We are on a crash course that is leaving young adults poorer and financially insecure. Today’s young workers face a retirement crisis and will not retire as comfortably as their parents. They will find it harder to save money and more difficult to accumulate wealth.
Current retirees are enjoying a retirement built on an engine of:
1. Employer-provided defined pension plans
2. Long-term 401(k) growth from increasing stock values and high interest rates
3. Appreciating real estate
4. Rising wages
5. Affordable college education
6. Social Security.
The situation is nearly the opposite for tomorrow’s retirees because all of the cylinders are not firing.
Young people today face:
1. The decline of employer-provided pension plans
2. Flat 401(k) growth from flat stock values and extended low interest rates
3. Slow-growing long-term real estate markets
4. Flat wage growth
5. Expensive, debt-laden college education
6. Social inSecurity.
Young workers being buffeted by strong headwinds.
Fewer defined benefit plans
The number of workers who have a defined benefit plans has decreased from 38% in 1980 to 14% today. To make up for this loss, workers will need to save more in their 401(k)s. But even saving more brings its own difficulties: Low interest rates mean savings will earn less than they did in the last generation.
Low interest rates
Low interest rates are a problem. In 1980, $1,000 invested in a 30-year U.S. bond, held to maturity, paid $3,920 in risk-free interest. At the current 3.12% rate, the bonds now have a lifetime payout of $873. The same result now requires investing four and a half times the money. This increase in savings is unrealistic.
Flat housing prices
Housing is another form of retirement savings, with some retirees buying smaller houses or taking reverse mortgages and using the proceeds for retirement. Today’s retirees who bought their houses in the 1980s have seen their house prices triple in the last 30 years; prices have had a fivefold increase from 1975, or 13% per year.
Housing prices have been basically flat over the last 10 years. Without significant inflation, it’s unlikely young savers will see 13% gains on their homes. They will likely see growth closer to the general inflation rate.
Lower wages, lower savings
Young people now work in an economy where the percentage of national income (Gross Domestic Product) going to wages is at a 50-year low. Workers are being paid a shrinking share of their production.
From the 1950s to the 1970s, for every $100 of GDP produced per person, workers earned around $50. Now, they are earning 42%. The average U.S. GDP per worker is $68,374, according to the World Bank.
For producing $68,374 in annual production, workers are paid on average $28,717 (42%), down from $34,950 (50%). This is a decrease of 20%. It is $5,429 per year in additional income not being paid to workers, or about $2.63 per hour per worker. Saving an extra $5,429 at 6% annually over a 40-year career would provide about $840,000 in additional retirement income.
College debt slows savings
State-supported college education allowed many of today’s retirees to earn their college tuition from a summer job. This is nearly impossible now. Decreasing state support of higher education means higher tuition for today’s students.
Higher costs mean more debt. The average college student now has $26,600 in debt, according to the Project on Student Debt.
At 6% interest, $26,600 requires a 10-year payback of $285 per month, which is $285 of “savings” young people can’t put toward their retirement savings.
Investing the same amount in an individual retirement accounts (IRA) at a 6% rate, the student saver would accumulate over $49,000 in 10 years. This amount compounded to age 65 grows to over $461,000 in retirement savings.
The current political mood leans toward decreasing Social Security benefits. There is talk of a higher retirement age or a recalculation of inflation adjustments. Neither side of the political spectrum is talking about increasing premiums and expanding the insurance benefits.
A rocky road
Added together, these circumstances pave a rocky road for today’s young worker. The hurdles of flat housing prices, low interest rates, declining wage participation, student loan debt, and declining Social Security benefits ensure today’s youth will not enjoy the type of retirement their parents have.
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