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Laura Rowley Money & Happiness

Laura Rowley, Money & Happiness

Rethinking Retirement Savings (or Not)

by Laura Rowley

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Posted on Thursday, February 15, 2007, 12:00AM

Conventional wisdom suggests that people are woefully unprepared for retirement. Study after study portrays most Americans as the proverbial grasshoppers, playing the fiddle with their finances while a minority of conscientious ants store up supplies for their golden years.

In 2004, for example, the Center for Retirement Studies at Boston College estimated that 43 percent of working households were in danger of having too little income to fund their retirement, even after tapping home equity.

Singing a Different Tune

Now a group of economists is offering a wildly contrarian view: People may be saving too much for their retirement. A few go so far as to suggest that the financial services industry is deliberately encouraging over-saving because it profits from managing such assets.

Consider a recent study conducted by Paul Smith and Lucy McNair of the Federal Reserve Board, and David Love, an economist at Williams College. They found that 88 percent of all households with breadwinners over age 51 had accumulated sufficient resources to finance adequate consumption in retirement.

A separate study by John Karl Scholz, an economist at the University of Wisconsin, Madison, and two other researchers found more than 80 percent of households headed by Americans born between 1931 and 1941 have accumulated their optimal wealth targets for retirement.

The other 20 percent missed their goal by a relatively small margin, according to the study published in the Journal of Political Economy.

The Wrong Message?

"I was very surprised by the research," says Scholz. "If you pay even cursory attention to the popular financial press, the message is that Americans are blowing it in their retirement."

His study looked at more than 6,000 Americans who took part in a detailed Health and Retirement Study, which surveyed them on income, job history, pensions, housing, retirement plans, health, family structure, and net worth, among other topics.

The researchers then constructed an elaborate "life cycle model" that captured key features of a household's consumption decisions, potential health shocks, survival probabilities, income tax liabilities, and projected Social Security benefits.

"The behavior underlying our model requires fairly sophisticated mathematics to solve," says Scholz. "It's a model professional economists use to think about this issue -- it doesn't translate into advice [for the consumer]."

The 'Rules of Dumb'

Boston University economist Lawrence Kotlikoff argues more economists should be developing tools to advise the consumer. "There is a risk from overdoing it when you're young -- you squander your youth rather than your money," he says. "It makes no sense to have huge bundle in your 401(k) and have not gone to Hawaii, or gone skiing with the kids. It's not all about the end game -- it's about the middle game and the short game, too."

Kotlikoff has created dynamic programming software for individuals, incorporating the kind of economic modeling used in academic research. Such models focus on "consumption smoothing" -- or putting away just the right amount to maintain one's standard of living over time -- rather than following rules of thumb, or what Kotlikoff calls "rules of dumb."

Kotlikoff suggests that people have been duped by tainted advice, and a small calculating mistake can become greatly compounded over time. "The simplistic calculators on companies' web sites are primitive tools that have no connection to modern mathematics or economic theory," he says. "Five-second financial checkups are really financial malpractice."

In his recent paper "Is Conventional Financial Planning Good for Your Financial Health?" Kotlikoff ran a theoretical household through the retirement calculators on the web sites of Fidelity, Vanguard, American Funds, and TIAA-CREF, and found the savings recommendations ranged from 36 to 78 percent too high, compared to his software's calculation.

Meanwhile, though many planners base their retirement recommendations on a steady level of consumption, a review of federal data found that seniors spend less as they age.

In an article in the Journal of Financial Planning, Wisconsin planner Ty Bernicke found Americans over 65 spent an average of 26 percent less than their younger peers. Bernicke cites research that suggests the spending cut is voluntary, rather than in response to a lack of resources.

'Optimal' May Mean 'Just Getting By'

But before you trade in your 401(k) contribution for a whirlwind vacation, consider a few problematic factors. First, don't confuse "optimal" wealth accumulation with opulence. Some people have enough to retire on only because they've had very low incomes throughout their lives, and Social Security replaces a sizeable chunk of their earnings. About one-third of retired workers depend on Social Security for 90 percent or more of their income.

For example, Scholz found that in the generation he studied, householders with the lowest lifetime earnings had an average of 4.6 children. "Suppose you have five children. When the kids are in the house, they're eating all of your resources," Scholz says. "Once the kids are out of the house and you adjust the consumption needs of the remaining couple, their optimal wealth accumulation is next to nothing. Social Security is replacing 60 percent of income. This rosy language of ‘optimal' still may mean people have austere standards of living in retirement."

In addition, Scholz's study examined people born between 1931 and 1941 -- a demographic group greatly influenced by the lessons of the Great Depression. One could argue that the event would inspire them to save more prodigiously than the baby boomers born between 1946 and 1964.

Moreover, if 88 percent of people over age 51 have saved enough to retire, as Smith, McNair, and Love's study indicates, why are so many people in their 70s getting up and going to work every day? The percentage of men age 70 to 74 who are still in the workforce has risen five percentage points over the last decade to more than 20 percent, according to an analysis by the Population Reference Bureau. Of that group, more than half were working full-time.

A Cautionary Approach

I suspect I'm one of the dupes who's saving too much for retirement. For years, I've followed a "rule of dumb" -- putting away 10 to 15 percent of my income annually. My goal is to replace 80 percent of my current income in retirement, excluding home equity and Social Security. (I'm dubious about the program's long-term sustainability.)

I may need less than 80 percent of my current income, since many of my costs will disappear in retirement: school tuition, college savings, the kids' extracurricular activities, the mortgage (and I won't need to save for retirement anymore).

But I err on the side of caution, because saving for retirement squeezes out luxuries -- a second car, better vacations -- rather than necessities. Economists should turn their research into more accurate models for people who could use additional funds today to stay out of credit card debt, or pay for education and other staples of life.

If anything, the rocket science of figuring out retirement needs underscores the importance of not scrimping on your health. Spend the money on the gym, a weight management program, or the smoking-cessation class today. Then, if you end up with too much in retirement, you'll have the energy to enjoy the windfall; if you end up with too little, you'll have a better chance that medical expenses won't put you into bankruptcy.

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271 Comments

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  • hansh - Sunday, February 18, 2007, 4:40PM ET  Report Abuse

    • Overall: 2/5

    LOL at the first 4sections. Warning readers should read the whole story written by the author and at least skim some of the assertions and assumptions of the ref surveys. For example the 1st study cites only 12% are unprepared. however if one reads the referenced study they assume ANYTHING over the POVERTY line as adequate preparation for retirement. The U of Wisconsin study referenced ,counts social security as if the current promises are both retained and available. Anybody who understands the nature of Social insecurity as a Ponzi scheme with an inflation adjusted rider knows this to be a laughably dubious assumption.

  • Patrick - Sunday, February 18, 2007, 4:31PM ET  Report Abuse

    • Overall: 1/5

    The entire premis of this article is absurd. There is no such thing as saving too much for retirement, esspecially considering that that most companies do not offer pensions anymore and the ones that still do are steadily stepping back what they do offer. Social Security is a joke and everyone in America should opt out of this VOLUNTARY government program and invest the money themselves in at least a basic IRA; it may not give huge returns but the average person will benifit by virtue of not having the money stolen from them, thanks to decades of backdoor government borrowing, giving illegal aliens benefits, (and personal my favorite) giving social security disability benefits to spanish speaking leeches who refuse to learn English and therefore cannot be a useful part of society; IT WILL NOT BE THERE.

  • __A_YAHOO_USER__ - Sunday, February 18, 2007, 4:18PM ET  Report Abuse

    • Overall: 1/5

    ENOUGH!! Who are you writing this to? The multimillionaires? I live on disability...how much do you think I am socking away for retirement? Those who have will keep on getting...those you don't...live the same way!

  • heartbeat - Sunday, February 18, 2007, 4:08PM ET  Report Abuse

    • Overall: 1/5

    what about loosing nearly all to Enron, and Dean- Winter .

  • Mark T - Sunday, February 18, 2007, 3:50PM ET  Report Abuse

    • Overall: 2/5

    The conclusion of the article's author correctly points out the flaws fof the studies he writes about. But that is only helpful if people read the whole article. One thing not mentioned strongly enough is that not only are companies reducing pensions and benefits, but most are trying to eliminate them all together. Therefore most people under the age of 50 probably will not have a pension or benefits when they retire. Therefore they will have to save more to cover their health insurance themselves and any chances of possible serious health issues which increase with age. And I do not plan on SS being around when I retire, especially since congress granted benefits to illegal aliens who do not pay into the system.

  • Lynn C. - Sunday, February 18, 2007, 3:50PM ET  Report Abuse

    • Overall: 5/5

    Wonderful enlightenment.

  • james - Sunday, February 18, 2007, 3:48PM ET  Report Abuse

    • Overall: 5/5

    I don't honestly think that anyone who is putting away money for retitrement is putting away enough no matter what as the social security is never enough to survive.

  • dalem - Sunday, February 18, 2007, 3:39PM ET  Report Abuse

    • Overall: 1/5

    Yahoo sure comes up with some good ones. This one is about as good as the 15' Anaconda trying to eat an eight-year-old! Anyone that knows anything about snakes got a good laugh and anyone that knows the U.S. citizens are last in saving will get a good laugh from this one! Most people from the lower level income up to and including the lower end of middle-class live week to week on their incomes and save nothing. Send your people back to school and have them take a few math courses! Maybe they could also learn how to construct a random sample for their studies and then do the whole damn thing over. If the people that save nothing(almost 50%) should spend more I guess that would be great for the credit card industry right?

  • Yahoo! Finance User - Sunday, February 18, 2007, 3:35PM ET  Report Abuse

    • Overall: 4/5

    I can't wait to be old! Medicare will take over the crushing medical insurance I pay for my family of 5, not to mention they will pay for my dental expenses (which are not coverd by any sort of insurance and cost me an average of $3000 a year). Plus my grocery bill, which I try despratly to keep down by buying things on sale and using store brands, will be cut by 2/3! Right now I spend more on food for my 3 kids than on my mortgage (that is not an exaggeration, it is a fact). I was seriously stressed about retirement until I realized that I won't be supporting 3 kids anymore! I won;t even need to drive a 6 cyl minivan anymore- I can go back to the compact car I was forced to give up after realizing I couldn't fit a car seat and a 14 year old in a Ford Escort!

  • PHILIP - Sunday, February 18, 2007, 3:31PM ET  Report Abuse

    • Overall: 5/5

    I SEE MYSELF IN YOUR ANALYSIS.HEALTH COSTS,AND THE IDEA THAT YOU SHOULD LEAVE SOME FUNDS TO YOUR CHILDREN ARE IN OUR PLANNING.

  • Douglas - Sunday, February 18, 2007, 3:13PM ET  Report Abuse

    • Overall: 2/5

    The conventional wisdom of a retiree needing 70-80% of his/her preretirement income is specious. Consider (a) a retiree can live for another 30 years (b) there is a phenomenon called inflation. The retiree living in 2035 with 70% of his/her 2005 income is not likely to be a happy camper. It is essential to avoid the other conventional wisdom of putting most assets in CDs and bonds in later years. One should retain sufficient assets of types that will grow apace with inflation to provide an increasing stream of income.

  • Yahoo! Finance User - Sunday, February 18, 2007, 3:13PM ET  Report Abuse

    • Overall: 1/5

    Your rating system should allow a minus rating. Your survey must have been with the top 20% of wealthy individuals. Do you belive SS will provide enough in benefits in the future? Most people working full time are hardly making it now and many don't have medical insurance!.

  • Yahoo! Finance User - Sunday, February 18, 2007, 3:10PM ET  Report Abuse

    • Overall: 1/5

    I hate goverment mind controlling burracrates. don't listen to these freaks. there is no such thing as having too much money.

  • Yahoo! Finance User - Sunday, February 18, 2007, 3:07PM ET  Report Abuse

    • Overall: 2/5

    I agree that there are some in the financial planning industry who may be more motivated by selling financial instruments, simply because they gain commissions from them, and may also be pushing for more savings to increase the portfolio under their control. But a good financial plan will take into account the lifestyle and life expectancy and the funds required to provide this level as a goal. Therefore, a prudent savings and investment plan will provide the answer to the question, "How much should I put away now?" Changes due to health concerns, the failure of the firm providing your pension would require a re-evaluation of the plan - both the lifestyle expectation and savings plan. In the course of living, most people become more cautious particularly after having either a personal experience or know of family or close friends suffering an unexpected financial loss or costly long term health issue. Naturally they are concerned about a similar event wiping our their own resources so they have a tendency to pare back on their expenses in order to preserve and extend the value of their nest egg. Those looking at spending patterns are going to see this economizing reaction to fear of the unknown future (particulary from those who have lived in the shadow of the Great Depression) rather than a normal reduction in discretionary and non-discretionary spending.

  • ROBERT - Sunday, February 18, 2007, 2:55PM ET  Report Abuse

    • Overall: 1/5

    A person either outlives his money or he doesn't. Banking on an average life span won't cut it. Thus he must save for longevity or purchase life income (immediate annuity) from an insurance company. Very few people I talk to have a clue what size nestegg it takes to support decades of retirement. This article is irresponsible in the type of message it sends.

  • __A_YAHOO_USER__ - Sunday, February 18, 2007, 2:49PM ET  Report Abuse

    • Overall: 2/5

    How can one save at all for their retirement? excuse me, but saving 10 - 15% of my annual income every year? getting 10 -15% deeper in the hole is more like it. I am 40 and have worked remendously hard since 16...wanna know my savings so far?....try $O. And i have filed for personal bancruptcy AND refinanced my house......and still no savings. Why? It's impossible. I get aggravated when i hear stories like "im financially retired at 40". Dont run any more dumb articles like this.....they are so far removed from the average person it sickens me. Like everyone's employer even offers a 401K....not mine

  • Yahoo! Finance User - Sunday, February 18, 2007, 2:40PM ET  Report Abuse

    • Overall: 3/5

    Many economists use a linear model to predict future events without realizing how dynamic the world could be. The model could have been too optimistic about the social security and current inflation, both of which are wild cards that could substantially affect our livings during retirement. With current public and private debt levels, one would be prudent to put aside 10%-15% into savings and prepare for much higher cost of living and less social security.

  • Yahoo! Finance User - Sunday, February 18, 2007, 2:34PM ET  Report Abuse

    • Overall: 2/5

    The concept of "optimal" retirement is a myth. We do not live in a world of optimal situations. We should plan for the worst, so we do not become burdens upon our children. Retirement should not mean "stop" working. Retirement is more of aframe of mind. I financially retired from running businesses at 40, to my dream job, teaching in public shool. Since I do not have to be teaching for a living, my attitude about being there is much different about those around me.

  • Alan J C - Sunday, February 18, 2007, 2:18PM ET  Report Abuse

    • Overall: 1/5

    Just more propaganda from the corporate media to dump money back into the economy. No essential numbers to support such garbage. Since the media is owned by 5 major corporations now, news does nothing but advertise and mislead people with stories that have low life priority.

  • Brisguy - Sunday, February 18, 2007, 2:10PM ET  Report Abuse

    • Overall: 3/5

    Good article since it encourages folks to *think* about their retirement instead of just follow advice from the investment community. That is the point of the article - not "Stop saving" or "Save less" which is apparently what some of the people who gave this a low rating thought. Apparently they did not even bother to read the title! I have seen those retirement calculators and been advised to save a very large sum and was concerned that I wasn't saving enough. Recently I reviewed my savings based on what I would likely spend during retirement and found I could do very well with much less. This is because I spend over 60% of my income on kids and housing. These expenses will almost go away in retirement. Save for retirement? Absolutely! How much? Decide for yourself with proper advice and make use of readily available tools.

  • Janice - Sunday, February 18, 2007, 2:07PM ET  Report Abuse

    • Overall: 4/5

    Yahoo.Finance Adviser says it is a good idea to save 10% of your net income. Perhaps. He/she says of friends still working at 60 scrapping along. I am 66 and still working, because I enjoy it. What I believe is wrong is to make people who desire to work feel like they are stupid if they are still working at 65, 70, or 75. In short, early retirement isn't for everyone. The key to retirement planning is to plan so you are in a comfort zone when that day arrives. No one knows exactly what that might be...we just have to do the best we can early in life. I do believe it is wrong to allocate so much of your early income to retirement funds at the expense of enjoying life during that time. It is about balance and planning.

  • Yahoo! Finance User - Sunday, February 18, 2007, 2:03PM ET  Report Abuse

    • Overall: 2/5

    As usual. there is a lack of numbers to support what they are saying. Reads more like an advertisement to sell their article, something they are accusing the financial industry of doing at the same time, self-serving interests. The unfortunate result of this is people who walk away from an article with no supporting data thinking they don't have to worry about retirement anymore. How come no one ever mentions that savings also protects you from long periods of unemployment? A definate concern these days.

  • Yahoo! Finance User - Sunday, February 18, 2007, 1:49PM ET  Report Abuse

    • Overall: 1/5

    The statistics mentioned in the article don't include the whole U.S. I don't believe too much in statistics unless it includes everyone. I belive that this article has poor advise for people who want to retire well. Yes we should enjoy life now but not having enough retirement money later means that you'll won't be able to enjoy life later. Why not enjoy life period?

  • A_Rose - Sunday, February 18, 2007, 1:44PM ET  Report Abuse

    • Overall: 3/5

    Interesting article. I myself have an annuity, and am glad I was convinced to start this very early in my career. I really do want my family and I to have enough when I retire. However, I can see the point of maybe not enjoying the money while you are at your healthiest and/or most vibrant. I hope to find a good balance saving it and enjoying it.

  • Yahoo! Finance User - Sunday, February 18, 2007, 1:41PM ET  Report Abuse

    • Overall: 1/5

    The article said NOTHING! But, hey, let's have these boomer idiots spend what paltry sums they have saved and take a 5 day cruise to Mexico and blow it all. The taxpayers are going to end up supporting the boomer generation anyway, so why waste time with these fools. For those of you younger folks, you need to save as much as you can for your retirement and medical needs--estimated at an average of $250,000 beyond Medicare payments for someone who is 55 NOW--unless you want to eat dog food when you retire. And thanks to the dems and the lousy leadership of the Republicans, those of you under 45 will be getting hosed out of your Social Security bemefits.

  • Yahoo! Finance User - Sunday, February 18, 2007, 1:40PM ET  Report Abuse

    • Overall: 2/5

    Why not do BOTH! You don't need to save as much IF you maximize your investment return. E.g., I have amassed nearly $1M in my 401k and never put in more than 1/2 the allowed maximum! BUT I actively manage my plan and have averaged 15% return for the last 10 years -- including the "crash." Google "essential investment services" to see the service I have been using with great success. Getting a higher return on your money is MUCH, MUCH more significant than how much you save.

  • Frank - Sunday, February 18, 2007, 1:38PM ET  Report Abuse

    • Overall: 4/5

    I suspect that the majority of people who work after age 65 are working,not so much for the money,but for the need to have something to do.

  • KM - Sunday, February 18, 2007, 1:37PM ET  Report Abuse

    • Overall: 1/5

    I find it disappointing when journalist go for an entertaining headline at the expense of facts. Most Americans are grossly unprepared for retirement, this reminds me of the article I read not to long ago possibly here) advising that it was wiser to use your credit card to pay your bills than some other form of payments (cash debit cards etc.). With terrible advice like this from seemingly reliable sources its no wonder so many Americans can't get there heads above water.

  • Yahoo! Finance User - Sunday, February 18, 2007, 1:35PM ET  Report Abuse

    • Overall: 4/5

    I don't think you can ever save enough. Mainly because of the health factor. Also being able to spend alittle more frivolusly in retirement. And not have to watch every dime you spend so the money will hold out.

  • Yahoo! Finance User - Sunday, February 18, 2007, 1:34PM ET  Report Abuse

    • Overall: 1/5

    What is the real rationale these financial wizards use to come to the conclusion this article purports? Do I look like a sucker? My guess is that there is some self-serving scheme behind all of this to get that hard-earned retirement money. We'd be fools to believe anything these people say. America should keep on saving for retirement even if it hurts a little.

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