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This book investigates several important issues in the economics of aging, including the accumulation of wealth and the relationship between health and financial prosperity.
Examining the changes in savings behavior and investment priorities in the United States over the past few decades, contributors to the volume point to a dramatic shift from employer-managed, defined benefit pensions to employee-controlled retirement savings plans. Further, the legislative reforms of the 1980s and the booming stock market of the 1990s did their share to influence individual wealth accumulation patterns of Americans.
These studies also explore the relationship between health status and economic status. Considering issues like pension income and health, mortality, and medical care, contributors present evidence from the United States, Britain, South Africa, and Russia. The volume culminates with wide-ranging discussions on a number of key topics in the field including the innovations that have contributed to a decline in mortality rates; the various medical advances that have benefited populations over time; and the determinants of expenditures on health. The findings with regard to cross-sectional differences in health outcomes and health care utilization also pose troubling questions for policymakers seeking to democratize health care across regions and races.
The transition from employer managed defined benefit pensions to retirement saving plans that are largely managed and controlled by employees has been the most striking change in retirement saving over the last two decades. Individual managed and controlled retirement accounts, particularly 401(k) plans but also 403(b) plans for nonprofit organizations, 457 plans for state and local employees, the Thrift Savings Plan for federal employees, Keogh plans for self-employed workers, and Individual Retirement Accounts (IRAs), have grown enormously. Employer-provided defined benefit (DB) pension plans have declined in importance. In 1980, 92 percent of private retirement saving contributions were to employer-based plans; 64 percent of these contributions were to DB plans. In 1999, about 85 percent of private contributions were to accounts in which individuals controlled how much to contribute to the plan, how to invest plan assets, and how and when to withdraw money from the plans.
We consider the changes in the magnitude and the composition of saving for retirement over the last two decades. We begin with an analysis of aggregate data on retirement plan contributions. We then turn to micro-data, describe patterns in these data, and try to reconcile these patterns with the aggregate data. We document the changes in aggregate retirement saving over the past twenty-five years and describe how these changes are related to the shift from employer-sponsored defined benefit plans to individual-controlled retirement saving. We then investigate whether the shift toward individual retirement saving, and the accumulation of retirement assets in these accounts, has been offset by a reduction in the assets in other retirement saving plans.
In a series of earlier papers, summarized in Poterba, Venti, and Wise (hereafter PVW, 1996, 1998b), we found large net saving effects of IRAs and 401(k)s. We emphasized the potential offsets between saving in self-directed retirement accounts, other forms of financial asset saving, and the accumulation of home equity. On balance we found little, if any, offset in these cases. More recently, Benjamin (2003) and Pence (2001) have also found little or no offset between 401(k) contributions and non-401(k) financial asset saving, although the latter study also found little evidence that 401(k)s increased total wealth. Recent work by Engen and Gale (2000) finds little offset among low earners, but more substantial offsets among high earners.
Much less attention has been directed to the possible offset of personal retirement assets by a reduction in the assets in DB pension plans. Engen, Gale, and Scholz (1994) found a negative relationship between participation in DB pension plans and 401(k) plan assets in the 1987 and 1991 Surveys of Income and Program Participation (SIPP). Papke (1999) concluded that between 1985 and 1992 about one-fifth of ongoing sponsors of DB plans terminated their plans and adopted or retained a conventional defined contribution (DC) or a 401(k) plan. It is not clear from her analysis, however, whether the growth in 401(k) plans displaced DB plans. Papke, Petersen, and Poterba (1996) surveyed firms with 401(k)s and found that very few had terminated a preexisting DB plan when they instituted their 401(k) plan. Their sample, however, may not have been representative of the broader population of firms.
More recently, Ippolito and Thompson (2000) combined Form 5500 data with information from the Pension Benefit Guarantee Corporation (PBGC) to study within-firm changes in plans over time. They found little firm-level displacement of DB plans by 401(k) plans, and concluded that the replacement of a DB plan by a 401(k) is rare. Engelhardt (2000), basing his findings on data from the Health and Retirement Study (HRS), concludes that households eligible for a 401(k) have higher non-DB assets than households not eligible for a 401(k), but have the same level of assets when DB wealth is included. He interprets this as evidence of firm-level substitution of 401(k)s for DB pensions. However, as we explain later, the HRS does not allow accurate categorization of individuals into 401(k) eligible and noneligible status.
Most recently, LeBlanc (2001) has estimated the reduction in contributions to the Registered Retirement Saving Program (RRSP) in Canada when persons are newly covered by an employer-provided DB plan. Based on a longitudinal panel of individual tax data, and using a difference-in-difference estimation procedure, he finds that for a dollar of DB plan saving, RRSP contributions are reduced by only about $0.15.
Our analysis of these issues is divided into six sections. In section 1.1 we consider aggregate data on the total stock of retirement wealth. The very large increase in total retirement assets relative to income over the past twenty-five years strongly suggests that the enormous growth in individual retirement assets has more than offset any displacement of asset growth in traditional DB pension plans.
In section 1.2 we show that the "retirement plan contribution rate" is much greater than the personal saving rate reported in the National Income and Product Accounts (NIPA) in recent years. Our retirement plan contribution rate is determined by the retirement saving of current employees. The NIPA saving rate, in contrast, depends on the saving and consumption patterns of retirees as well as those who are currently working. We document the substantial growth over time in contributions to self-directed retirement saving programs, such as 401(k) plans. We also suggest that the retirement plan contribution rate was reduced by legislation restricting contributions to DB pension plans, as well as by the strong stock market performance of the late 1980s and 1990s and the associated reduction in required DB plan contributions.
In section 1.3, we distinguish between retirement saving from the standpoint of an employee, and employer contributions to retirement saving plans. We argue that from the perspective of the employee, 401(k) retirement saving is likely to be much greater than traditional DB plan saving at most ages. We use data on accruing DB plan liabilities to compare 401(k) and DB plan saving rates, and conclude that the saving rate under a typical 401(k) plan is about twice that under a typical DB plan.
In section 1.4 we begin to explore the possible substitution between different types of retirement plans. We use data from both the Department of Labor Form 5500 filings, and from the SIPP. We find no evidence of strong substitution patterns between 401(k) participation and other retirement plans. Section 1.5 shows that further analysis of substitution, using data from the HRS, supports the results in section 1.4.
A brief conclusion summarizes our findings.
1.1 Aggregate Data on Assets in Retirement Saving Plans
1.1.1 Retirement Account Assets
While it is not possible to link particular assets with particular motives for saving, for many households assets in retirement saving accounts are the best single indicator of the amount that they have saved for retirement. A number of factors are likely to contribute to variation in retirement assets. For example, one would expect that households with higher earnings would have more retirement assets. For a given level of aggregate earnings, a larger share of the working population near retirement age is likely to be associated with greater retirement assets. Variation in life expectancy and in the typical retirement age can also affect the stock of retirement assets. The "adequacy" of any given level of assets depends on the years of support the assets are expected to provide.
Our analysis begins with measures of aggregate retirement assets that are not adjusted for demographic trends. We then explain the likely effect of adjustment for demographic changes. Figure 1.1 shows the ratio of assets in all private retirement accounts-including DB plans, 401(k), other DC plans, IRAs, 403(b) plans, and Keogh plans-to private wage and salary earnings. This ratio increased more than fivefold between 1975 and 1998, from 0.39 to 2.02. The figure shows modest growth in the ratio of retirement assets to earnings through 1981; more rapid growth between 1982 and 1994, after the introduction of IRAs and 401(k) plans and during a period of positive stock market returns; and rapidly accelerated growth beginning in 1995, corresponding to large increases in equity market returns. Figure 1.1 also shows the ratio of assets in all retirement plans, the private plans as well as public sector plans, to wages and salaries. The trend is very similar to that for private plan assets alone.
Figure 1.2 shows private retirement assets disaggregated into several components. It shows that assets in DB plans continued to grow after the introduction of 401(k) and IRA plans, but that the bulk of the gain was in individual accounts. In this figure, 401(k) assets are included with other DC plans. There is no evidence of a decline in the assets in conventional employer-provided plans during the time period when assets in individual accounts were growing most rapidly.
The foregoing data alone cannot rule out the possibility of substitution, because we do not have data on the time path that other retirement plan assets would have followed in the absence of the growth in DC assets. To place the growth in DC assets into perspective, however, we note that if all contributions to personal retirement accounts between 1985 and 1998 had come at the expense of DB contributions, DB assets would have grown by a factor of 8.4 instead of 2.7.
The private retirement assets in figure 1.2 exclude assets in federal, state, and local retirement plans, and assets held by life insurance companies in retirement plans that are also part of the retirement asset pool. Figure 1.3 shows the assets in private plans as well as the assets in these other plans. In 1999, about 40 percent of all retirement assets were in federal, state, and local and insurance plan funds.
Retirement account assets support current retirees as well as future retirees. Although we are unable to distinguish the assets held by current retirees from those held by the working-age population, we suspect that the increase in these assets represents a large upward trend in the assets of future retirees.
1.1.2 Housing and Other Nonretirement Assets
Aside from promised Social Security benefits, housing equity is the most important asset of a large fraction of Americans. Unlike the increase in retirement account assets, however, there has been no increase in housing equity relative to income over the past two and one-half decades. Figure 1.4 shows housing equity as a fraction of disposable income from 1975 to 1998. The ratio increased about 25 percent between 1975 and 1989, but by 1999 it was essentially at the same level as in 1975. The figure also shows non-retirement, nonhome equity net worth as a share of disposable income. This ratio decreased and then increased between 1985 and 1999. The increase between 1975 and 1999, 27 percent, was not nearly as great as the increase in retirement assets over this period.
1.1.3 Retirement Assets and Demographic Trends
The growth of retirement assets relative to income may be explained by a number of changes. These include the advent of new retirement saving vehicles as well as other factors, such as demographic change. Changes in three features of the population-demographic composition, mortality rates, and labor force participation-have likely contributed to the rise in retirement assets relative to income. We describe each of these changes, although we do not attempt a formal adjustment of retirement wealth to correct for these changes.
The increase in life expectancy at retirement age is the first substantial change that may have contributed to rising retirement assets. In 1975, life expectancy for a U.S. man at age sixty-two was 15.5 years, while that for a woman was 20.3 years. By 1997, male life expectancy at age sixty-two had increased to 17.6 years, while female life expectancy had risen to 21.4 years. For men, this implies a 13.5 percent increase in the number of years that need to be supported with retirement resources, beginning at age sixty-two. For women, the change was 5.4 percent. These proportional changes provide a crude measure-crude, because they do not reflect the potential role of risk and the prospect of drawing down resources too quickly-of the increase in retirement resources that would be needed to offset improved longevity. These changes might account for an increase in resources of roughly 10 percent, much less than the actual growth of retirement assets relative to income.
The second important demographic change that might have contributed to rising retirement assets was the aging of the labor force. Translating information on the age structure of the population into predictions about the wealth-income ratio requires detailed information on saving by age, yet there is no agreement on the relative importance of life-cycle, precautionary, and other factors in saving decisions. In 1975, the average age of those over the age of twenty in the U.S. population was 44.6 years. For men, the average age was 43.9 years. Between 1975 and 1985, the average age of those over twenty actually declined to 44.3 years for the entire population and 43.5 years for the male population. This reflected the entry of the "baby boom" cohorts into the 20-plus age group. By 1998, the working age population had grown older, the average age of all 20-plus persons was 45.5 years, and that of 20-plus men was 44.8 years. Thus between 1985 and 1998, the average age of the adult population rose by just over one year. Similarly, the average age of those in the labor force in 1985 was 38.5 years, whereas in 1998, it was 40.3 years.
These data on the population and labor force age structure suggest that by the late 1990s, those who were in their earning years were older and had fewer remaining years of work to accumulate assets for retirement than those in the working population in the 1970s and early 1980s. This also may have induced a rise in retirement assets.
The final change that may have affected retirement assets is the shifting age of retirement in the U.S. population. During the 1980s and 1990s, these changes were modest by comparison to earlier decades. Burtless and Quinn (2000) present detailed information on age-specific labor force participation rates for U.S. men in 1970, 1984-85, and 1998-89. Their data show a sharp decline in labor force participation rates between 1970 and 1984-85, but relatively little decline subsequently. The participation rates for 1998-99 were virtually identical to those in 1984-85. At ages above sixty-five, the labor force participation rate in the late 1990s was greater than that in the mid-1980s. There is no systematic difference in labor force participation rates at younger ages. Labor force participation rates for women in their early sixties increased between the mid-1980s and the late 1990s as cohorts of women with greater labor force participation rates when they were younger entered the retirement-age cohort.
Changes in retirement ages are therefore not likely to account for substantial changes in retirement wealth relative to income during the last two decades. Demographic factors-shifting age structure and lengthening life expectancy-seem likely to account for modest increases in retirement assets, but are unlikely to account for more than a small fraction of the large changes we observe.
1.2 Plan Contributions and the Retirement Plan Contribution Rate
The accumulation of retirement assets depends on the inflow of contributions, the payout of benefits, and the return on invested assets. Panel A of figure 1.5 shows private pension plan contributions, which increased almost six-fold between 1975 and 1999, while panel B of figure 1.5 shows contributions to all retirement plans. Neither of the series includes contributions to privately held pension plans administered by insurance companies, which hold about 9 percent of the assets in all pension plans. Private plans include self-directed plans such as 401(k) plans and IRAs. IRA contributions exclude rollovers, while IRA assets include assets rolled in to these accounts.
Excerpted from Perspectives on the Economics of Aging Copyright © 2004 by National Bureau of Economic Research. Excerpted by permission.
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The Transition to Personal Accounts and Increasing Requirement Wealth: Macro-and Microevidence
For Better or Worse: Default Effects and 401 (k) Savings Behavior
Aging and Housing Equity: Another Look
Intergenerational Transfers and Savings Behavior
Wealth Portfolios in the United Kingdom and the United States
Mortality, Income, and Income Inequality over Time in Britain and the United States
Does Money Protect Health Status? Evidence from South African Pensions
Socioeconomic Status, Nutrition, and Health among the Elderly
Changes in the Age Distribution of Mortality over the Twentieth Century
Area Differences in Utilization of Medical Care and Mortality among U.S. Elderly
Healthy, Wealthy, and Wise? Tests for Direct Causal Paths between Health and Socioeconomic Status