Boomer-Dämmerung: 401(K) and Bust
The U.S. strategy of relying on rising stock markets to fund employee retirement has gone bust. Millennials will rejoice at the Twilight of the Boomers, a generation they dislike.
March 26, 2020
The Baby Boomers in the United States have had it very good for a very long time. But no more. Tragically, what probably the most important contributor to the Boomers’ plight is not entirely their fault.
Boomers: Toward an impoverished old age
Previous generations, notably the Greatest Generation who entered the workforce after World War II, were rewarded with remarkably generous pensions, set at a high percentage of their final salary immediately before retirement.
The defined-benefit pensions often protected them against inflation and ensured that at least the early years of their retirement would be remarkably affluent.
But those pension schemes had one enormous disadvantage: To receive a generous pension, they required an employee to remain at the same employer for the great majority of their working career, at least 30 years.
More flexibility = more risk
Supposedly to make for a better (and certainly more flexible) world, U.S. corporate pension schemes moved to a defined-contribution scheme. The financial risk of saving enough for retirement was no longer the corporation’s, but the individual employee’s.
The U.S. stock market boom of the 1980s, and the invention of the 401(K) plan under which employers and employees could both contribute to pensions on a tax-deductible basis, enabled them to do so.
With the stock market rising almost every year from 1982, and employees seeing ever larger balances in their 401(K) accounts (and having not the slightest clue about how those amounts translated into annuities on retirement), the switch to the new system was almost universal.
A mostly bullish U.S. stock market and little knowledge of actuarial realities kept the Baby Boomers happy.
2008 was certainly a nasty shock, after which many of them realized they would have to retire later. However, the 10-year U.S. stock market boom that lasted from 2009 to 2019 seemed to have made all well again.
Silly, silly people!
As it turns out, the U.S. boomers’ retirement castle was built on sand. No amount of frantic saving can now save them from an old age of poverty.
The 2020 stock market fall is not going to be reversed. It will probably intensify. Regardless, the U.S. Boomer generation’s 401(K)s, inadequate when converted into pensions anyway, will never again be worth what they were in mid-February 2020.
It wasn’t really their fault
The real Boomer problem is that the current stock market carnage isn’t really their fault. Unless they participated directly in it, it is the wreckage made of corporate finance in last 40 years.
For Boomers who have been employed outside finance or corporate top management, what is currently happening are inexplicable changes for which they should bear no blame.
In contrast, the Boomers that worked in the “guilty” sectors – mainly finance – have made pots of money by their participation.
Non-financial Boomers were too gullible
Even non-financial Boomers are guilty, however, to the extent that they have supported the most appalling short-termist monetary and fiscal policies.
On the fiscal side, the Social Security system had been rigorously reformed in 1983, so that it was almost sound, albeit through making people retire at 67 from 2026 onwards. It only needed a modest further tweak, around 2000, to ensure its continued survival through the cash outflow bulge of the Baby Boomers’ retirement.
It never got that tweak, as Boomer Presidents found more enjoyable things to do with the money, such as invading various parts of the Middle East.
U.S. Social Security running out of money in 2033
At this point, therefore, the system is due to run out of money in 2033 (and Medicare to run out of money several years earlier). No politically feasible tax increase or benefits tweak is available to stop it doing so.
In 2034, or thereabouts, U.S. social security benefits will be cut by at least a quarter, and almost certainly more, for all but the very poorest.
It doesn’t help that we live in a world of very low interest rates. These have had three effects on Boomers’ lives. In the short and medium term, they produced a crazy spiral of asset prices, in stocks, debt and housing.
These developments made Boomers feel artificially rich and decapitalized many major U.S. corporations such as Boeing (NYSE:BA) through stock buybacks.
Second, they made the rate of productivity growth infinitesimal because of all the stupid investment they encouraged. This has ended up wrecking the actuarial basis upon which Boomer retirements were built.
Third, visible to Boomers only when they try to turn their 401(K)s into annuities that will provide for their retirement, they have made annuity rates impossibly low, so that $1 of capital buys less annuity today than it has ever done before.
The chickens have come home to roost
Now, courtesy of the coronavirus, the chickens have come home to roost. The artificially high stock prices are no longer sustainable.
Markets have begun – unexpectedly rapidly – the process of finding their proper level, probably about 11,000 on the Dow Jones Industrial Index. That is equivalent, when you gross up for GDP growth, to the 4,000 at which the index stood when monetary policy was let off the leash in February 1995.
Over the next year or two, the same will happen to house prices, especially in the over-inflated cities of London, San Francisco and New York. Once this has happened, Boomer assets will run out very quickly indeed, and they will be reduced to penury in their old age.
Millennials will doubtless rejoice at the Twilight of the Boomers, a generation they dislike. But we Boomers face an impoverished old age regardless of likes or dislikes.
As it turns out, the US boomers’ retirement castle was built on sand. No amount of frantic saving can now save them from an old age of poverty.
US Boomers have had it good for a very long time. No more. Tragically, the Boomers’ plight is not really their own fault.
The current stock market carnage isn’t really the Boomers’ fault. It is the wreckage made of corporate finance in the last 40 years.
In about 2034, US social security benefits will be cut by at least a quarter, and almost certainly more, for all but the very poorest.