January 27, 2007

But Gentlemen, That's Not the Point

THE NEW YORK TIMES has a fascinating article today on retirement savings which poses the question: are people actually saving too much for their retirement?

While I agree the idea sounds completely absurd, it appears an increasing number of scholars have concluded many Americans might be doing just that. Their thinking goes like this: since the various financial calculators out there are overly cautious in terms of their predictions, they end up telling users they need far more capital than they actually require for retirement. The Times reports:

Nevertheless, a small band of economists from universities, research institutions and the government are clearly expressing the blasphemy that many Americans could be saving less than they are being told to by the financial services industry — and spending more — while they are younger. The negative savings rate, they say, is wildly distorted.

According to them, the financial industry, with its ostensibly objective online calculators, overstates how much money someone will need in retirement. Some, in fact, contend that financial firms have a pointed interest in persuading people to save much more than they need because the companies earn fees on managing that money.

The more realistic amount could be as little as half the typical recommendation made by Fidelity, Vanguard or any number of other financial institutions.

For a middle-income couple, that could mean trading $400,000 in retirement money for about $3,000 a year more during prime working years to spend on education or home improvement. “For a middle-class household, that’s a lot of money,” said Laurence J. Kotlikoff, a Boston University economics professor, who is on the forefront of this research into spending and savings, and is selling his own retirement calculator.

Now, I have to say this argument seems a bit like tilting at windmills. After all, what the hell good does it do people to tell them they only need X for retirement instead of 2X or 3X, when they're not even close to X in the first place? It might make more sense to encourage people to keep on saving, and then have them figure out ways they could eventually use the extra money -- whether that means retiring sooner or buying a vacation home or God knows what.

With Fidelity reporting the average 401(k) balance is about $62,000, according to the NYT, it would appear that not enough retirement saving is going on among the general populace. It looks to me that people are counting on the equity in their homes as the key driver in their retirement planning, and while I know that is the largest asset many Americans have, overly relying on one's home does have that aura of putting all of one's eggs into one basket.

Besides, saving for retirement isn't just about saving for retirement. Building a nest egg through a workplace-saving scheme is an excellent way to hedge against unplanned calamity in future. That savings pot can (usually) be drawn on for medical emergencies, an extended stretch of unemployment, or what not. While tapping retirement funds ought to be a last resort -- especially given the tax implications -- having that money there does provide peace of mind. There's no price tag one can put on that.

As for the idea that people ought spend some of the money they are presently saving, that is a godless and wretched idea. OK, so it might be all right if the money was spent on goods and services expected to provide future valuation, but let's be honest. Most people, and I would certainly include myself in this category, would simply spend the extra money away on things of temporary value -- such as excellent breakfasts out, a glass bauble or three, and various tchotchkes of little economic value. Far better to save the money and be prepared for rainy days!

Posted by Benjamin Kepple at January 27, 2007 08:50 PM | TrackBack
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