A new report from the Pew Charitable Trusts presents a seemingly compelling argument: Americans aren’t saving enough for retirement, which will force more seniors onto welfare programs for the elderly. “Limited savings could lead to a cumulative additional cost to the federal government of $964 billion between 2021 and 2040,” with another $334 billion foisted onto state governments. And so government should push lower-income Americans to save more for retirement. That worrying message received unquestioning coverage from mainstream median outlets such as CNBC, Forbes, and Bloomberg, trade journals like Pensions and Investments, and even the National Conference of State Legislators, which pushed the report out to its members.
I’m an admirer of Pew’s work, but here they make a fundamental error in what it means to save enough for retirement.
Both economics and financial planning assume that people wish to maintain the same standard of living in old age as they had during their working years. Since the cost of living declines in retirement, the Social Security Administration says that retirees can maintain their pre-retirement lifestyle with an income equal to about 70 percent of their pre-retirement earnings.
This matter for Pew’s analysis in several ways. First, a person who is poor during their working years will end up poor in retirement, even if they save optimally. And most poor retirees who qualify for the means-tested benefits Pew discusses had low earnings over their lifetimes – we know this because their Social Security benefits are low. This isn’t a problem of insufficient savings, it’s a problem of being poor — throughout life, not just in old age.
On top of that, Pew sets an extraordinarily high standard for an “adequate income” in retirement. Having “less than $75,000 in annual income,” Pew states, “indicates financial vulnerability.” To who? In 2018, the median 65+ household had an income of $43,700, according to the U.S. Census Bureau – making them the richest retirees in U.S. history as well as the richest retirees in the world, based on OECD data. A retiree household with Pew’s threshold $75,000 annual income could adequately replace pre-retirement earnings of around $108,000, based on the 70% replacement rate rule of thumb. In the Federal Reserve’s Survey of Consumer Finances, median annual earnings for working-age households in 2019 were just $57,000. In other words, the Pew study recommends a retirement income roughly twice what a typical household would need.
Moreover, no retiree with a $75,000 annual income is receiving welfare benefits. Medicaid, food stamps and other programs are aimed at seniors with much lower incomes, generally around the poverty threshold of around $18,000 for two seniors. And so, when Pew states “The average income shortfall in retirement among vulnerable older households in 2020 was $6,740, which will increase state spending for Medicaid and other assistance programs,” I think that’s just not correct. Falling short of a $75,000 retirement income doesn’t get you anything. It’s falling short of poverty that does. And poverty in old age isn’t rising.
To address this alleged retirement savings shortfall, Pew recommends that every worker who isn’t currently offered an employer-sponsored retirement plan be automatically signed up for an Individual Retirement Account. I’m fine with that. The retirement plan coverage gap is a lot smaller than people think, but there’s no reason every employee shouldn’t have access to one.
But let’s be clear what Pew also is arguing: that low-income Americans should save more in order to disqualify themselves from welfare benefits in old age. Truly low-income households might lose every dollar of additional savings to lower government benefits in retirement. I don’t think a financial planner in good faith could recommend that a low earning household do what Pew is advocating.
Moreover, if we wished to trim $90 billion out of annual federal spending dedicated to retirees, why not reduce Social Security benefits for the richest retirees? By 2040, the maximum annual retirement benefit will top $55,000 in today’s dollars, up from an already-high $45,000 today. Middle and high-incomes retirees are where the real money is.
But there is some good news: Pew’s baseline projections of rising dependence on welfare benefits in old age are likely incorrect. The best projections – from the Social Security Administration, using a sophisticated microsimulation model developed over nearly three decades – are that old-age poverty will decline in coming decades. The SSA projects that in 2030, 3.24 million seniors will have sub-poverty level incomes. By 2050 that number will rise only marginally, to 3.31 million, but this is entirely due to rising numbers of retirees. The actual poverty rate among seniors is projected to fall from about 5 percent to around 4 percent. After 2050 both the poverty rate and the raw number of retirees are projected to decline.
Other projections tell a similar story. For instance, the Congressional Budget Office projects that from 2021 to 2032 the number of seniors receiving Medicaid benefits will barely change. Overall participation in SNAP food stamp benefits will fall, although the CBO does not break down projected participation by age. While detailed projections for other transfer programs are not available, there is no reason to believe the broader trend will be much different. Rising incomes and falling poverty will reduce dependence on welfare programs in old age.
U.S. retirees are richer than ever and their incomes are projected to grow higher. Seniors’ poverty rate, already at record lows, is projected to fall further. There is no projected explosion in welfare costs for America’s retirees. If we wish to save money on old-age spending, trimming Social Security benefits for America’s richest retirees is a far better way to do so than to push low-income Americans to save money that they don’t have.