Teresa Ghilarducci is director of the Schwartz
Center for Economic Policy Analysis at The New School for Social
Research. The 401(k) system has been a “failed experiment” for
middle-class Americans because it was never designed with them in mind,
she told
FRONTLINE. “It’s not the fault of people that they don’t have
enough savings in their individual retirement account or their 401(k)s,”
she said. “It’s the fault of the system, and the whole system needs to
be reformed.” This is the edited transcript of an interview conducted
Oct. 25, 2012.
I’m going to take you all the way back to 1974. What was the significance of ERISA passing?
ERISA, the Employee Retirement Income Security Act of 1974, was
passed after many people lost their pensions after many years of work,
and they were promised pensions, but the company went bankrupt, and
there wasn’t actually any funds to back up the promise.
The most famous case of that was Studebaker, that was based in South
Bend, Ind. And that city [was] filled with people who for 20 years had
been promised a pension, and they found themselves in their late 50s
without a job or any income.
ERISA was passed to make companies set aside money to back up to
promises. And a lot of the bigger companies were doing it anyway, so it
codified, or made legal, what the big companies thought [was] the
responsible thing to do.
And it was also a time when companies, to be successful, provided
pensions, because they realized that turnover costs were really high,
that after you trained workers and they left for another firm, it just
affected their bottom line. …
So ERISA rode that wave of employer-employee relationships that really valued skilled workers and some loyalty to the job.
And how did that get reversed?
It wasn’t because the need for skilled workers or less turnover got
reversed. … What’s happening is that [employers] are shedding older
workers. At 50 to 55, there’s been a huge change in the connection
between an employer and an older worker. Now, the reason why this …
affects pension plans is because that change in employee relationships
[has] come about with the same change of the design of the pension plan.
So we’ve seen in the 1980s and ’90s a shift away from a regular
traditional pension plan to something called a 401(k)-type plan. Most
call it a defined contribution plan, but most defined contribution plans
are 401(k)-type plans. These plans were put into place at the beginning
of the 1980s, and it was really meant to serve the needs of executives
in a company that already provided pension plans for everybody else.
“The 401(k) … is one
of the only products that Americans buy that they don’t know the price
of it. It’s also one of the products that Americans buy that they don’t
even know its quality or know how to judge its quality. It’s one of the
products that Americans buy that they don’t know its danger.”
The plea from larger corporations to the Internal Revenue Service
was: “Please give us a way to let our higher-paid employees save on top
of the traditional plan for their retirement. Let us deduct their pay,
tax-free, and let them pay taxes later after the accumulation.”
So the IRS thought, well, they’ll never do it if we allow them to do
it, but make that available to all the workers. And the IRS was a little
surprised that in fact, company after company started to adopt these
401(k) plans as a supplement to regular pensions.
When workers lost bargaining power because of international trade,
because of the decline in unions, that supplement became a primary plan.
But … the biggest trend is not that these traditional plans are
moving to defined contribution plans or 401(k) plans. The biggest trend
we’re picking up is that employers are not providing any way for
Americans to save for their retirement. So on top of the shift away from
traditional plans to 401(k)’s is actually a [lesser] probability that a
firm will even have a retirement account at work.
… Kind of unpack the irony that 401(k)’s were a way to make rich people richer.
So the end of the 1970s and early ’80s was a period of a lot of
economic turmoil, but the relationship of the employer and the employee
hadn’t changed much. … All employers cared about the loyalty of all
their workers and wanted to help out their higher-paid managers. They
decided to petition the IRS to actually expand their pension offerings,
and they provided 401(k)’s as a supplement to the traditional plans.
What’s ironic is that as time progressed and regular workers had less
bargaining power, less presence in the modern firm, is that this plan
that was really built to supplement the retirement accounts for the
higher-paid workers became the only vehicle in which lower-paid workers
could save for their retirement.
So the structure was always set up against lower-paid or middle-class
workers from the very beginning, because it was never intended to be
the primary savings vehicles for most Americans.
How was it popularized?
The 401(k) plan was never organically popular among workers. The fact
that workers were faced with decisions about where to invest — they
were told that they had to choose how much they had to save for their
retirement in order to be comfortable — was never anything that was a
superior option to just a regular pension plan. …
But it became popularized with lots of advertising money and a lot of
congressional protection that other kinds of financial products and
other kinds of products in general didn’t have.
For instance, the 401(k) manager, or mutual fund, is one of the only
products that Americans buy that they don’t know the price of it. It’s
also one of the products that Americans buy that they don’t even know
its quality or know how to judge its quality. It’s one of the products
that Americans buy that they don’t know its danger, and it’s because the
mutual fund industry had been able to protect themselves against
regulation that would expose the danger and price of their products.
… How is it possible that our retirement funds, there’s so little transparency?
… The period of the 1980s and ’90s was a period in which there were
high rates of return, or consistent rates of return in the product. So
there was a complicity of belief that the mutual fund industry was
regulated by the Securities and Exchange Commission or some other
agencies that would just make sure that companies did the right thing
and that the market competition would regulate itself.
So there was some faith in the product. It hadn’t blown up yet.
People liked the [Ford] Pinto until the engines blew up. So it’s a
matter of complacency. 401(k)’s were new products, and they were working
well for a while. …
One of the worst aspects of the 401(k) industry is the conflict of
interest. … So the 401(k) industry took fees from customers, paid
lobbyists to go to Congress to say:
“You don’t need fee transparency.
People won’t really understand it. Let the market thrive, and then
through competition, the fees will just be appropriately priced.”
And so that was the story year after year when the Congress tried to expose the fees. …
… We all know that banks spend money on lobbying. But was it different than the usual sort of Wall Street kind of shenanigans?
I think that the rest of Wall Street and the rest of banks were more
highly regulated because there was a popular movement against credit
cards and against mortgages. …
Even the people who worked in the banks just accepted that they had
to reveal what the real checking account fees were and what the real
interest rate fees [were]. So there was a culture of regulation among
commercial banks. …
The 401(k) industry comes from a different side of Wall Street and a
different side of the banking industry. Those were products that used to
be available only to the very rich. And they made a deal. Those mutual
funds made a deal with Congress, just like hedge funds are now, that
look, it’s sophisticated consumers that buy our products, and therefore
they can understand what the fees are. If you regulate us, all you will
do [is] create red tape and take money away from customers. …
Do you remember the first time you heard the term 401(k) and what you thought about it?
USA Today in the early ’90s asked me what I thought about the
this new forum of defined contribution plans, and they asked me because I
was a new professor and had just finished a huge study of 800 firms and
how much money they put aside for their employees.
I had just written a book on how Americans prepare for their
retirement, and I knew that Americans really prepared for retirement by
paying taxes into Social Security and also saving at work. And I had
just finished a study that showed that if employers adopted a 401(k)
plan, this new kind of plan, that they actually lowered their pension
costs. …
And I wondered what this new forum was. So the early ’90s, I just
told the news media and everybody about the fact that these 401(k)
vehicles seemed to be a way that companies just got out of contributing
to their workers’ savings plans. …
And yet they became very popular among workers. …
So when workers were offered a 401(k) plan and their defined benefit
plan was frozen or eliminated, workers did say they liked it. But it
wasn’t because it was their first [choice]; it was because [it was]
their only choice.
All of us, when we’re faced with something rather than nothing, tend
to be optimistic about how that something is going to work. Study after
study that asks workers, “Would you prefer a secure retirement plan, or
do you prefer a plan where you can decide where to invest, and how much
to save?,” workers choose the more traditional plan.
They like the supplement; they like the choice. But it doesn’t mean they refused a secure retirement plan.
But the markets were booming. It was exciting. We were
all sort of gambling on the market, and suddenly we could gamble with
our retirement money.
… The stock market was all over the news media. Personal finance
journalists all of a sudden were in high demand. There are lots of
people on the radio that have personal finance programs. You had [Jim]
Cramer and the
Motley Fool making investment almost kind of fun and childlike. Cramer reminds me of
Sesame Street, you know, running around and honking horns and talking to people about big adult stuff.
All of a sudden, workers were getting some familiarity, like you do
when you are exposed to a lot of advertising, with terms that were
really in another rarefied world of finance, so that everybody on the
street could talk about [large] cap and NASDAQ and the Dow as if it were
part of their life.
So the 401(k)’s actually exposed consumers to a whole other world of
finance, and the market was in a long-term bubble. It was actually
growing.
Now people couldn’t see what their accounts were actually doing. That
was hidden from view. And in fact, there were lots of articles in that
period of time which would survey workers. How much did you earn in your
own account? And even very highly educated workers would name a number
that actually incorporated their own contributions. So many
sophisticated workers — these are engineers; these are highly educated
workers — could not separate out the earnings in their accounts, the
actual earnings from the stock market from actually the money that they
themselves put in. …
[It] would only take a huge financial crisis, like the one we had in
2008, 2009 for people to realize that that account was at risk. And so
the industry was able to coast on some satisfaction among the consumers,
the workers who were putting money into it, and their employers who
thought, “Well, if my employees aren’t complaining, I guess it’s OK.”
And they were able to lobby Congress to say: “Look, if it ain’t broke, don’t fix it. Don’t saddle us with regulation.”
… Talk about the growth of the mutual fund industry. What role was Fidelity playing in making 401(k)’s popular?
In the 1970s, ’80s and ’90s, we were in … a period of time when the
labor force was aging rapidly. … The mutual fund industry was not very
well regulated, and they were finding that people were moving into their
savings years. A 40-year-old saves more than a 30-year-old, and a
50-year-old saves even more than a 40-year-old. So they were just taking
in money hand over fist, and they loved it.
As demand was increasing in their industry, it let them play with it
more, offer more financial innovation. So programs in colleges, at MBA
schools really ignored engineering, really ignored management, and it
was the finance programs that were exploding.
The big investment houses worried less about whether or not the steel
company they were investing in had good operations, and they were just
interested in creating more financial products. So we had more financial
engineering in the 1970s and ’80s, more product innovation than we had
actual engineering.
But this product innovation, this money flowing into the mutual fund
industry because the workforce was getting older, was a way for them not
only to create more high-value, high-profit products, but it was also a
way for them to consolidate their political power. …
So who were the early players? And how did they get so big?
The early players were Fidelity, MFS — Massachusetts Financial
Services — were the early creators of 401(k)’s. … The early mutual fund
companies really were marketing to the very richest Americans. These
were Americans that had wealth beyond their house and beyond their
company plan.
And all they did was have this financial product that let rich
Americans not have to pick on their own which stocks to buy but said,
“Hey, we’ll give you a fund that has a little bit of everything, and
then we’ll do a lot of that stock picking for you.”
And rich people thought that was a good use of their time and a good
use of their money. They would pay a mutual fund manager to pick the
stocks, and they would just get a rate of return from a diversified
portfolio. So the mutual fund industry was an industry for older rich
people. …
When one has a 401(k), you generally have this sort of
Chinese menu of really fabulous-sounding options. … Can you give me a
sense of what those products are and who makes money off of them?
… The people who have gotten a job and are asked to invest in their
401(k) are handed really two choices: How much do you want to put into
your 401(k), and where do you want to put that money? And they’re given a
menu of choices about where to put their money. …
We experts have actually analyzed the choices that people make. So
one disturbing fact is that if people have 15 choices, they feel the
most prudent thing to do would be to diversify their contributions — it
makes actually a lot of sense — and they just put 1/15 of their
contributions into all their funds. Or they’ll ask their co-worker, “So,
buddy, what did you put your money in?” Or they just may be in a good
mood to put their money toward things that sound like growth, or they
may be in a mood to put things in that more sound like value.
There’s really no guidance that employers provide, and that makes
sense, because if employers provided guidance, they’d be on the hook if
they provided the wrong guidance.
So workers are really left on their own to choose among the Chinese
menu, and because there’s no regulation, there’s often not a distinction
about whether or not they’re even investing in a stock or a bond. And
there’s nothing on that Chinese menu that reveals the price of that
product.
So when they put their money in [these] “value” and “special” and “growth” funds, what happens to that pile of money?
So we know that 401(k) participants don’t invest like a professional
would invest. They don’t invest in an appropriately diversified
portfolio. They don’t invest in the lowest fee portfolios. …
Just asking the question, have 401(k) investors done as well as
professional investors, done as well as defined benefit investors, or
have done [as] well if they had put their money under their mattress,
and the sad fact is that 401(k) investors perform the worst among all
participants.
Here’s a fun fact. For many people who just put their money into a
401(k) and never looked at it again, and happened to have picked a
low-fee diversified mutual fund, [they] would have done a lot better
than the [401(k)] investor that watched the stock trading shows or
followed the investment advice and responsibly tried to trade every
quarter or every year, because the person who tried to be responsible
and follow the advice on the news media or in a pamphlet would actually
pay such high trading costs that it would take away from their returns.
So we know after 30 years of this 401(k) experiment that people do
worse in 401(k) than they would have if their money was in a traditional
plan or if it was in a plain vanilla retirement account.
Why do most people not know that?
Most people don’t know that the 401(k) products are toxic and their
behavior toward a 401(k) product is toxic because no one has been
responsible for providing a safe product.
The Congress has not put itself [out] as a responsible actor.
Employers were told, “It’s up to your employees to choose,” and the
banking industry and the mutual fund industry said, “Trust us.” …
So the reason why workers don’t know that their 401(k) products and
the choices that they make won’t yield them enough return and that
they’re paying high prices is because the products are dangerous, and
nobody regulates them.
It almost sounds like … the mutual funds are mugging widows and grandparents, you know?
The mutual fund industry [is] doing what they’re supposed to do.
They’re supposed to make money for their shareholders, so they’re
providing a product to not just widows and our grandparents and older
people, but they’re providing a product to workers. And the workers are
responsible to find out the quality of that product.
There’s very little regulation, very little information about those
mutual funds, and the mutual fund industry likes it that way, because
the less information they have, the higher the fees they can charge. …
… In this world of [the Charles Schwab ad campaign]
“Talk to Chuck” and Fidelity and T. Rowe Price and Prudential, who
should I trust?
… In the 1950s and ’60s and ’70s, most Americans dealt with the bank
because the bank gave them a mortgage; the bank gave them a savings
account or a checking account. The bank might have given them a small
business loan. And the banks started giving you credit cards.
At the time that the commercial banks provided these products,
Congress kept up with them and regulated them. It wasn’t without some
tension, but the American worker and the banking industry had a
well-regulated, familiar relationship.
In the 1980s and ’90s, the part of Wall Street that really only
interacted with rich people stepped down and expanded their market to
the middle class and to ordinary workers, and they were able to expand
their high-end business down-market because employers were shedding
their traditional plans and providing a do-it-yourself pension plan.
“Most people don’t
know that the 401(k) products are toxic and their behavior toward a
401(k) product is toxic because no one has been responsible for
providing a safe product.”
So the changes at the workplace really matched up with changes in the
mutual fund industry to expand their market. So the mutual industry
started to sell a product that wasn’t appropriate for most Americans,
and the players there became household names because they went retail.
And the advertising budgets of these firms exploded, and they got those
advertising budgets from fees that were named education fees or
marketing fees or administrative fees.
And so a big part of the advertising industry in this country [has]
moved away from cars and clothes and diamonds and [has] moved toward
mutual fund products. There’s always been an effort of sort of
luxury-good providers to make sure that the middle class would kind of
grasp and reach, and kind of get those products. I think the mutual fund
industry is just part of that down-marketing of a luxury good.
The problem is, it’s not just a frill. The problem is that the mutual
fund industry has replaced products that all Americans need, which is a
secure way to save [for] your retirement in an efficient way.
Is there a campaign that you think was more memorable than any other?
… The campaign that I thought was going to be the most effective …
was the “Talk to Chuck” campaign. It was talking directly to younger
people and to workers to say: “I am going to help you through this
process. Just talk to somebody that could be your uncle or your dad,” or
actually the local banker that used to tell you: “Hey, buddy, you
really can’t afford that home. Go a little bit cheaper; we’ll put 20
percent down.”
So the “Talk to Chuck” was a campaign that referred to a world in
which you could actually have a partner and a trusted adviser for your
financial products, just like you had a trusted teacher that helped you
through your education or through your career.
It was a campaign I thought would really take off, and it looks like
it has. So I’ve seen that the mutual fund industry has kind of changed
their tactics and are really locking into not the dreams of retirement,
but to the anxieties of retirement. And they’re hoping that the worried
worker will actually trust an adviser.
So I think it’s working for the industry, but it’s not working for
the American public. Many people that I know are paying way too much to
their adviser to buy products that are way too expensive for them.
And so we have a system in which in order to be responsible, you’re
supposed to hire your own adviser, when in the past it was just all you
had was a way for you to take your hard-earned money, maybe 5 percent,
10 percent, set it aside, and you knew that you would actually have a
stream of income for the rest of your life.
Let’s talk about … the financial adviser that a lot of
people get. Who is this person? How qualified are they generally? What
are their conflicts of interest and their fiduciary responsibility over
the advice they give you?
Many middle-class workers are consuming a product that was once only a
product that very rich people bought, and that was a personal adviser.
The big difference is that the rich people would hire a financial
adviser that had just a very high fee and knew a lot about taxes and
estate planning. Now middle-class workers are getting a product where
the adviser is really just a broker or a salesman, so it looks like the
kind of product that rich people have, but it’s a very different
product.
So when you hire a guy, or you have a financial broker, that guy is
most often attached to a big financial company. Many people are getting
their financial advice from an American Express adviser. They’re getting
their advice from somebody who they find in a small room at their local
bank, who are selling products for their individual retirement account.
Or they’re talking to a financial adviser that’s connected to Charles
Schwab or Fidelity or another mutual fund aggregator. And this guy works
for that financial company, just like the person who sold you a car
works for the dealer or for the auto industry.
Now that guy — and often it’s a gal — does have some professional
standards they have to meet. They have to pass a couple of licenses, and
they have to know something about you — not very much about you, but
they want to know if you’re a high-risk investor or you want a secure
amount of money, and they probe you a little bit.
There’s always the standard questions. Do you want to preserve your
capital, or do you want to make as much as possible? And based on those
questions, they have some rough standards about what kinds of products
to put you in. But after that, everything they tell you is really not
regulated.
They have a professional standard to their profession, and they have a
loyalty standard to the company. They have to make as much money as
possible for their company, and their company rewards for selling you
the most high-priced, high-profitable standards.
Let me contrast that guy with the guy, the investor that people have
in a traditional plan. … When you put a dollar into an ERISA plan or
[in]to a traditional plan, that money was protected by a standard called
the fiduciary standard. That standard requires everybody running your
money to be professionals but also to have loyalty only to you, to the
beneficiary. …
They can’t put a penny toward an investment that might benefit
somebody else or take that benefit into consideration. Even if that
investment would save the auto company or the steel company, the
investor, the professional has to say, “Does it help my worker or my
retiree?”
A professional standard that your guy is guided by is a much lower
standard than a duty of loyalty or fiduciary standard. Basically your
guy is out for himself to maximize his sales, and the way he does it is
to be loyal to the mutual fund. And they try to sell you the most
profitable products. …
… So they’re the broker-dealer?
They’re the broker-dealers. They’re the financial adviser. … There’s
no difference, but they certainly don’t present themselves to you as a
broker-dealer. That’s the function they serve in the industry.
But you as a worker, or you as a saver in an individual retirement
account, you’re presented with this guy. In another name, he calls
himself, or she calls herself, an adviser. Many people in the industry
think that we’re going to see a wave of lawsuits against these advisers
for even violating their low-level professional standards, because these
advisers have only been pushing high-fee products. And as people find
out that there’s really not enough in their nest egg, they’re going to
have notes. They’re going to have records of the kinds of advice that
they were given, and we probably will see a lot of lawsuits to actually
push the boundaries of what professional standards mean.
… The Pension Protection Act [of 2006]: Why was this passed, and did it make things better or worse?
The Pension Protection Act is a lovely sounding name of a law, but it
in fact did the opposite of what the name implies. The Pension
Protection Act really put the final nail in the coffin of defined
benefit plans.
The Pension Protection Act continued the severe and tight regulation
of the traditional pension system and gave a lot of leniency to the IRA
and to the 401(k) industry. So it continued the asymmetry of regulation.
And what it did was tell defined benefit plans that they had to fund
their promises to a much higher degree than they ever had before. It
accelerated the payments into the pension plan.
Now, that all sounds good, but the Pension Protection Act did to
traditional plans what a law that would say, “Hey, you might have a
30-year mortgage; you now have to fund your mortgage in five years,”
would do to homeowners.
What it did was accelerate the full funding of many plans, and it
forced a lot of plans to terminate, to go bankrupt, because they weren’t
planning on funding their plans to such a high degree, just like
somebody who took out a 30-year mortgage would not be able to fund it
all in just five years. …
… Why weren’t they regulating where the problem was,
which was 401(k)s? Why not have any provision that would protect people
that were putting their money in these?
The Pension Protection Act focused its attention on traditional plans
but did not focus its attention [on] the defined contribution world of
individual retirement accounts and 401(k) accounts, because the
lobbyists for the 401(k) industry was very powerful, and the lobbyists
for the traditional pension plans were not as powerful. …
Who’s the lobby?
The lobby for the 401(k) industry is the Investment Company Institute
of America. They are called the ICI, and they are growing in
Washington, and they are very well funded because their clients were
growing and were taking in money from an aging population.
Skip ahead two years later. I believe you testified before a committee. … Talk to me about that day. What happened in that room?
I testified in Congress in October in 2008. If people remember that
period of time, the month before Lehman Brothers had just gone bankrupt,
and we had the biggest slide in the financial markets in a couple of
decades. And we were just collecting data on what happened to people’s
401(k) accounts, and those accounts fell by a trillion dollars.
Everybody overnight who had a 401(k) or an IRA saw their accounts
drop by 25 percent on average. But many people saw their accounts drop
by half. The 401(k) in October of 2008 had become a 201(k). … I had just
published an op-ed in
The New York Times that said we need to save pensions in the same way that we need to save housing and we need to save the banks.
So I testified in Congress that something drastic had to be done to
make sure that people’s retirement accounts did not fall any further,
and to move forward so they could accumulate enough money in their
retirement accounts.
And I said to Congress, “We now have seen that the 401(k) experiment
was a failed experiment.” This was the event that exposed the flaws in
the 401(k) system. And I was right, but the industry pounced on me. And
in fact, the lobbyists made jokes with me that I had just helped their
business because I could be the one person that personified all the
criticisms of the 401(k). I could be the big target, and so they could
tell their clients, “Oh, you’d better give us more money as lobbyists,
because Congress is going to regulate you once and for all.”
Well, they were right. It took four or five years for Congress to
regulate them, but now we’re seeing that the 401(k) industry has to
reveal some of their fees.
What did they criticize you for?
They criticized me I think for saying that the 401(k) industry is
exposed, and here are the list of reasons why the 401(k) industry was
always a failed system, was always a flawed structure for ordinary
people to save their money.
But help me understand. How is it possible that 2008
happens? People lose half their retirement savings. … Did Congress, did
the president, did nobody stand up and say, “Wait a minute, this is a
problem”? Silence?
… The reason why Congress responded to the mortgage crisis, responded
to failed banks, was because there were stronger voices for homeowners.
There were stronger voices for communities that were facing a
bankruptcy of their auto industry. And there wasn’t a strong voice for
people who were really afraid about their retirement futures.
“The 401(k) in October of 2008 had become a 201(k).”
People [who] were afraid for their retirement futures are dispersed.
They’re older workers who also might be losing their home and also might
be losing their job. So the undercurrent of not having enough money for
retirement, that pending crisis just took a back seat to the more
immediate crisis of rising unemployment or home loss. But it doesn’t
mean it’s not as important, and it doesn’t mean that it won’t strike
people when they’re most vulnerable. …
So there was silence in Congress because I actually think a lot of
congressional representatives, even senators, though they may care, were
one step removed from what was happening in the lives of workers. They
had better things to do, and the lobbyists for the mutual fund industry
were really loud and convincing to say, “Lookit, we’re down; if you
regulate us or scrutinize us, it’s just going to cause more confusion
and more lack of confidence.” …
“We’re not a financial product that needs to be regulated”? …
I really was a minority voice in Congress that said these 401(k)
products are a financial product just like all the financial products.
People use these products for a very particular financial goal, and it
should be put under a consumer protection agency.
But I lost that battle. The lobbyists for the mutual fund industry
were just too strong and too well funded. But these products should be
regulated like a financial product. They were never appropriate for the
vast middle-class consumption that they are now. And the financial
crisis of 2008 just showed that these products need more regulation, and
that they’re very risky, and they can blow up. …
… In 2009 a company called BrightScope was created. Is this a good thing?
BrightScope is a for-profit company, and it saw an opportunity to
help out employers that really wanted to do the right thing and provide
their employees with a choice of products that would be appropriate for
them. …
BrightScope does reveal the quality and the fee structure of a
particular product in a mutual fund, but it can’t help people do the
most important thing they have to do when they look at the Chinese menu
of choices in a 401(k) system, and that’s how to put these pieces
together to actually provide a secure retirement income for the rest of
their lives. …
As I understand, it only actually looks at 50,000 programs, leaving 600,000 other 401(k) programs without any –
BrightScope is in the beginning stages. It’s looking at all the
products in the 401(k) industry. It hopes to look at all of the
products. It only looks at a fraction of the products, the most popular
products. And as it looks at one, the products change, so they have a
very big job. …
In 2010, I guess sometime this year, your friend
Phyllis Borzi, [the assistant secretary for employee benefits security
in the Employee Benefits Security Administration of the Department of
Labor], finally did something about getting some transparency. What did
she do, and how did she get there?
One of the bright lights in this 30-year history of 401(k) growth and
the lack of regulation has been the Obama administration’s assistant
secretary for pensions, Phyllis Borzi. She came to office … and said her
top priority was to regulate this fairly unregulated industry, that at
least workers would be able to find out what the price of their product
is. They might not be able to find out the quality of their product, but
at least they’ll be able to find out the price.
So starting in 2010, she wrote regulations. She wrote rules about
what the mutual fund industry would have to reveal to workers about how
much their 401(k) fees cost.
And it’s taken two years for those regulations to come into effect.
So in the last months of 2012, employers are going to have to reveal to
their employees what the price of their product is.
It goes in the right direction, this regulation, but it doesn’t go
all the way, because even though people will be able to know in some
uniform way what their fees are, they won’t be able to know the quality
of the product, and they won’t actually have all the fees revealed. They
won’t know all the things that they do that actually cause those fees
to go up, like buy and sell the product too frequently.
… What was the opposition that she faced?
So Phyllis Borzi, her brilliance was to actually not go to Congress
and ask Congress to change the law to make fees revealed. … What she did
was just pass a regulatory rule. …
So she just did it as a matter of course?
Yeah, so Phyllis Borzi just did it as a matter of course in
regulating these funds and figured out a way not to have to go to
Congress. It took a long time, because even trying to implement a new
rule can be slowed down by the lobbyists.
When this rule was enacted, what impact did it have?
It activated the lobbyists to actually try to slow down the
implementation. So when this rule was enacted, there was a change in how
it would be rolled out, and we haven’t seen what the reaction to the
rule will be yet. We’re talking now in the fall of 2012, and not all
workers have seen the documents that revealed the fees.
I think that it will have some effect, but not the kind of effect
that we need to make these 401(k) plans work better for workers. It’s a
step in the right direction to regulate these products as a financial
product, but it doesn’t go as far as the rules that regulate mortgages
or other financial products.
You also have a student, Robert Hiltonsmith. Talk to me about his work and what significance it’s had.
So
Robert Hiltonsmith authored a study on 401(k) fees.
It’s one of those studies that actually expose[s] a product. … This
study really unpacked the kinds of hidden fees and direct fees that
workers pay.
And what it did finally is to show that these fees add up, that if
you pay these fees and these retail products, you’re going to erode your
retirement savings by 20 to 30 percent, even if the stock market
behaved itself, and even if you saved according to the advice to save 5
to 10 percent of your income without doing anything untoward at all. …
So what this report showed is that the 401(k) fees are corrosive over
time. They look small at the very beginning. They’re hidden at the very
beginning, but the product itself is too expensive for retirement
savings. …
What was the reaction when that report came out?
The high-fee report came out in the summer, and the reaction has been
explosive. The consumer activists, the consumer reports finally started
paying attention to these 401(k) products as just another financial
product. Oh, my gosh! We should be paying attention to these as we paid
attention to high credit card fees or to subprime mortgages.
And so there’s a lot of popular exposure in publications that go to
middle-class workers to say: “Be aware. These products may not be
delivering the kinds of service that they promise.” …
The reaction I hope would be not better products from the industry
but a wholesale restructuring of the way Americans save for their
retirement accounts.
When we talked to mutual funds, their managers tell us
that the fees are justified. They work really hard to figure out how to
invest people’s money.
… The mutual fund industry [is] filled with lots of earnest people
who do want to help people save for their retirement. But they’re
actually selling a high-speed racecar to people who just want a secure
car to get them to retirement.
So even though they’re trying to sell a racecar, a high-end luxury
car at the lowest fee possible, and they’d be able to justify that a
high fee is necessary for this high-performance product, it’s not the
product that most people need. …
Why is this a product that’s not working? What exactly is wrong with the product?
The product was always really built for a different kind of consumer.
A mutual fund is really there for people who have already saved enough
for their retirement and in an institutional long-term investment
product, who have already paid off their house and want to take their
money and top off their [security] base for retirement.
It’s not an appropriate product for people who need to save a part of
their paycheck every paycheck in order to have money for a long-term
need for the rest of their lives.
Is an IRA a better product?
An individual retirement account is very similar to a 401(k) except
it’s worse. The IRA is one of the worst places to save your money. At
least the 401(k) has some scrutiny by an employer and has a more
sophisticated buyer than an IRA buyer has. …
Both places are appropriate for people who want to top off their
retirement savings or want to play with their savings to maybe earn a
little bit of money. But it’s an inappropriate vehicle to provide a base
of support for long-term savings. The IRA and the 401(k) do not have
low-cost, long-term savings vehicles in them.
Anybody listening to you would say, “I might as well just put my money under my mattress.” Is that a good idea?
Many people don’t have any choices but to go to a 401(k) or to an
IRA. Hiding your money in a piggy bank or under your mattress is not a
good idea. You’re going to lose money just because of inflation.
So if you are going to save your money in an individual retirement
account and a 401(k), the best thing to do is to demand from your
investment adviser that you want a passive index account. These are
[the] kind of accounts that Vanguard [has], … that has a loyalty to make
money but doesn’t have any shareholders.
But the problem is, the person who wants to save their money in the
lowest fee possible [is] going to be met with resistance from their guy.
Their adviser doesn’t make any money if you put your money into a
passive account. So anybody listening to me will just have to be strong,
just like you’re strong when you buy a used car. You have to go armed
with this sentence — “I want a passive index account” — and just say
that sentence over and over and over again. Your guy, your
broker-dealer, your adviser is not going to like what you demand. But at
the end of the day, you have to buy only that product that’s
appropriate for you. That’s not going to be easy. …
Why is a passive index fund better than a 401(k)?
A passive index fund is a more appropriate fund because what an index
fund is, [it] just takes a little piece of the companies that are in an
index. So there’s a Standard & Poor index of 500 companies, the
S&P 500. But there are even indexes that are larger. The Russell
3,000 — that’s 3,000 companies.
And basically a computer chooses a portion of those 500 or 3,000
companies and puts it into your account. And a computer doing that
automatically doesn’t have a mortgage to pay or a vacation home to pay
or doesn’t require a salary. It doesn’t have a sales force attached to
it, and it doesn’t have a big advertising budget.
All it does is take a little piece of the market and puts it into
your account at a very low fee. And for over 30 years that we’ve been
able to compare active managers to a passive manager, the passive
manager does better over a period of time. ….
Let’s talk about your op-ed. … Tell me about writing this piece, how you came up with the idea and what impact it had.
I wrote a piece that was called
“Our Ridiculous Approach to Retirement,”
and that piece was just written out of frustration about the 30-year
history of our retirement policy in this country, and also real empathy
with people who were telling me that they were very afraid of
retirement.
These were low-income people, these were middle-class people, and
these were even rich people who said, “I don’t think I have enough.” And
they were talking about something that was very basic to their needs:
“I just want to know that I have enough money to live until I die.”
“It’s not the fault
of people that they don’t have enough savings in their individual
retirement account or their 401(k)s. It’s the fault of the system, and
the whole system needs to be reformed.”
And the form of their worry came about in different ways: “I don’t
have enough money now. How could I possibly have enough money when I
retire?”; or, … “I know my employer is going to fire me because I’m too
old, but I also know that I have to work longer.” Or the anxiety about
retirement comes out among healthy, rich people that says, “Hey, I think
I’m going to live until 100, and I don’t have enough money for that.”
… It’s not the fault of people that they don’t have enough savings in
their individual retirement account or their 401(k)s. It’s the fault of
the system, and the whole system needs to be reformed. People who are
worried should not be victims and blame themselves. … Human beings are
not the problem in this system. It’s the system that’s not appropriately
structured for the human beings that are in it.
The banks will say, “People are just not saving enough.”
The industry, the banks, the mutual fund industry pivot the concern
of workers by saying: “Well, you victims have your own selves to blame
for not knowing what a stock and a bond was early on in your life, for
not realizing when you were a young worker forming a family that you
also had to save for your retirement along with your house, along with
your unemployment, along with your child’s education.” …
So the banks are wrong when they tell workers, “You just haven’t
saved enough.” Before the mutual fund industry took off and the 401(k)
industry was able to protect itself from regulation, people did save
enough for their retirement.
When people were in traditional pension plans, they saved 5 to 10
percent in their retirement accounts, along with saving for their house
and saving for their child’s education, because the system was well
structured for them to save for their retirement account.
It’s a false accusation that people didn’t save enough, or can’t save
enough, because they want to live like grasshoppers and just consume
all of their money now. It’s just not true. People will save
appropriately if they’re in the proper vehicle. …
What we need in this country is not a voluntary, do-it-yourself
saving system. It’s completely inappropriate for the way we live. We
need a structure that expands upon our Social Security structure, that
puts on top of Social Security kind of a Social Security plus, where we
can save and have a guaranteed retirement account. …
Who’s listening to you?
I hope that people who are now struggling with keeping their jobs,
over the age of 45, and are also struggling to save for their
retirement, that they know that it’s not their fault that they don’t
have enough money. …
When you talk about these workers, … there was a shocking statistic there about how much you needed to have when you retired.
… You need eight to 10 to 20 times the amount of your annual income
when you retire in your retirement account to live comfortably.
In my article, I gave a top number of about $1 million to $2 million.
But for a middle-class worker, having a million dollars when you retire
will keep you comfortable for the end of your life. Having $2 million
will keep you very comfortable with no risk at all of falling below your
retirement living and have some inheritance left over.
How is the average middle-class worker going to amass $1 million by the time they retire?
Well, the average middle-class worker who had a traditional plan
actually amassed close to the equivalent of a million dollars, but it
never was expressed as a million dollars. It was expressed as a defined
benefit for the rest of your life. Most of us actually are amassing a
quarter of a million dollars, half a million dollars in our Social
Security accounts.
Our Medicare account, our Social Security accounts, are worth almost a
million dollars. We could amass a high-value asset when we’re in these
guaranteed insurance products fairly easily. All it is is a contribution
every paycheck.
But the 401(k) requirement is to amass it all in liquid accounts, and
that’s nearly impossible. So what we need to do is to amass a million
dollars’ worth of a promise of payment for the rest of your life into
accounts that are more like insurance products.
So you believe in annuities?
Annuities are products that provide a stream of income for the rest
of your life. They’re provided by the government, and they’re also
provided by employers in a traditional plan, and they’re also provided
commercially in the private market.
They’re provided by the government through the Social Security
system. When we put 6 percent of our pay, another 6 percent and some
change [that] our employer puts on our behalf into the Social Security
system, we are buying the right to an annuity for the rest of our life.
We don’t call it an annuity; we call it a Social Security benefit.
When we work for an employer that has a traditional pension plan,
we’re putting 5 percent of our pay, 7 percent, 10 percent of our money
toward a promise to pay you for the rest of your life.
When we try to go buy an annuity from an insurance market, we’re
trying to take a hunk of money, $50,000 or even a million dollars, and
go out into the market and say: “Hey, insurance company, here’s a lump
sum. In return, give me the promise that you’ll pay me a stream of
income for the rest of [my] life.”
The problem with going to the commercial annuity market with our
401(k) or IRA assets is that the insurance company doesn’t provide
annuity to everybody else. They only provide annuities to people who
want it, and they’re suspicious.
If you take your million dollars and want a stream of income for the
rest of your life, they know that you know something they don’t. They
know that you think that you’re going to live a very, very long time.
People that have terminal cancer don’t go to an annuity company and say,
“I want money for the rest of my life.” They know they’re going to die
sooner than the average person.
So the private annuity company has to charge you for that risk of
living too long, and therefore they’re giving you a bad deal because
it’s a private annuity market. It’s a lot like sick people having to go
out and having to buy private health insurance. The cost is way too
high.
So I do not recommend that people take their 401(k) money or their
IRA money and buy a commercial annuity. But what I’m saying is that
everybody should have access to a low-priced, fair annuity product. But
you can’t do that in the private market.
When you think about 10,000 baby boomers that are retiring every day, what scares you the most?
I’m really worried about that, because 10,000 baby boomers, 8,000
baby boomers are going to retire per day for the next 15, 17 years.
We’ve done projections about how much money each of these people [is]
going to have for the next 15 years, and we’re dismayed — actually much
more. [We're] really panicked that many of these people will not have
enough money to stay out of poverty.
Half of middle-class workers will be poor or near poor the day they
hit 65, … because they don’t have enough money saved in their retirement
accounts and because their house values have fallen so severely.
Those folks are going to try to work longer, and they’re meeting a
labor market that is much more hostile to older workers than it has been
in the past. They’re also meeting a labor market with very high
unemployment. …
So we are finding that cities and states are now becoming aware that they have an older, vulnerable population on their hands. …
Are you optimistic?
I am, because of all the attention paid to this problem by state
legislatures and by governors and by state treasurers. In fact, just
last month the California Legislature and the governor decided they
can’t wait for the federal government to do something about it, and they
just passed legislation that will make it easier for all workers to
save in a guaranteed retirement account.
Now, those accounts will be a competitor for Wall Street. But these
are systems that will make 401(k)’s and IRAs just much more
high-performing vehicles, so everybody should benefit. … So if the
federal government won’t do something about their citizens’ retirement
crisis, there are other local governments and state governments that
will. …
