Photo Credit: Simon Cunningham
<<< Read: Thinking About Pensions, Part 1
In part 1, I went through some of the history of defined benefit [DB] pensions using a Q&A format. I’m going to continue that in part 2.
Q:Â What are we supposed to do about pension policy in the USÂ then?
A: Let me start with a quotation from an old article of mine, Replacing Defined Contributions.
Pension plan reform has to face three realities. The first is people don’t know how much to put away for retirement. I’ll give you a hint: for almost all people, it should be over 10% of your gross pay. The second is that people don’t know how to invest, so hand it off to advisors who will do it for them, and cheaply. The third is silent, and leaves a lot of money on the table — most people would be better off taking an annuity from their pension plan than a third party, or trying to manage a lump sum on their own. This is usually an option only for defined benefit [DB] plans.
It would be nice if we could give everyone a DB plan, but as I pointed out last time, the costs would be too high. Â DC [Defined Contribution] plans are inexpensive enough, but they have the above three flaws.
Q: How could we get people and firms to save more for retirement?
A: I’m not sure you can.  Present needs are large for many people, and they can’t imagine saving anything over 3%, much less 10%+ of pay.  Firms could do more, but it would raise costs, unless it is taken out of other benefits or wages.
Q: Why not “nudge†people to save more — create something that shows how far they are behind their most prudent peers?
A: Think about high school for a moment.  It’s a very peer conscious part of life for many people.  How well would an appeal go over asking the bulk of students to behave well, like the best-behaved students in the class?
