The U.S. retirement income system faces an enormous challenge as the transition to a much older society begins. Fewer employers sponsor traditional defined benefit pension plans. Their replacement, the now dominant defined contribution (e.g., 401(k)) plans, are failing to produce the accumulations that baby boomers will need for a secure retirement. And the backbone of the retirement income system, Social Security, faces a long-term shortfall. This situation has policymakers looking for new funding options.
One such option gaining support is investing a portion of Social Security funds in potentially higher-yielding equities. Munnell and Sass explore whether equities could help solve the woes facing the U.S. retirement income system in general, and the Social Security shortfall in particular. They examine the experiences of three nations that added equities to the investment mix of their retirement systems—the U.K., Australia, and Canada. As these experiences show, while equities promise higher returns than government bonds, how they are implemented—as add-ons, carve-outs, or as trust fund supplements—matters greatly.
The book begins with a description of how retirement systems in industrialized nations emerged as a response to several common problems, namely aging workers’ inability to continue to generate earnings and to accumulate assets that would afford a secure retirement. Next, the authors discuss the challenges facing the U.S. retirement income system, including how solvency issues surrounding employers’ plans have been ineffectively addressed and the move away from defined benefit programs to defined contribution programs and the risks inherent in this move.
From there they review the three nations’ experiences with equities and the political and practical issues associated with each approach. They begin with the U.K., which introduced equities using the carve-out approach. Next, they examine Australia, which added equities using the add-on approach. Australia also added mandatory contributions to individual retirement savings accounts, which could be invested in equities. Finally, they review Canada’s efforts to reform its retirement income system by adding equities using the trust fund approach. Lessons are drawn from each country’s experience and Munnell and Sass explain why they think that the approach taken by Canada offers the most promise for the U.S. Social Security program.