Is a New Retirement Account in Our Future?

Social Security is tapped out and private plans are out of favor. What's behind doorway number three?

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Retirement security is a painful oxymoron to millions of older Americans. According to estimates from Dean Baker, co-director of the Center for Economic and Policy Research, we have lost $15 trillion in wealth from the declining values of our investments and our homes. No stimulus package can bring that back anytime soon.

However, committees in the House and Senate have already begun the process of looking for better retirement solutions. They are joined by think tanks and financial trade associations. Expect to see lots of summits called, and much circling of wagons. We will be witnesses to an extended reassessment of whether or not the private sector is to be trusted with our money. Heck, it goes beyond that. Consumers are on trial as well. Can we even be trusted to take good of our own money?

The opening positions in the retirement-security debate are "No" and "No." The private sector charges steep management fees, hasn't been a good financial custodian, and places its interests above those of consumers, critics allege. And while industry groups strongly defend maintaining consumer investment freedoms in retirement plans, their actions say otherwise. The Pension Protection Act of 2006--supported by the mutual-fund industry--features centerpiece provisions that limit consumer choice and make retirement-plan participation a default option.

As for the consumers, here is how their investment expertise is described by Alicia Munnell, director of the Center for Retirement Research at Boston College:

Workers continue to have almost complete discretion over whether to participate, how much to contribute, how to invest, and how and when to withdraw the funds. Evidence indicates that people make mistakes at every step along the way. They don’t join the plan, they don’t contribute enough; they don’t diversify their holdings; they over-invest in company stock; they take out money when they switch jobs; and they don’t annuitize at retirement.

Not surprisingly, Paul Stevens, the head of the Investment Company Institute, calls 401(k)'s and other defined contribution plans "a true success story of U.S. public policy." He has a lot of evidence and logic on his side. What he doesn't have is a patient opposition. Losing your shirt will do that. And while stocks were down across the board, we bought the myth that our retirement plans were somehow free from risk.

Munnell says self-directed retirement plans have been a disaster. So does John Bogle, the founder of Vanguard Group and a longtime champion of low-fee mutual funds. Baker, Munnell, Stevens, and Bogle all testified last week at House Education and Labor Committee hearings on retirement security. Here's Bogle on investment-fund fees: fund expenses, plus all those fees paid to hedge fund and pension fund managers, to trust companies and to insurance companies, plus their trading costs and investment banking fees...totaled about $528 billion in 2007. These enormous costs seriously undermine the odds in favor of success for citizens who are accumulating savings for retirement. Alas, the investor feeds at the bottom of the costly food chain of investing, paid only after all the agency costs of investing are deducted from the markets’ returns.

In fact, the only program that has come through the market meltdown with flying colors is good 'ole, oft-maligned Social Security. "The Social Security Administration continues to send out monthly checks, which, while modest, are a predictable source of income that people can count on," Munnell says. "Moreover, these benefits are a really special type of income because they are adjusted each year for changes in the cost of living and they continue for as long as the recipient lives."

Why not improve retirement security by beefing up Social Security? The short answer is that we can't afford it. The longer answer involves seeking more optimal mixes of investment returns that include stocks and bonds. Baker and Munnell, for example, favor creation of a new class of private retirement account that is funded by consumers but gives them little control over what they do with the money. The goal is to produce annuity-like returns that don't have the market risks of 401(k)'s, but which can support better retirement outcomes.

President Obama, in his address to Congress last week, continued to support supplemental retirement tools, saying the administration favors "creating tax-free universal savings accounts for all Americans." The White House Agenda website has further details on possible workplace pensions and savings programs.

The ICI's Stevens talks about "R bonds" or "retirement bonds," that might provide some of the same benefits.

Corrected on 03/04/09: An earlier version of this article incorrectly spelled the name of John Bogle.