Apparent Hillary Clinton economic advisor Teresa Ghilarducci, who recently released a book on her proposed retirement scheme alongside private equity manager Hamilton James, has long advocated for a government mandated makeover of current 401(k) and other retirement accounts. Her Guaranteed Retirement Account (GRA) would be just that, and below I begin a case against them and the harm they would cause the groups they seek to help.
While I imagine I will be explaining and expanding on the below, this plan is a progressive fantasy that will have a far-reaching impact on the employability of lower-income workers, wages, and the ability for the average retirement saver to escape from government control over your life, while may now be entirely from cradle to grave.
There are plenty of papers and information online, and I am drawing from a few of Ghilarducci’s past papers published at her employer’s website.
The basics of the plan include:
Mandate tax of 3-5% of your wages which are placed into an insured account, invested in one pool for all participants.
No permitted access to your funds or withdrawals. Instead, participants will be paid their money in the form of an annuity at retirement.
A government and insurance-backed guaranteed 3% return, though the actual returns of the investments may not achieve this after administration, insurance, management, and other expenses. For those years where the 3% is not achieved, future returns will be reduced.
The arguments and my rebuttals:
Ghilarducci claims that “401(k)’s also earn subpar returns.” However, 401(k)’s do not earn returns, investors earn returns based on how they invest. An investor may earn subpar returns if they do not have an appropriate understanding and advice. The government has never advanced personal financial planning services, and the new DOL “Fiduciary Rule” is in the process of making these services much more difficult for the average American to access. What we need is more advice, and not simply another product.
For all of the negatives, Ghilarducci attributes to the 401(k) system, and I admit that there are some, though not hers, she never names a single virtue of the system.
The modern 401(k) system has given unprecedented access for the average person to the capital markets. With average returns far outpacing inflation, Americans have been able to build substantial wealth that they can turn into retirement income streams.
The 401(k) system is a personal system. Individuals can customize their savings rate, tax structure of accounts, investment risk appetite to meet their personal goals, etc. Ghilarducci’s one-size-fits-all approach is appropriate for very few.
This attribute should not be minimized. As a personal financial advisor, I work with people who have very different needs for retirement savings. How does this forced theft of additional wages help:
Those who have a short time in the working world?
Need to access their savings to invest in a small business?
Are diagnosed with a terminal condition?
Win the lottery? Expect an inheritance?
Need that money for food and other necessities?
Do not need the income at retirement, and want to pass their assets to heirs or charity?
Require personalized advice on personal finance basics, but can not afford to pay an hourly financial advisor, and no longer receive free advice from their 401(k) sponsor?
Some plans allow for independent financial advisors to work with – and be compensated by – plan assets. Not enough plans allow for this today, and it is one of the changes that would bring far more security to American retirements than another mandated government-run system.
The accumulation in these plans has created the profession of personal, holistic financial advising, where many can access a competent, qualified financial advisor to review their personal tax, retirement, protection, and investment plans, as opposed to dealing only with sales and government personnel. Advice is the solution to the retirement problem that no one is discussing.
The 401(k) has been the one place that the average American has been able to accumulate funds, with professional oversight, in a way that has not been managed directly by the government. It is – for many – the one place they control the fruits of their labor since the government has through monetary policy stolen any value of savings and other bank and safer insurance assets.
Ghilarducci ignores all of the downsides of the current government structure that this plan will be built upon, and claims there will be no cost.
As an advisor who regularly speaks to military members, the management aspect of the Thrift Savings Plan (TSP) is one of the least consumer friendly, and expanding this on a national basis to consumers who currently experience a high degree of access to their 401(k) accounts will be a logistics disaster. There will be costs, waste, and fraud on the scale of the waste that was seen in the building of the ACA website.
The other system that Ghilarducci references that will provide support is the Social Security system. Like many government offices, many find their visit to the SS office to be more along the lines of spending their day waiting in line to receive conflict and often wrong advice, as opposed to the 401(k) system where advisors must serve the needs of their customers.
There are far too many stories available online of mistakes within these systems leading to massive fraud, loss, and denial of benefits for years in some cases, all of which will impose cost and barriers to achieving the return goals of the plan, and would deny participants access to needed funds. Today, many who face problems with receiving their SS on time rely on their 401(k) savings.
There are some basic economic problems with Ghilarducci’s data and arguments that any competent economist would have to be addressed, rather than ignored.
Ghilarducci claims that one of the issues with our current system is that the real minimum wage has not kept pace. Most economists – and politicians who are honest about the subject – admit that raising the minimum wage has destructive effects on those that Ghilarducci claims to represent.
Ghilarducci makes another common fallacy in regards to contributions, where she at times states that employers could contribute, as though this would not have an impact on employee wages. Employers are concerned about total employee cost, and a 5% hike in cost would reduce employee pay by an equivalent 5%.
Ghilarducci claims that median household income has been stagnant. Economist Thomas Sowell has frequently debunked this economic myth noting in a 2007 article that IRS data indicated that, “People in the bottom fifth of income-tax filers in 1996 had their incomes increase by 91 percent by 2005. The top one percent — "the rich" who are supposed to be monopolizing the money, according to the left — saw their incomes decline by a whopping 26 percent. Meanwhile, the average taxpayers' real income increased by 24 percent between 1996 and 2005.”
Student loans, household debt, and other costs are to blame by Ghilarducci. The solution? Take another 5% from them and put it into something that will not grow more than the interest their debt. No serious financial advisor would make this recommendation.
It is worth nothing that all of Ghilarducci’s excuses on why it is so much harder today to save are government caused. Not one reason is given by consumer choices due to the social safety net structures that already exist, or the lack of government solutions in providing education, advice, and promoting the need for many of these individuals to have a personal financial plan.
A 3% taxation rate is not enough, it won’t ever be enough, and it will have to be increased as retirees realize they have not kept up. In fact, many of Ghilarducci’s past papers have called for a 5% tax, a material difference and swing from her current paper which seems to suggest the strategy is to introduce the plan at a lower than necessary rate. Most financial advisors recommend saving 15% for retirement, and given that amount is projected to grow at 3-7% above inflation. Since this plan limits your accumulation potential – and very likely wipes it out to where one should only expect a 3% gain – the plan itself is not designed to keep up with normal inflation, and may in fact lose.
What happens when the payments are not enough? Will we have another scheme where we take from the young, to give to the old? At the heart of this plan will be another transfer from the young to the old who will not have saved enough, counting on their GRA rather than seeking personal financial advice.
Since the plan also covers beneficiaries, the funding problems could be compounded.
Young savers will have to overcompensate by saving more than they otherwise would have to get the returns they need to outpace inflation. I expect financial advisors will continue to recommend a 15% target, even with the 3-5% that is no longer available to save.
If we have periods of above average inflation, then this plan is simply theft from younger savers who will not keep up. The Ghilarducci plan seems to believe 2% inflation is realistic, whereas actual government figures are closer to 4% and there are many reasons to expect this to be higher going forward.
A 3% rate of return will not be enough.
Ghilarducci uses selective return data, and a make-believe 6-7% expected annual return for her account, versus what she claims is 3-4% for traditional 401(k)’s and IRAs. As an experienced investment advisor, I find these numbers to be highly questionable.
If there is one decline of the magnitude of 2008 or 1929, savers may never recover beyond a 3% average rate of return. Conservative portfolios for young investors will drag down returns, and could lead to decades of returns that do not keep up with inflation.
Ghilarducci claims that the investment allocation is “professionally managed” which may be true but it is impossible to manage personally as advisors do in the current system. Young investors need investments allocated toward high growth assets like small-cap and international small-cap stocks; older investors require a mix of safer assets, and have massive exposure to the dollar that requires personalized diversification to mitigate.
Ghilarducci makes the claim that this account will earn closer to the endowment and institutional funds. However, due to the nature of the inflows and outflows – many endowments don’t deal with the problems of outflows – these plans will not be able to invest like pension funds, even if we are to take Ghilarducci’s claims that they outpace 401(k) investors as fact. I would estimate a GSA will operate closer to a hedge mutual funds, regularly trailing bonds and cash.
Ghilarducci claims that $290,000 is an “estimated balance necessary to maintain standard of living in retirement.” Using an accepted withdrawal rate of 5%, this equates to an annual withdrawal of $14,500, before taxes. Most require much more, which means a retirement on Social Security and a GRA will not be near enough for most.
The investments will be political, unnecessary, and inappropriate for each person in the system.
There simply is no need for the complex and conflicted investments that Ghilarducci is selling as necessary for all Americans. Ghilarducci and her private equity backers are pushing for these investments for the average American at the same time many institutions are dumping their private investments due to poor returns that have not delivered as promised. Most personal financial advisors would never recommend the types of investments that are bound to be placed into these accounts by conflicted government bureaucrats.
There will be graft, waste from management firms on rent seeking and lobbing, and as with all other government run investment plans will no doubt have the portfolio mix tilt toward politically selected firms. The Podesta emails have shown the extent of this sort of graft, with minority money managers demanding their fair share based apparently on the race of the firm owner; not the needs of the public or retiree.
The investment by government creates a massive conflict of interest, which could lead to bailouts, favoritism in government spending and tax cases, as well as further manipulation of our financial system beyond what we have seen since 2008.
A significant portion of the portfolio will no doubt be used to fund government debt through bond purchases. Some intellectuals today believe that government bonds are the only investment that should be in individual retirement portfolios, and their voices no doubt will provide excuses to fund our government through this plan. This will harm the retirements of those the furthest away from drawing on their account.
The system has long tried to find ways to keep money from “leaking” out of 401(k) accounts, which have strict government regulations, though the mandating of annuities. This plan will have individuals paying insurance premiums that they simply do not need to early in life, which is another cost these money managers need to overcome.
Ghilarducci uses political and make-believe terms like “tax spending” which is their idea that if you are given a tax benefit, and allowed to keep the fruits of your labor, that government has “spent” that on you.
Ghilarducci claims the plan offers “no” new taxes. The 5% contribution will be a new tax. She claims this is offset by a credit, but given the fact that we know credits and deductions are looked at negatively, there is no reason to believe this credit will be the same as it is today. Retirement savings deductions for 401(k), 403(b), and other accounts have been one of the few areas that we have seen government not tamper and change the rules of the game.
Investors will lose significant personal tax-planning opportunities such as Roth IRA conversions.
Ghilarducci makes the claim that “$75 – what it would cost the median-income family annually, after tax credits, for [a] secure retirement.” I don’t know if any more needs to be said about this statement, but in order to try to justify it, I assume Ghilarducci believes that the rich simply will accept being forced to pay the difference to the rest of the country. They won’t. In a global economy, they can and will leave, which will force costs back down on the middle class. Companies will cover the increased tax costs of their top employees, while paying for those costs by job cuts on their lower-skilled workers.
State-run plans may also be proposed
In the past, Ghilarducci has promoted national and state-run plans work together.
This would have an exponentially more detrimental impact, as every percent of salary taken would be invested in a plan that has even more political conflicts, and unlike the federal government plan, states will not be able to inflate their way out of trouble if they can not make payments.
The Simple and Immediate Solution
I’ve proposed a real solution to the retirement crisis over the last five years, which is one of advice, not mandating what products people can purchase or creating new government mandates:
Remove the monopoly privileges of 401(k) providers by de-linking 401(k)’s and retirement saving from employment. Everyone should be allowed to save to any account, with full pre-tax or Roth benefits not tied to employment. This one step would have immediate benefits for employers, employees, and past savers alike as firms would compete on cost and benefits for all 401(k) accounts at the employee level, rather than simply dealing with an employer. Employers would lose costs and growing litigation risks that accompany these plans today.
Mandate that plan participants be allowed to compensate independent financial advisors for independent financial advice related to their plan investments, financial planning, and retirement planning needs.
The retirement crisis would be on its way to being solved tomorrow if investors were allowed the freedom to save where they choose – not where a government body mandates – and to pay for the advice they need, rather than the conflicted advice they are currently given by plan sponsors.
The GRA does not solve the retirement advice needs of most Americans, and provides another false sense of security that the government has provided a solution to the retirement problem.