60% Of Workers Dipped Into Retirement Funds During 2020

Workers’ retirement accounts have been hit by the COVID-19 recession.

Kiplinger Personal Finance and Personal Capital’s November survey revealed nearly 60% of older American workers withdrew or borrowed money from an IRA or 401(k) during the pandemic, and nearly two-thirds used those retirement savings to cover basic living expenses.

We saw hints that withdrawal rates would be high in 2020. At the beginning of the pandemic 30% of Americans said they withdrew money from their retirement savings accounts in the previous two months for groceries and housing bills.

And a Financialbuzz survey concluded more than a quarter of Americans have slowed or stopped contributing to their retirement savings due to COVID-19. And 21% of Americans haven’t started saving for retirement yet — including 45% of Gen Z and 20% of millennials. And starting early is about the only hope anyone has of having enough retirement assets especially when interest rates will stay low for longer.

I do not criticize people for dipping into their retirement funds for emergencies. We are forcing people to make a devil’s choice between their present and future selves. The U.S. has weak safety nets so people have to weaken their old age security, and give up tax free accumulations, just to get by.

And it is not just employees withdrawing savings. Employers are cutting back too because we have a voluntary retirement system. According to the Plan Sponsor Council of America, about 8% of employers slashed their 401(k) contributions in 2020.

Workers are also hit by low returns

Saving for retirement and keeping the money in retirement accounts has always been spotty and subject to luck and circumstances. And saving long term is even more tricky as financial returns on safe assets look to be quite low for years. Even if everything is going your way and you and your employer are socking money away for your retirement, contributions to retirement funds would have to double to counteract teh effect of interest rates falling.

Here is the gripping math. MIT Professor James Poterba argues  workers should save 40% (!) of income to get a lifetime income stream to cover half of our pre-retirement income if we can get 6% returns and save for at least 20 years. If workers do what workers don’t and starting socking away money for retirement in their 20s the savings rate only has to be about 15-22% of pay.

But that math is mostly fantasy. Retirement saving rates before COVID-19 were about 13% (employer and employees) for only about half of the workforce.

Financial fragility has risen because of COVID-19

It makes sense people are dipping into their retirement accounts. This week at the Annual Economics Association meetings (virtual this year – bad that there is a pandemic, good I didn’t have to go to Chicago in January— we economists like good hotel deals!) economists Robert L. Clark, Annamaria Lusardi, and Olivia S. Mitchell found financial fragility has increased because of COVID-19 especially among younger people and women. The financial fragility now will have life-long effects. The young are supposed to save to take advantage of compounding and women live longer so they need more financial assets.

Clark, Lusardi, and Mitchell’s survey is validated by the Federal Reserve’s survey before the COVID-19 recession —  37 percent of adults said they could not cover a hypothetical expense of $400 with cash, savings, or a credit card, instead, they might turn to Payday lenders who can charge up to 400% interest for a two week loan, according to the Consumer Financial Protection Bureau. They might also turn to the retirement account and certainly they will not save. A  Ceridian commissioned a Harris poll survey  mid October 19 confirmed these studies — one-third of Americans do not have enough saved to cover monthly groceries.

There is nothing new about workers nearing retirement being financially fragile, what is new, as the New School’s Retirement Equity Lab found, is that financial fragility has increased dramatically since the early 1990s.

Let’s be clear. Lack of impulse control and lack of financial literacy is not the CAUSE of inadequate savings. Scholars have found that people who are more financially literate are better off financially; but what comes first — the finances or the literacy?

Teaching compound interest and the effect of inflation may motivate a few people to save, but more likely the knowledge reinforces and rewards people who have the means and platforms – like an employer retirement plan – to save. Downward financial mobility in old age is not a natural consequence of suboptimal human behavior. Retirement income support programs have failed. The Biden – Harris Administration has plans to shore up retirement savings. And the Biden’s nominee for a Cabinet Post, Peter Buttigieg had, when he was running for presenting a set of comprehensive plans.

Americans not having enough assets for a dignified retirement is a result of failed policy choices that we can overcome by expanding Social Security and adopting a public option 401(k) to halt the growth in elder poverty, downward mobility, and to reduce retirement inequality.