could not work as they aged, in return for whatever contribution, in cash or in kind, that they could make to the household.
    It makes no sense whatsoever for today’s population to think that an individual can work for 30-35 years and then, still able-bodied, live for another 30 years supported by their savings and/or society.

    Time, perhaps, to re-examine that whole idea of “retirement.”

    • Corlyss

      Wait till I’m dead, please. Then you can reform the system all you want to.

    • Boritz

      So we have two assignments now.
      Get intractable managers to support telework and get them to rethink the practice of pushing old employees out to make room for the young.

    • Daniel Nylen

      Why doesn’t it make sense to earn enough in 30-35 years to ensure a relatively nice lifestyle for the next 30 years? As a society we are able to produce so much more than in the past. Maybe we can have a life of leisure.
      The key is whether or not the median or average individual of a society is free enough and skilled enough to be able to produce enough in his work period to live off a long retirement. With over 25% of the working age population not working 40+ hours per week, no we can’t. With a large percentage of the population going through years of school but not getting educated, no we can’t.
      Some of us are still optimistic about the future because the cost of producing things we want is going down so quickly, that the future looks bright not bleak.

      • bpuharic

        And don’t forget that in the last 30 years, productivity has gone up. The 1% have tripled their income

        Middle class wages have been stagnant. That’s why we can’t afford retirement. If we had the same income distribution 1975-2005 as we did 1950-1975, median income, according to Robert Reich would not be $50,000. It would be 90,000.

        Think that would affect our retirement?

        • Daniel Nylen

          I can’t say if middle class wages are stagnant or not. Statistically there have been too many dubious studies, too many definitions of middle class and too much gloom. I’m still an optimist though.
          Even with 90 million people over the age of 16 not working in this country–still an optimist. Our poor live better than the middle class of many European countries based on objective standard of what they have, calories, etc. The future is bright for those who work hard and play by the rules still.

          • bpuharic

            And yet you fail to account for the Gatsby curve

            While I understand your reluctance to confront your beliefs with actual evidence, those of us who want to IMPROVE America just aren’t afraid to look the confluence of evidence in the fact

  • Pait

    Roughly speaking, defined-contribution plans are better for corporations whose life expectation is equal or smaller than that of the workers. Defined-benefits plans are better for government entities, which last a lot longer than the retirees.

    • Corlyss

      “Defined-benefits plans are better for government entities, which last a lot longer than the retirees.”
      Only if they are funded properly. The problem with defined contributions plans is all the outs the employee has to take the money and run, borrow from it, make minimum contributions, etc. As you noted, even defined contributions plans won’t work if they aren’t funded.

      • Pait

        The question of funding is often misunderstood. In the case of the federal government. social security is essentially a law that says that current workers pay retirement benefits to current retirees – an intergeneration transfer. The “social security fund” is an accounting fiction.

        Like the federal government, states cannot go out of business, or at least there doesn’t seem to be a constitutional path to state bankruptcy. So they will continue paying retirees with taxes on current taxpayers, and again the question if funding is largely an accounting one. Of course it is desirable not to increase taxes, so having money set apart in advance is desirable.

        Local governments are not similarly protected and should set money apart for pensions. However cities and tows default much less often than private corporations, so the risk of defined benefit pensions for public employees is much less than the risk for private employees.

        • Corlyss

          “and again the question if funding is largely an accounting one.”
          Agreed, the way it’s done now. CSRS people were ineligible for SS. The feds didn’t contribute and neither did the employees. If CSRS people were to get SS eventually, they had to get it by working for a non-fed employer. Many did. Some of us didn’t. I gather the liberalities they took with funding SS were one reason they phased out the CSRS. Since 1983, the feds stopped offering CSRS to employees, which are now on FERS, a combination of SS and personal savings thru the TSP.

  • Corlyss

    “Here at Via Meadia, we’ve long held that 401(k) style defined-contribution pension plans are a much better option for workers and employers than defined-benefit plans.”

    Not for workers if the benefits are generous and the funding is maintained. The two just almost never happen, however.

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