I like the metaphor in Tom Friedman’s latest column, arguing that we now live in a 401(k) world. But I wish he’d spelled it out in greater detail, because the problem with living in a 401(k) world is that Planet 401(k) is a pretty sucky planet. Here’s the essential shape of 401(k) as a backbone of the retirement system:
— Poor people get absolutely nothing.
— Wealthy people who would have had large savings anyway get a nice tax cut that offers no meaningful incentive effect.
— For people in the middle, the quantity of subsidy you receive is linked to the marginal tax rate you pay—in other words, it’s inverse to need.
— A small minority of middle-class people manage to file the paperwork to save an adequate amount and then select a prudent low-fee, broadly diversified fund as their savings vehicle.
— Most middle-class savers end up either undersaving, overtrading, investing in excessively high-fee vehicles or some combination of the three.
— A small number of highly compensated folks now have lucrative careers offering bad investment products to a middle-class mass market based on their ability to swindle people.
Congratulations, America! Across a very wide range of products there’s a strong case for a large dose of consumer sovereignty. People should buy the shoes and sandwiches and shirts they want. They should watch the shows they want to watch. Get the furniture and appliances they like, and pick their own hairstylists and their own favorite grocery stores. Tastes differ, so even though competition and choice will rarely lead to a perfect outcome it’s going to lead to a much better outcome than trying to have a Shoe Commission tell everyone how many shoes they need and what they should cost and look like.
Middle class retirement savings isn’t like that. We know roughly how much people need to put away in order to retire with a standard of living they’ll be comfortable with. And we definitely know what kind of investment vehicles are most appropriate for middle class savers. And we have abundant evidence that, left to their own devices, a very large share of middle class savers will make the wrong choices. What’s more, because of the nature of the right choices it’s obvious that the dominant business strategy for vendors of middle class investment products is to dedicate your time and energy to developing and marketing inferior products, since the essence of superior products in this field is that they’re less remunerative.
In other words: A disaster. What’s needed is a much more forceful, much more statist approach to forced savings, whether that’s quasi-savings in the form of higher taxes and more Social Security benefits or something like a Singapore-style system where “private” savings are pooled into a state-run investment fund.
Now since we are in fact living in a 401(k) world, here’s some advice. You’ve got to save a lot of money for retirement. More than you think. More than you want to. And you need to put that money in a broadly diversified, low-fee fund. And you have to keep it there. Don’t panic when the market plunged and sell. In fact, unless you’re planning on retiring in the next decade, don’t even check how it’s doing. Just buy and hold and shift into something less volatile when you’re near retirement. Vanguard has these good Target 20XX funds that automatically shift you into less volatile products as you get closer to your target retirement date, allowing you to do even more ignoring of the state of your investments. Which is good. The only way for anyone to make any money managing your savings is to try and trick you into making trades you shouldn’t make, or buying products you shouldn’t buy.