What Can Federal Policy and Individuals Do To Improve Current Retirement System

By: Jose Arauz

INTRODUCTION

Major Source of Income for Retired People:•Social Security•Employer Pensions (401k and IRA)•Personal Savings•Employment Earnings

•Social Security provides income to 90% of retired households.•Funds in the retirement system are sources of LT capital•Recent Economic and Demographic Trends are having greater importance for policy makers because of impact on current workforce and retirement income of future old-aged citizens.

IMPORTANCE OF THIS PAPER

•Social Security system could be in financial trouble in the next 30 to 40 years

•Can have an impact on living standards after retirement

•Recognize the importance of a disciplined retirement savings approach to minimize impact

•Provide an opinion about best options to minimize financial troubles

DEMOGRAPHIC TRENDS

•In 1997, 13% of population were 65 year old or more. By 2030, the number will increase to 20%.

•Workforce members were 3.3 per one social security beneficiary in 1997. Projections reduce the number to 2 per beneficiary for 2030.

• Older Baby-boomers will be 62 yrs old in 2006. A big part of the 74 million BB will receive social security benefits in 2008.

•Life Expectancy is larger than ever: half of the BB will reach 85. Current LE is 77.

DEMOGRAPHIC TRENDS

•Hallmark sells 85,000 cards a year for 100th birthday celebrations and expect number to grow.

•Only 16% of Americans over 65 work: retirees spend more time on retirement than previous generations. More pleasures.

•Low fertility rates.

ECONOMIC IMPLICATIONS

•SS expenditures > revenues in 8 years. •Government will have to cover deficit by paying funds owed to SS. Together with deficits, these payments will represent a serious item in federal budgets.

•By 2029, SS will only cover 70% of current benefits paid if no corrections are taken. •SS capacity to meet retirement benefits depend on economic growth: If we could have same growth rates as previous 75 yrs, SS would be in no financial trouble. But situation is highly unlikely.

•How: Growth Higher output Higher Real Wages Higher Personal Savings Accounts. People more incline to take tax increases and probable lowered benefits.

ECONOMIC IMPLICATIONS

•Other options that could take place under SS’s current structure:–Broadening number of covered workers–Increasing retirement age–Modifying Cost-of-Living Adjustments–Modifying income taxation benefits

•Increasing retirement age is probably the most widely accepted:–Old-aged are healthier–Option could reduced social security funds deficit–More workers have greater potential of output (GDP)–Their personal saving would grow more making them less dependable of SS

ECONOMIC IMPLICATIONS

•2003 Revenues: $642 billion•2003 Benefits Paid: $460 billion

•Excess Revenues are invest only in treasuries. Interest is paid in the form of more treasuries. Helps Treasury reduce amount that has to borrow from the public.

•If in LT Treasury can’t borrow these funds, it will have to access capital markets and pay higher interest rates in cash.

•When Revenues < Expenditures, Treasury will have to repay social security, increasing burden on federal deficits.

ECONOMIC IMPLICATIONS

•Personal Savings and Pension Plans have become increasingly important.

•But savings rates in US are the lowest of any industrialized nation: 70s = 8.5% of GDP, today = 3% of GDP.

•If not increased, future retirees won’t maintain current living standards.

RECOMMENDATIONS

•US GOVT should foster collaboration of all participants.

•Establish rules to: expand employer-related retirement plans, stimulate workers to increase personal savings, and ensure long-term stability of SS system.

•SS benefits are just base of retirement income. Personal Savings and employer-related retirement plans should become majority of an individual’s retirement income.

•Save a large part of monthly income in investment accounts. Means less disposable income but more sources of LT capital to foster economic growth.

RECOMMENDATIONS

•Reforms to SS system should be put in place today. The more time, the greater the impact. Individuals and employers need to adapt.

•Increasing retirement age to delay payments and collect more revenues.

•Invest part of SS surplus in stock market. LT horizon and compound interest can make a big difference.

•Higher Taxes is not solution: Contributions should continue to be tax-deductible and only taxable when withdrawn. But: penalize for early withdraws to force the use of money just for retirement.

THANK YOU