A Call to Action on Retirement Security

Robert L. Reynolds
President and Chief Executive Officer Putnam Investments
Three steps to Americans retirement security

Make Social Security solvent. Extend workplace savings to all who pay Social Security tax. Escalate retirement contributions to 10% across the workplace savings system.

This paper is adapted from a speech delivered by Robert L. Reynolds to the Financial Services Roundtable Conference, Washington, D.C., May 9, 2012.

The need to act on and solve Americas retirement challenge grows more urgent every day. In recent weeks, we learned that elderly poverty is rising, especially among the most senior Americans,1 and Social Securitys trustees warned that the systems trust funds could be exhausted by 2033 three years earlier than had been projected last year. That means a 40-year-old worker today could face a drop of roughly 25% in his or her Social Security benefits at retirement age, unless we act to make Social Security solvent. We cant just let that happen. With roughly 10,000 Baby Boomers turning age 65 every day, Americas retirement savings challenge is real and urgent. Time is not on our side. And we face a daunting set of near-term problems as well.

The immediate challenges are daunting

Our nations current and projected deficits are leading the country toward insolvency. Unless we get control of our deficits, we risk the kind of debt-driven financial crisis we see unfolding in Europe every day. Whats more, by the end of this year, our political leaders will be faced with some very tough decisions. Regardless of whether Governor Romney or President Obama wins this years presidential election, Congress will either have to act by the end of this December or we will see tax rates surge on personal income, Social Security payrolls, and capital gains and dividends. At the same time, widespread federal spending cuts, mandated as part of the sequestration provision from last years debt ceiling accord, will impact all federal programs except for entitlements. This fiscal cliff, or tax-mageddon, as some people call it, is the result of multiple congresses and administrations kicking the can down the road and failing for years to take up serious tax, spending, and entitlement reform. Now, the bill is coming due.
1 Employee Benefit Research Institute, Time Trends in Poverty for Older Americans Between 2001-2009, April 2012.

We need to seize the opportunity of this years historic presidential race to have a national debate about deficits, debt, and ways to reboot economic growth.

We need to seize the opportunity of this years historic presidential race to have a national debate about deficits, debt, and ways to reboot economic growth. The American people need to give the next president and the next Congress a clear mandate for action.

Policy risks to savings

But whatever we do to bring deficits and debt under control, lets first recognize that retirement savings, and the tax deferrals that fuel them, are not part of our deficit problem. They are part of the solution. National solvency and personal solvency go together. We should never pit one against the other. But that is exactly what some short-sighted leaders in Washington want to do. Two recent deficit commissions, for example, proposed cutting back the savings deferrals that Congress has granted to 401(k)s, individual retirement accounts (IRAs), and other savings vehicles, to try to secure some much-exaggerated revenue gains for the Treasury. Savings deferrals repeatedly turn up on policymakers lists as one of our most costly tax expenditures, and that puts them at risk of being cut or curbed. This is a fundamentally misguided policy idea, based on a true category error. Savings tax deferrals are not permanent tax breaks. Every penny deferred will eventually be withdrawn and taxed as ordinary income, even though much of these assets built up in retirement savings accounts will likely come from dividends, interest, and capital gains. The potential revenue gains from curbing savings deferrals has been overstated, by as much as 70% according to a 2011 study by the American Society of Pension Professionals and Actuaries. That is because the current budget methodology used to score the alleged costs of savings deferrals can only project out for 10 years, thereby missing much of the flow-back to the Treasury when deferred savings are drawn down decades into the future. Whats worse, current budget calculations do not account for the many other real benefits that these savings produce from robust flows to capital markets and more investment, to sustained consumption by retired savers. The formula also does not quantify one of the most important benefits of all the fact that retirement savings enable millions of retirees to support themselves with dignity, without needing to turn to government for assistance or worse, to their children. It is hard to imagine a more destructive policy error than undercutting private savings to cope with out-of-control federal deficits. If these proposals become law, we could see tens of thousands of businesses drop retirement plan coverage, sending millions more workers toward retirement with little or no savings. The fact is that unless they have access to workplace savings plans, low- to moderate-income workers have virtually no retirement savings at all. Undercutting savings incentives would be a radical policy shift away from retirement policies weve built over more than a generation. Instead of cutting savings incentives, we should be engaged in creating a robust retirement finance system for all working Americans.
2

Retirement savings, and the tax deferrals that fuel them, are not part of our deficit problem. They are part of the solution.

Social Security and proven workplace savings options, like the 401(k), provide us with a very strong base to build on. We could, with quite manageable reforms, make Americas two-stroke public-private retirement finance system so reliable that we could essentially inoculate future generations of workers against the risk of elderly poverty.

America needs comprehensive retirement reform

Lets first consider our retirement system as a whole and the complementary roles that Social Security and private savings play. Social Security draws on human capital, through taxation on wages, which grows over time and is relatively stable. Private savings draw from financial capital, such as profits, capital gains, dividends, and interest. There may be greater returns from investment in securities markets, but there is also more volatility. Combining these two very different income sources offers a valuable element of diversification that works well for most retirees. Putnams Lifetime Income Survey2, a research effort that began last year with Brightwork Partners, found that those retirees least prepared for retirement either lacked access to any workplace savings plan or declined to participate. This group would be able to only replace 19% of their pre-retirement income without Social Security. Yet once we factor in their Social Security benefits, their replacement rate rises to 58%. Our research also found that the best-prepared individuals, who are on track to replace nearly 93% of their pre-retirement incomes, both enjoyed access to workplace savings and were contributing 10% or more of their salaries to their plans. And when you include Social Security, their income replacement scores surge to 124% more than enough to meet their needs and provide them with a strong cushion against major medical costs or other contingencies. The policy implication is clear. Social Security forms a vital baseline element of virtually all Americans retirement security. It is indispensable to low-income workers, is vital to middle-income people, and has real value even for the affluent. Thats why making Social Security solvent dispelling the uncertainty about its future should be the top priority for bipartisan reform next year. It is an open secret in Washington that bringing Social Security into balance is the easiest part of dealing with Americas long-term budget challenges, except, of course, for the politics. It is up to us as citizens to change the politics of this issue. We should demand that political leaders from both parties offer plans and engage in full, frank, and open debate on ways to make Social Security solvent. Second, we should ask our political leaders to back up a solvent Social Security system with reforms that make some form of workplace savings available to every working American who pays Social Security taxes (FICA).
2 The Putnam Lifetime Income Survey, with research methodology provided by the Putnam Institute, was conducted online by Brightwork Partners and completed in the first quarter of 2011. The survey of 3,290 working adults age 18 to 65 was weighted to U.S. Census parameters for all working adults.

We should ask our political leaders to back up a solvent Social Security system with reforms that make some form of workplace savings available to every working American who pays Social Security taxes.

Employers who already offer an ERISA-qualified plan would not need to do anything. All other employers who pay FICA taxes should be required to offer their workers at least the kind of payroll-deduction IRA that has been proposed multiple times in recent years. Employers should, of course, be compensated for any start-up costs for such plans and we should include such compensation in the next reform of corporate and business taxes. After all, by offering employees savings options, employers are meeting a great national need, encouraging self-reliance, and fostering thrift. Surely, these are values that deserve recognition in our tax code. Universal access to workplace savings would not be a mandate at the individual level because workers would be free to opt out. What it would provide is a choice giving workers who already pay mandatory FICA taxes the option to save for their own futures. Lastly, we should significantly raise our targets for savings deferrals across all existing workplace savings plans. Putnams Lifetime Income Survey showed that workers who defer at rates of 10% or more, including any employer match, are on track to replace more than 100% of pre-retirement incomes once their Social Security benefits are included. That is success by any measure. And this best prepared group is no tiny minority. Brightwork Partners estimates that more than 19 million workplace savers are on track to reach this level of retirement readiness and they range across all income levels. Thats why we believe the industry should adopt a new norm for achieving retirement readiness: 10%-plus. We should view it as a floor and not a ceiling, even if we need to begin at lower deferral rates and then rely on auto-escalation provisions to help workers climb the ladder to success. To sum up, there are three basic steps we need to take to comprehensively solve Americas retirement challenge.
Take action to make Social Security solvent. Extend a workplace savings option to all Americans who pay Social Security taxes. Set ourselves the target of raising workplace savings deferrals to 10% or more a level already being achieved by millions of Americans.

We believe the industry should adopt a new norm for achieving retirement readiness: 10%-plus. We should view it as a floor and not a ceiling, even if we need to begin at lower deferral rates and then rely on auto-escalation provisions to help workers climb the ladder to success.

To move toward these three goals is to move toward solving Americas retirement challenge for generations to come.

Implementing reform requires leadership

Thats why all of us in the retirement policy arena providers, plan sponsors, think-tank experts, elder advocates, financial reporters, and editors should press our political leaders in this election year for a full, open debate on retirement policy. Let me suggest some questions that we need President Obama, Governor Romney, and candidates for Congress to answer:
What do you plan to do to make Social Security solvent for the next generation? More specifically, do you believe Social Security needs benefit adjustments, increased revenues, or some combination of both? Regarding the issue of retirement savings incentives, do you support the Sense of Congress resolution now before the House of Representatives that calls for preserving all existing tax deferrals for 401(k)s, IRAs, and other savings? Or, do you think that savings incentives should be on the table in the next round of deficit reduction or tax-code reform? If you do think our savings incentives need to be changed, how would you encourage employers who offer these plans today to continue offering them? Do you support some version of the auto-IRA? If not, what would you do to extend workplace savings coverage to the tens of millions of American workers who have no savings plans at their jobs today?

We should raise these questions not to pit our political candidates against each other, but to let them know there is a vast constituency across America, crossing all party lines, that is seeking rational action on retirement security. Retirement security, in fact, may be the one issue where nearly all Americans can find common ground.

Retirement savings: The need to protect and grow

Besides the intrinsic value of securing working Americans futures, retirement savings can also play a central role in helping our economy grow faster than our debts and on a sustainable basis. Strong retirement policy, grounded on a solvent Social Security system and access to private on-the-job savings options for all workers, can lay the foundation for a new economic model for America. We can build a dynamic, 21st century economy, driven by higher savings, greater returns on investment, new business formation, and job creation. And economic growth not austerity offers the best long-term solution for our countrys debt and deficit crises. I see our national savings challenge through the eyes of an optimist. But I do, of course, recognize that the politics of solving for retirement security will not be easy. There will surely have to be very difficult compromises from both of our great political parties.

Well need leaders with common sense and uncommon political courage. But the benefits to our country from creating a rock-solid retirement system are so great, and the risks of inaction so serious, that I believe Americans will demand that we get this job done. And what better time to discuss retirement security than during this historic presidential election year?

Benefits of securing our retirement system

Let me ask you to imagine some of the many benefits that could be achieved by securing all Americans retirement future. Instead of seeing millions more senior citizens suffering in financial distress, we could see a solvent Social Security system that even young people can have faith in. We could ensure a strong safety net for low-income Americans and a valuable base even for the more affluent. We could see a robust workplace savings system that covers nearly all working Americans, raises the national savings rate, and helps sustain the worlds most dynamic capital markets. We could see workers who lack any savings today gain access to taxsheltered savings incentives, anytime they hold a job. And we would also surely see a powerful rise in Americas national confidence. With their retirement futures secure, knowing that they are on track to replace their preretirement incomes, working Americans would be more confident and empowered. They would be more willing to learn new skills or start a business and to reach for their own American dreams. And we Americans could show the world and ourselves that we can control our own destiny, and that Democrats and Republicans can come together for the country we love, no matter how much we may disagree. So lets raise the bar on our aspirations. Lets make 2012 the year we begin moving decisively toward real retirement security. After all, if we dont demand this from our leaders, who will? And if we dont act now, when will we ever?

The views and opinions expressed are those of Robert L. Reynolds, President and CEO of Putnam Investments, are subject to change with market conditions, and are not meant as investment advice. This paper is adapted from a speech delivered by Robert L. Reynolds to the Financial Services Roundtable Conference, Washington, D.C., May 9, 2012.

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