State Street Calls for New Policies
In a Pension Research Council working paper, Catherine Reilly, senior investment strategist, defined contribution (DC), at State Street Global Advisors (SSGA), and Alistair Byrne, head of investment strategy, European defined contribution, at SSGA, state that expected low market returns paired with increasing longevity will make it tougher for future retirees to have sufficient income replacement rates.
After performing an analysis based on certain assumptions, so that only the effect of lower expected market returns is measured, the researchers found that a hypothetical individual who is currently 60 years old and retires at 65, having been saving since he was 22, could expect to achieve a 211% replacement rate from his defined contribution plan savings alone. In addition, he could expect to receive Social Security and might well have some defined benefit (DB) plan benefits, too. The authors note that, while few 60-year-olds may have been in a DC plan since age 22, they could have made contributions to a retirement savings account by themselves.
By contrast, an individual currently 25 years old and who employed the same saving strategy could expect to achieve a 27% replacement rate from his DC plan if he retired at 65. Further, the younger individual is unlikely to have any DB entitlements and will face more uncertainty regarding how much Social Security he will receive. The researchers note that a 45-year-old can expect better outcomes than the 25-year-old but is also disadvantaged compared with the 60-year-old.
The researchers contend that the most obvious tactics that younger workers could adopt to improve their situation are to contribute more and to work longer. However, this assumes consistent savings behavior during their entire working life, no career breaks and no borrowing from retirement savings.
The researchers suggest several policy changes that could improve retirement outcomes for younger and late savers. One would be to allow individuals to take a partial Social Security benefit rather than obliging them to take it in full. Another option would be to give them a choice to defer the start of Social Security benefits beyond age 70, to make the most efficient use of the program’s cost-efficient longevity insurance.
Other than Social Security policy changes, the researchers suggest that mandating automatic enrollment in DC plans and automatically escalating contribution rates would help to improve retirement outcomes. In addition, they note that matching contributions encourage voluntary employee contributions up to the match threshold. Reducing retirement plan leakage would also be helpful, they say.