Speaking of Corporate Retirement Plans . . .

Dec 2001 //

. . .  there are two main types—defined benefit plans and defined contribution plans.  Defined benefit plans are the more traditional type wherein retiring employees are promised a given (monthly) benefit by their employers.  The responsibility to fund these pension plans and to ensure that they are capable of fulfilling their obligations rests with the employer.  Defined contribution plans (such as the now common 401k) place the responsibility of funding and investing squarely on the shoulders of the employee.  As long as employees set aside an appropriate amount of their earnings and invest wisely, defined contribution plans have a number of advantages.  They allow more freedom of choice (an employee with a terminal illness shouldn’t be forced to save for retirement, for example), and they allow employees who don’t stay at one employer long enough to qualify for (defined benefit) pensions to be able to take their retirement savings with them as they move from job to job.  However, as William Bernstein recently observed in Barron’s, defined contribution plans are not working as envisioned by their supporters.  Of primary importance, people are just not saving enough.  Among employees who have funded a 401k, the average account contains barely over $40,000.  Worse, many employees choose not to save for retirement at all.  Further, employees as a group have proven to be poor investors—often being too conservative when they should be more aggressive and too aggressive when they should be more conservative.  For many of today’s employees there is essentially no way that they will accumulate enough savings to have a meaningful impact on their retirement budgets.  I’m not sure what will happen when millions of people with inadequate retirement savings start to retire, but I am fairly sure that you and I are not going to like it.  If Social Security is a big disappointment (and I think it is), then the defined contribution plan concept may be an even bigger disappointment.