The Daily - Was the 401(k) a Mistake?

Episode Date: May 20, 2024

 The first generation to be fully reliant on 401(k) plans is now starting to retire. As that happens, it is becoming clear just how broken the system is.Michael Steinberger, a contributing writer for The New York Times Magazine, explains.Guest: Michael Steinberger, a contributing writer for The New York Times Magazine who writes periodically about the economy and the markets.Background reading: How an obscure, 45-year-old tax change transformed retirement.What to do when your 401(k) leaves something to be desired.For more information on today’s episode, visit nytimes.com/thedaily. Transcripts of each episode will be made available by the next workday.

From The New York Times, I'm Michael Barbaro. This is The Daily. Over the past few weeks, the U.S. stock market has been on a tear, soaring to record levels and delivering a shot in the arm to retirement accounts. The trouble is, millions of Americans don't have such accounts, and even if they do, have little or no money inside of them. My colleague, Michael Steinberger, has been trying to figure out why Americans are retiring so poorly, and traces much of it back to our growing reliance on the 401k. to our growing reliance on the 401k. It's Monday, May 20th.

Michael, we are going to talk to you today about what doesn't look on paper like the world's sexiest subject, but I think actually is a very sexy subject, which is retirement in the United States. And you began your journalistic inquiry into the subject of retirement in America with a very provocative question. You asked, was the 401k a mistake? Has this vast system of personal retirement plans that we now all rely on, pretty much, has it failed us? And I wonder why exactly you decided to ask that provocative question right now.

I asked that question right now because we are having an unprecedented number of Americans reaching retirement age. This year alone, it's estimated that 4.1 million Americans will turn 65. Wow. It's a record number, what the AARP calls the silver tsunami. Americans who entered the workforce 40 years ago when 401ks became sort of the dominant vehicle for establishing a retirement nest egg. 401ks, just for the sake of clarity, our employer provided retirement savings plans. Basically, you set aside a certain portion of your paycheck to an investment account of your choosing. And the hope is that those

contributions, with the help of the financial markets, will grow substantially over time. Right. And so this generation of American workers that's now entering retirement age are the products of a 40-year experiment with self-directed retirement financing. And now we get to see whether it worked. And we know it worked well for a lot of people. The concern is that it didn't work as well for many others and that a lot of Americans are now reaching retirement age without having adequate money put aside for their retirements. Just how inadequate is that retirement picture?

One estimate is that 49% of people in the 55 to 65 age bracket have nothing put aside for retirement. The numbers are quite stark. Half of the population of those at or near retirement have nothing put away. That's what the numbers indicate. And depending on the estimate, we're looking at maybe 10 to 20 percent of all seniors already are living in poverty. And so for many, retirement is an unobtainable aspiration. And there's a strong case to be made that 401ks are largely responsible for the fact that so many Americans don't have adequate savings. Well, this feels like the moment in a daily episode where I think we have to roll back the tape a bit and have you explain how this 40-year-old 401k experiment

ever began. So let's start with the story of how we have come to rely so much on the 401k in the first place. Well, I think it would be good to start that story with the system that existed before 401ks came along. Back in the 50s, 60s, and into the 70s, a lot of companies offered their workers pensions. And pensions were basically,

the company would create a pool of assets. It would manage the money, invest the money, and manage it on behalf of employees. And if you worked for a company long enough, you were guaranteed a fixed retirement income provided by the company for the rest of your life. Right. And the key word there is guaranteed. Companies guaranteed that your pension would be at a certain level, essentially in perpetuity. Exactly. If you worked for a major steel or auto company and you spent 30 years, 40 years

working on the assembly line of that company, you knew that when you retired, you were going to be getting a fixed monthly income from the company. You knew what the amount would be. And it was a huge benefit to working for these companies. It was a different era, of course. There was an era of lifetime employment.

People often spent their entire careers with the same company. And people also didn't live as long. From a company's point of view, pensions were affordable. And it was just a very different time. And it should be said that even in the heyday of pensions, only around half of all private sector workers had them. So they weren't as broad-based as people might think. And these days, there's a bit of mythologizing about that era. But if you had one, it was something you cherished. And it was an era in which

the country seemed to do a better job of taking care of the working person. Well, then who would willingly give up that cherished system of the pension? Well, 401ks came along as almost an historical accident. In the 60s and 70s, many companies were looking for ways to reward their executives. And specifically, they were looking for ways that they could award bonuses to executives and not have that money taxed. The top marginal tax rate at the time was quite high. And so some companies began offering tax-deferred savings plans to executives to help them minimize their tax hit. Basically, the way these worked was that the company would pay bonuses directly into these accounts, and the executives could only take the

money out when they left the company, either take out of the job or to retire. But there was always a certain murkiness surrounding these plans. It was never entirely clear that the IRS approved of them. It was never entirely clear that the IRS would continue to approve of them. a broad piece of legislation that included a short provision called Section 401k that attempted to provide greater clarity to how these profit-sharing schemes could be established. And the people who wrote the legislation didn't think that Section 401k was significant at all. They thought it was just a sort of inconsequential tweak. However, a retirement benefits specialist in suburban Philadelphia thought otherwise.

In 1979, a gentleman named Ted Benna, he had been asked by a local bank to try to devise a profit sharing program that it could offer to executives. Got it. So in other words, they were doing that same old thing of trying to figure out how to shield the taxes of highly paid executives. Exactly. And so there he was sitting in his office on a weekend afternoon in 1979, and he started reading quite closely this section 401k. And the light bulb went off. He realized that there was possibly a way to preserve this sort of system legally.

Instead of the company making payments directly into these accounts, you could offer them as retirement plans that employees could pay into themselves. The thinking was that if you paid executives big bonuses, they could choose to put that money into the plan pre-tax. And he sort of realized he was onto something quite big. The catch was Section 401k indicated that this plan had to be made available to rank and file employees at a company. And that struck Ben as a challenge because it was one thing for a highly paid executive to be willing to put aside some of his income in such a way. But to ask a bank teller, people who tended to need the money more immediately, that was going to be a big ask. And solving that piece of the puzzle was a big challenge.

And so what was his solution? His solution, and it was an ingenious one, was that the bank could offer to match a portion of the contribution that an employee made. So instantly would grow their money. Right, that's kind of a free money quality to that proposal. And that this was the sweetener that could get rank and file employees to go along with it. And in that moment, in that flash of inspiration,

Ted Benna created the modern 401k, which would go on to change the American economic retirement system. A funny footnote to this is that the bank that had asked Benna to come up with the plan rejected the plan. It was concerned that the IRS would ultimately rule the scheme illegal. But Benna was undeterred and decided that he would offer the plan to his own company. Benna's colleagues and employees loved the plan and happily contributed to it. And through word of mouth

and articles in local newspapers, the idea took hold. And the timing turned out to be very fortuitous. How so? Well, for a couple reasons. One, a lot of corporations had come to regard pensions as albatrosses. Certainly in two industries that were best known for their pension programs, auto and steel,

these were industries that were in decline and their pension obligations were killing them. Right. Because as you told us earlier, they literally guarantee a certain level of retirement. Absolutely. And meeting those guarantees had become increasingly onerous, and particularly for companies that were in dying or fading industries. And so you have companies looking to get away from this pension system. And the politics of that era was also a significant factor. I mean, this was when Ronald Reagan is president. And Reaganomics, as it was called, was centered around the idea of individual responsibility, the money invested. And to people who were enthusiasts of 401ks, it was also, you know, an emancipatory vehicle, a chance to give

Americans, individuals, you know, the freedom to sort of chart their own destiny. And so the 401ks fit very neatly into the politics of that moment. Well, I wonder if you can walk us through the ideal version of how a 401k would have been working for a worker in this era when it was being more and more adopted and workers were starting to really like what they saw in this alternative to the pension. Let's imagine a guy who entered the workforce in the 1980s. And in honor of the father of the 401k, Ted Benna, let's call this imaginary figure Ted. Perfect. Ted gets hired by a company. The company offers a 401k plan. And Ted is disciplined. His father and mother have told him for years

that if you want a proper retirement, you need to save. You can't spend everything. Showing a little financial restraint is a good thing at a young age. And they've given him books like The Wealthy Barber, which documents the magic of compound interest. So having realized that saving is important,

Ted happily establishes a 401k account through his company, maxes out his contribution faithfully, and the company also provides a generous match. And his income keeps rising as the years go by, so he's contributing more and more to his 401k. And because he's earning a good amount of money as it is, he never needs to touch that money. He can leave it there for retirement, let the stock market work its magic. And the market did work its magic. There have been downturns over the last 20 or 30 years. But basically, sticking with the stock market has proven to be a very wise bet.

And today, as he nears retirement, Ted is one of hundreds of thousands of Americans who has more than a million dollars in his 401k. Right. This is the very promise of the 401k, that if you contribute early and consistently, you can build a very serious nest egg over the course of your career. And you can do it on your own terms. Exactly. But from the start, there were people who wondered whether this was really a good idea. Saving for retirement is essential. Did it make sense to put so much of the burden on workers? Is saving for retirement really a do-it-yourself endeavor?

We'll be right back. So, Michael, who specifically was warning us pretty presciently, as it turned out, that a growing reliance on the 401k for retirement was a dangerous experiment? Well, one person who was warning us was an economist named Teresa Ghilarducci, who teaches now at the New School in New York. And what's interesting about her is that she entered the workforce at around the time 401ks came along. So she has tracked this for the duration of her career and has been warning about the downsides of 401ks pretty much for the duration of her career. And what exactly was her worry? Well, for one thing, she worried that a lot of people would never even have access to 401ks, particularly lower and middle income Americans.

She worried that many employers would simply not offer them. She also felt that even if those workers were offered 401ks, they would not have the resources or the financial knowledge to take advantage of these plans. But she also saw this in moral terms. She thought that the 401k represented an abdication of the social contract. She believed that workers deserve to be able to retire with dignity and some degree of economic security, that it was something that we owed them as a society. And she saw the 401k as a betrayal of that. Well, help us understand the kind of downside risk of the 401k that people like Gilerducci are starting to worry about. And I wonder if you can do that by providing a counterexample to Ted, who clearly represented the upside of the 401k.

And instead, give us an example that really embodies the risks of the 401k. I think that would help us understand this skepticism that begins as the 401k is being adopted across the American workplace. Okay. Let's imagine a worker named Paul. The first few companies he worked for did not offer 401ks, but his current employer does. The problem, though, is that Paul doesn't make enough money to contribute to it on a sustained basis. He makes a mid-five-figure salary, but he's got kids, he's got lots of expenses, and he can't really take advantage of this 401k. He puts what he can into it, a couple thousand here and there,

and there is an employer match, but it doesn't add up to very much because he can't contribute a lot to it. And life can throw lots of curveballs at people. And in Paul's case, one of his kids has a medical emergency. Health insurance won't cover everything. And he's got this money sitting there that's put aside for retirement, but he needs the money now. And Paul does exactly what all the retirement experts say you shouldn't do.

And raids his retirement fund, and the 401k ends up being a source of emergency funds for him. He replenished it to a certain degree over the next 20 years, but he's now reaching retirement age and his 401k has maybe $20,000 or $30,000 in it, which is hardly enough to get him through a year, let alone to sustain him for the length of his retirement. And he'll have Social Security too, but it does not add up to anything like the kind of nest egg one needs these days to retire on. So this is the nightmare version of the 401k, where circumstances like this emergency Paul experiences, as well as a lack of financial savvy and ultimately a lack of resources, means that the 401k is not providing a comfortable retirement. In fact, it doesn't seem like much of a retirement at all. No, that's exactly right.

Teresa feared from the start that the 401k system would disproportionately benefit people who were already well-to-do and would leave millions of other Americans with basically nothing put aside for retirement. And it seems that that's where we've ended up now. It's not just that millions of people who have access to 401ks struggle to save. Millions of other Americans don't even have access to 401ks.

It's estimated that around half of all private sector employees do not have retirement savings plans through their employers. You have a lot of Ted's in America, people who earned enough and had the financial knowledge to put aside a lot of money and who have massive nest eggs built up through their 401ks and other investment vehicles. But you also have millions of Pauls who've got basically nothing and are facing, you know, in many cases, dire circumstances as they approach retirement. Right. What she feared and what it sounds like has happened is that the 401k has just reinforced the income inequality that is so present in American society.

And there would seem to be a little bit of an irony to all of this, Michael, which is that as you said when you described the birth of the 401k, it was created to shield high paid executives bonuses from being taxed. So perhaps it's not all that surprising that even as it took off and became the retirement tool of the rank-and-file worker, the 401k remains most effective at building the wealth of those who already have a fair amount of wealth. That's a great point. Maybe we shouldn't be surprised

that something that was created to help rich guys shield some of their money from taxes has ended up helping lots of rich guys become even richer. So if, as it turns out, to bring this full circle, the 401k, in a very real sense, was a mistake, what are we supposed to do about it? What are we supposed to do about it? Well, for a long time, Ghilarducci hoped we could get rid of 401ks.

And in fact, at one point, came up with a plan to replace 401ks, but it didn't get very far. It was an idea that was popular in progressive circles. But for many years, she was a figure of scorn on the right. Conservatives thought that she was attacking the very idea of the free market and of individual choice.

Lately, though, some conservatives have had a change of heart. Some significant voices on the right have even conceded that she actually had a point about the flaws of the current retirement system. Who are those voices on the right suddenly agreeing with her? Well, one prominent figure is Kevin Hassett,

a well-known conservative economist who served as one of Donald Trump's chief economic advisors when he was president. After Hassett left the White House, he took an interest in the economics of retirement in the United States, and he became concerned that millions of Americans were indeed falling through the cracks

of the retirement system. Hassett has been concerned for some time that the country was drifting towards socialism. And so he felt that doing something to help lower and middle income Americans put aside money for retirement, basically, it would be a way of not just helping millions of Americans, but of restoring their faith in the capitalist system. From what you're saying, he saw the American retirement situation in the U.S. as a betrayal of a different kind, not a betrayal of the concept that corporations owe their workers a retirement, but a betrayal of the concept that people could believe that a capitalist system would provide for them in their retirement. Exactly. As Hassett dug deeper into the economics of retirement, he became familiar with Ghilarducci's work, and he reached out to her to strike up a conversation. And they came up with a quite bold plan for addressing the needs of lower and

middle-income Americans who don't have enough put aside for retirement. And what does their plan, this product of these two unlikely bedfellows, actually look like? needs of lower and middle income Americans who don't have enough put aside for retirement. And what does their plan, this product of these two unlikely bedfellows, actually look like? They came up with a really intriguing idea. The government has a program called the Thrift Savings Plan, which is available to all federal employees and all members of the uniformed services. It is, like the 401k, a defined contribution plan. People set up individual retirement savings accounts, they put money into it, and the government provides a match. Ghilarducci and Hassett had the idea that you could extend this program to other Americans,

to people who didn't have 401k plans or other retirement savings vehicles through their employers, and they could put money in and the government could provide a match up to a certain percentage and up to a certain income threshold. This would allow millions of Americans

currently locked out of the retirement system to start building nest eggs. So in this plan, instead of your company providing a 401k or a match for your retirement, it would instead be the federal government. Exactly. And this plan has gained traction on Capitol Hill. In fact, there is now legislation before Congress that is based on Ghilarducci and Hassett's plan. And it has bipartisan sponsorship. Wow. It underscores the point that despite the toxicity of our current

politics, there is growing agreement across the ideological divide that something needs to be done to help more Americans save for retirement. needs to be done to help more Americans save for retirement. But Michael, here, I think I have to pause and reflect on the fact that this entire episode has been about the shortcomings of the 401k. And so I have to ask, why would a program that embraces a 401k style approach be the solution to a problem that the 401k itself seemed to create? Well, I don't think anyone would say that this program is going to make, you know, everyone in the neighborhood a millionaire, but it is going to provide more Americans with something of a nest egg, something they can retire on.

That's the hope anyway. It's about trying to help more Americans put aside enough money that they can possibly retire with some degree of economic security and dignity. The key point is participation. You want to give people access to a retirement plan, give them an incentive to take advantage of it. Right, the match.

The match. The match is a crucial part of this. Seeing your money grow instantly through the match, whether it's from your company or from the government, is a huge incentive to actually participate. And so this could make a significant difference. It really feels like the saga of the 401k ends up being like so many questions in the United States, where there's this huge, seemingly unresolvable tension between a collective

problem, the need for a comfortable life after work for millions of people, and a solution that, as currently designed, relies on the individual to make it happen. And even the program that expands the government 401k to all Americans that we just discussed doesn't seem like it's really going to resolve that inherent tension.

No, it won't. And at the end of the day, this all comes down to a very basic question. Should we think of retirement as a privilege or as a right? In the 1950s, 60s, and into the 70s, the heyday of pensions, it seemed that we were moving towards an answer. And the answer was that it was a right. The 401k system seems to have taken us in the other direction. And so long as we live in a world where it's considered a privilege,

it's going to put a lot of the onus on workers themselves. And that's a very hard problem to solve for with policy measures and perks. It ultimately comes down to whether individuals have access to retirement plans and if they have enough money and discipline to contribute to them on a regular basis. Well, Michael, thank you very much. We really appreciate this. Thank you for having me. We'll be right back. Here's what else you need to know today.

The president and foreign minister of Iran were killed when their helicopter crashed in the country's northwest. The cause is unknown, but it occurred in bad weather and thick fog, which made search and rescue operations difficult. The crash comes at a fraught moment for Iran. It recently launched its first direct attack against Israel, suffered a devastating terrorist attack, and faced massive protests against its government. And... Over the weekend, a key member of Israel's war cabinet, Benny Gantz, presented the country's prime minister with an ultimatum.

Unless the government of Benjamin Netanyahu quickly develops a plan to end the war in Gaza, between responsibility and rebellion, and between victory and disaster. In a televised speech, Gantz accused Netanyahu of, quote, dragging the country into the abyss. In response, Netanyahu accused Gantz of betraying Israel and essentially calling for its defeat to Hamas. George, with help from Patricia Willans, contains original music by Marion Lozano, Alicia Baetube, and Dan Powell, and was engineered by Alyssa Moxley. Our theme music is by Jim Brunberg and Ben Landsberg of Wonderly. That's it for The Daily. I'm Michael Barbaro. See you tomorrow.