Halfway, Honed

Last week we published¹ the results of an update of EBRI’s Retirement Readiness Rating from the Retirement Security Projection Model® (RSPM). That model, which has been modified over the years to take into account certain structural and market changes,² projects that more than half (56 percent) of Boomers and Gen Xers will be able to retire with enough money to cover the cost of basic retirement needs as well as uninsured health care costs, including stochastic expenses from nursing home and home health care.³

On the other hand, that same model projects that about 44 percent won’t have “enough” to cover those expenses.

It’s worth noting that the trends are positive. Even after the toll of the 2008 financial crisis, the 2012 number of those at risk of running short is some 5−8 percentage points “better” than what was found in 2003. Moreover, the analysis is able to point to some important trends; eligibility for a workplace retirement plan remains a significant factor in reducing the risk of running short⁴, while the more recent broad-based advent of automatic enrollment plan designs makes it ever more likely that those eligible to participate—particularly lower-income workers—do so.

The research does point out that lower-income households are much more likely to be at risk for insufficient retirement income,⁵ even though basic retirement expenses are modeled as a function of the household’s expected retirement income. In fact, the 2012 baseline ratings for Early Boomers range from a projection that 87 percent of the simulated lifepaths for the lowest-income households are at risk in retirement to only 13 percent of retired highest-income households.

Obviously, the reality of more than 4 in 10 Americans not having sufficient post-retirement wealth is of concern, though I find that many are pleasantly surprised at how high a percentage is expected to have sufficient assets. Indeed, whether one draws comfort from that finding likely depends on your expectations (and perhaps on which side of that line you think you might find yourself post-retirement).

Regardless of those expectations—and whether you find the picture to be one of a glass half full or half empty—the data give us all something to work with, and to work toward.

- Nevin E. Adams, JD

¹ EBRI Notes May 2012, “Retirement Income Adequacy for Boomers and Gen Xers: Evidence from the 2012 EBRI Retirement Security Projection Model,®” online here. http://www.ebri.org/publications/notes/index.cfm?fa=notesDisp&content_id=5062

² The Retirement Security Projection Model® (RSPM) was developed in 2003, and in 2010 it was updated it to incorporate several significant changes, including the impacts of defined benefit plan freezes, automatic enrollment provisions for 401(k) plans and the recent crises in the financial and housing markets. EBRI has recently updated RSPM for changes in financial and real estate market conditions as well as underlying demographic changes and changes in 401(k) participant behavior since January 1, 2010.

A household’s simulated lifepath in retirement is considered to be at risk in the baseline version of the model if its aggregate resources in retirement are not sufficient to meet aggregate minimum retirement expenditures, defined as a combination of deterministic expenses from the Consumer Expenditure Survey (as a function of income) as well as some health insurance and out‐of‐pocket health‐related expenses, plus stochastic expenses from nursing home and home health care (at least until the point such expenses are picked up by Medicaid). The resources in retirement are assumed to consist of Social Security (status quo benefits for the baseline version of the simulation); account balances from defined contribution plans; individual retirement accounts (IRAs) and/or cash balance plans; annuities or lump-sum distributions from defined benefit plans; and net housing equity (in the form of a lump‐sum distribution at the point that other financial resources are exhausted). This version of the model is constructed to simulate "basic" retirement income adequacy; however, alternative versions of the model allow similar analysis for replacement rates and other thresholds.

⁴ For an idea of just much of an impact plan eligibility makes, consider that, according to the simulation results, Gen Xers with no future years of eligibility would run short of money in retirement 60.7 percent of the time, whereas fewer than 1 in 5 (18.2 percent) of those with 20 or more years of future eligibility would run this risk.

⁵ In addition to underlining the importance of automatic enrollment for the lowest income, this also underlines the importance of Social Security as a post-retirement income source for this group.

State “Capital”

I recently had the opportunity to attend The National Financial Capability Study Roundtable, where a variety of researchers (including EBRI’s Sudipto Banerjee) presented, discussed, and challenged a variety of research papers on topics ranging from financial literacy and retirement planning to financial advice, and from financial literacy and financial behavior to “Prohibition, Price Caps and Disclosure”. Taken as a whole, the day’s discussions focused on ways to better understand and measure the factors that appear to influence individual behaviors regarding their finances.

Simply stated, financial literacy is generally described as the ability to understand finance. More recently, some have begun to focus on financial capability¹. Research has shown that people with higher levels of financial literacy approach retirement with much higher levels of wealth. However, a growing body of research also suggests that most Americans have limited knowledge about concepts such as inflation, compound interest, and risk diversification at a time when they face an increasingly complex financial planning process alongside an expanding set of saving, investment, and decumulation options.

Drawing on data from the National Financial Capability Study (NFCS)², designed by the FINRA Investor Education Foundation (an ASEC member firm), Dr. Banerjee’s report³ noted that the chances of having a bad financial behavior decreases with age, and that the chances of exhibiting a bad financial behavior go down with education and income. Interestingly enough, full-time and part-time workers, homemakers, sick or disabled, and unemployed or laid-off individuals were all more likely to have bad financial behavior than self-employed people.

That said, the report specifically examined the role of where you live – specifically the state in which individuals live – in explaining financial literacy and behavior. It also ranked all U.S. states in terms of financial literacy and financial behavior of its residents.

Financial literacy and financial behavior are strongly associated with an individual’s age, income, education and other demographic characteristics. The study shows that, after controlling for the effect of these individual demographic characteristics, most bottom-ranked states had a statistically significant effect on their residents’ financial literacy and almost all states have a statistically significant effect on their residents’ financial behavior. However, the chance of exhibiting “worse”financial behavior increased as the financial behavior ranking dropped.

According to the report, this suggests that there might be factors shaping individual financial literacy and behavior other than individual demographic characteristics – and they might be influenced by the state in which people live.

- Nevin E. Adams, JD

¹ The National Financial Capability Study identifies four key components of financial capability as (1) making ends meet, (2) planning ahead, (3) managing financial products, and (4) financial knowledge and decision-making. See http://www.finrafoundation.org/web/groups/foundation/@foundation/documents/foundation/p120535.pdf

² The National Financial Capability Study is available online at http://www.finrafoundation.org/programs/p123306

³ Banerjee’s paper, including the state rankings, is online at https://custom.cvent.com/09056B0B33C34EC2BECC8C4A235B766F/files/event/51EB0D7B12344774B422F6A615E9B8B9/0c08c7cd98d74c01bf954ad368275ff4.pdf. See also“How Do Financial Literacy and Financial Behavior Vary by State?” in EBRI Notes, November 2011 at http://www.ebri.org/publications/notes/index.cfm?fa=notesDisp&content_id=4936

“Opportunity” Costs

When I was 16, my family moved from a small town in Southern Illinois to the suburbs of Chicago. It was a move that was to change my life in ways I could not have even imagined at the time. Had that move not occurred, I’d likely have wound up at a different university, might well have chosen a different major, and almost certainly would never have stumbled across the college internship doing pension accountings that has, many years later, brought me here today.

As you might expect, those possibilities were not obvious to me at the time of that move. But looking back, the reality is that that move greatly expanded the life choices—and thus, the opportunities—available to me at a particularly critical point in my life.

At EBRI’s Research Committee meeting this past week, Research Director Jack VanDerhei shared the updated findings of the EBRI Retirement Readiness Rating (RRR), which will be published later this month. The Retirement Readiness Ratings measure the percentage of simulated life paths in retirement that are at risk of inadequate retirement income. Simply stated, a household’s simulated lifepath in retirement is considered to be at‐risk in the baseline version of the model if its aggregate resources in retirement are not sufficient to cover their aggregate minimum retirement expenditures(1). Previous research by EBRI has demonstrated that one of the most important factors contributing to retirement income adequacy for the Baby Boomers and Gen Xers is eligibility to participate in employment-based retirement plans.

In fact, the updated version or the RRR shows that the number of future years workers are eligible for participation in a defined contribution plan makes a tremendous difference in their at-risk ratings. For example, according to the simulation results, Gen Xers with no future years of eligibility would run short of money in retirement more than half (60.7 percent) of the time—a circumstance that would effect just 1 in 5 of those in that demographic with 20 or more years of future eligibility.

And, bear in mind, that’s the kind of difference in outcome that results from mere ELIGIBILITY, thanks to their likely participation when a program is available, boosted by design enhancements like automatic enrollment and contribution acceleration.

My kids have the chance to learn from my past—to ask about the availability of a workplace retirement savings plan during their job interviews—and to take early advantage of that opportunity.

After all, it’s hard to take advantage of an opportunity you don’t have.

- Nevin E. Adams, JD

(1) In EBRI’s RRR, aggregate minimum retirement expenditures are defined as a combination of deterministic expenses from the Consumer Expenditure Survey (as a function of income and age) and some health insurance and out‐of‐pocket health‐related expenses, plus stochastic expenses from nursing home and home health care expenses (at least until the point such expenses are picked up by Medicaid). The resources in retirement will consist of Social Security (status quo benefits for the baseline version of the simulation), account balances from defined contribution plans, IRAs and/or cash balance plans, annuities or lump-sum distributions from defined benefit plans (unless the lump‐sum distribution scenario is chosen), and (in some cases) net housing equity (in the form of a lump‐sum distribution at the point that other financial resources are exhausted). This version of the model is constructed to simulate "basic" retirement income adequacy; however, alternative versions of the model allow similar analysis for replacement rates, standard‐of‐living, and other thresholds. More information on the RRR is available in the July 2010 EBRI Issue Brief online here.

Confidence Intervals

Last week, House Ways and Means Committee Chairman Dave Camp (R-MI) released a report that included responses from more than 70 percent of America’s Fortune 100 companies—a report that indicated that those employers could “save hundreds of millions of dollars a year under the new health care law by simply terminating health insurance for their workers and dumping these employees into taxpayer-funded health care exchanges.”

This, of course, follows recent arguments challenging the constitutionality of the Patient Protection and Affordable Care Act (PPACA) before the United States Supreme Court—with a ruling anticipated by the end of June. At which point, regardless of the outcome, healthcare reform seems likely to remain an issue for the 2012 political campaign.

What remains to be known is what that will mean for employment-based health coverage⁽¹⁾—and American’s confidence in their health care system.

Last year, EBRI’s Health Confidence Survey⁽²⁾ noted that, in 2011, 57 percent of individuals with employment-based coverage were extremely or very confident that their employer or union would continue to offer health coverage. That was down from 68 percent in 2000, but most of that erosion occurred between 2000 and 2002.

Indeed, other than a one-year dip in 2010 (to 52 percent), the percentage who were extremely or very confident has remained just below 60 percent. And, for the very most part, individuals who had such coverage were satisfied with it (60 percent of those with health insurance coverage are extremely or very satisfied with their current plan, and 29 percent were somewhat satisfied—see this EBRI analysis, online here.

The 2011 HCS⁽³⁾ did highlight some areas of concern. While more than half (56 percent) said they were extremely or very satisfied with the quality of the medical care they have received in the past two years, just 18 percent were extremely or very satisfied with the cost of their health insurance, and only 15 percent were satisfied with the cost of health care services not covered by insurance. Moreover, the 2011 HCS also found that individuals have a low level of confidence that they can afford to purchase health coverage on their own—even if their employer or union gave them the money to do so.

This year’s Health Confidence Survey (HCS) will be fielded in July, allowing time for the Supreme Court’s ruling to come to light, so that survey respondents can better assess and reflect on its impact on their circumstances. In this, the 15^th annual HCS, the issues of health care cost, coverage, quality, and confidence in the future of the employment-based system are, if anything, more important than ever—and the need for a clear understanding of the American public’s attitudes on health care never greater.

- Nevin E. Adams, JD

Endnotes

(1) The Congressional Budget Office recently revised its estimates of the number of people projected to have employment-based coverage in the future. In a recent blogpost, Paul Fronstin, director of EBRI’s Health Education and Research Program, said: “As the CBO notes in a footnote for its 2019 estimates, as a result of PPACA, about 14 million fewer people are expected to have employment-based coverage (about 11 million individuals will lose access to employment-based coverage, and another 3 million will decline employment-based coverage and enroll in health insurance from a different source), while about 9 million will newly enroll in employment-based coverage under PPACA.”

(2) The HCS is co-sponsored by the Employee Benefit Research Institute (EBRI), a private, nonprofit, nonpartisan public policy research organization, and Mathew Greenwald & Associates, Inc., a Washington, DC-based market research firm. The 2011 HCS data collection was funded by grants from 12 private organizations. Staffing was donated by EBRI and Greenwald & Associates. HCS materials and a list of underwriters may be accessed at the EBRI website: www.ebri.org/hcs If your organization would like to help underwrite the 2012 HCS, please contact Ken McDonnell, at (202) 775-6367, or e-mail: mcdonnell@ebri.org or Paul Fronstin at (202) 659-0670, or e-mail: fronstin@ebri.org

(3) Additional information from the 2011 HCS is online here.