A person just entering the labor force can basically forget about ever receiving a pension from his or her employer -- unless that employer is the government.
In recent weeks, a number of name-brand companies, such as IBM Corp. and Alcoa Inc., decided to freeze their existing pension plans. Workers already covered will continue to get what they were promised. But others won't.
This is just the tip of the pension iceberg. By the end of this year, or shortly thereafter, another change in Financial Accounting Standards Board rules will require manufacturers and other firms to post the actual costs of benefits on their financials. Companies no longer will be able to shortchange the pension system and disguise their shortfalls in their income statements or on their balance sheets. Consequently, most firms will gradually drop their pension systems entirely for new employees.
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Let's look at the numbers -- and also make some fairly conservative assumptions about inflation (3%), wages (0% real gain) and rate of return in the stock market (an inflation-adjusted 5% gain). How much would a worker have at age 65 if he or she began putting aside a certain amount of income when starting out at age 22? The answer, obviously, depends on the amount of income. However, results are proportional, so let's take a starting salary of $50,000 per year and a personal retirement set aside of $5,000. There already are various ways of saving money on a tax-deferred basis, and I'm assuming all the money a person sets aside can be put in such accounts. If a person chose an S&P index fund, based on the assumptions I've outlined, he or she would have $850,000 by age 65 in real dollars -- that is nominal dollars adjusted for impact of inflation. If that sum were invested at 5%, that's $42,500 per year plus Social Security benefits. So in fact the person would be better off in retirement than when he or she was working.
There are lots of different ways to do the arithmetic, and this column is not a course on Saving For Your Old Age, so I'll return to my main point. In the future, private-sector workers will have to save on their own. If they don't have the necessary discipline, they'll need to have their employers automatically deduct money from their paychecks so it's never seen.
What about people who are fortunate enough to find a company that still does offer company-funded pensions? I'm not even sure I would want to work for such a company. After all, the company probably isn't doing this out of the goodness of its heart, so the money it puts aside could be given to you directly, cutting out the middleman, so to speak. For years many companies have gotten away with pensions on the cheap or have doled out benefits in their own stock -- and we know how that has usually turned out. If you believe that doesn't happen at "household name" companies, I urge you to think of the safest, most stable companies of 50 years ago. Pennsylvania Railroad. Bethlehem Steel. And, for that matter, General Motors. Companies like those.
But suppose there was a company whose owners decided, out of sheer charity, to overpay all their employees by giving them lavish pension benefits. These days, it wouldn't take long for a Carl Ichan, a Kirk Kerkorian, or a Bruce Wasserstein to sniff out these companies and dismember them for greater stockholder value. Your company-funded pension would shortly become worthless.
Michael K. Evans is chief economist for American Economics Group, Washington, D.C., and president of the Evans Group, an economics consulting firm in Boca Raton, Fla. Also see: Economic Outlook and Financial Market Outlook: Mike Evans' new blogs on the economy and stock market.