Lessons From Down Under: The Problem With Getting Half of the Retirement Equation Right

At this week’s Leadership Symposium at the Association of Superannuation Funds of Australia (ASFA) Conference in Melbourne I learned that things really are upside down in this part of the world.landdownunder

Susan Thorp of the University of Sydney was explaining how successfully Australia’s superannuation system had solved the retirement savings dilemma for Australians. And indeed, the statistics are impressive: According to ASFA, as of the end of June 2019, Australian workers had amassed nearly $3 trillion in the superannuation system.[1] A substantial number of them are beginning to enter retirement with significant balances.

About Australia’s Superannuation System

For those unfamiliar, since 2014, Australia’s superannuation system has required that Australian employers contribute 9.5 percent of workers’ pay into a defined contribution system similar to the United States’ 401(k) system. Workers must keep their money in the system until they retire or are disabled. At that point, individuals generally have tax-free access to their nest egg.

However, as Professor Thorp explained, the superannuation system has really solved only half of the retirement equation: While retirement savings in Australia is strong, “we absolutely haven’t solved the retirement spending dilemma,” she noted. She cited the following research on superannuation drawdown behavior: The majority of retirement withdrawals in the superannuation system are close to the minimum, and most retirees see their superannuation balance actually increase slightly in most years. If this continues, many Australians will die with substantial amounts of their savings unspent — and this is regardless of the size of the superannuation fund balance.[2]

That may sound like a nice problem to have — so much money in retirement that you cannot spend it all. But that’s really not what’s happening here. As EBRI’s research has noted about U.S. retirees in the current environment[3], Australian retirees seem to be hoarding their nest egg not because they want to but out of fear of longevity risk. Essentially, they are self-insuring so that they won’t run out of money as they age. That is suboptimal on many levels.

First, as Moshe Milevsky of York University pointed out in his presentation at the same symposium, the probability that even a healthy person will live beyond age 95 is extremely low, and budgeting for low-probability events isn’t very practical. It would be like setting aside $100,000 just in case someone is injured on your property and sues you.  Think of all the things you’d be giving up — vacations, a better house, a nicer car, higher-quality education for you or your family — in order to have that money sit in a bank account in anticipation of this highly unlikely event.

That’s essentially what these retirees are doing. They are resigning themselves to a lower standard of living in retirement after having accepted a reduced standard of living while working in order to save for retirement. Suboptimal indeed.

At the symposium, we brainstormed ways to help retirees tackle this dilemma. Some suggested it’s a math problem: Retirees are ill-equipped to figure out how to effectively spend their money and need guidance. Others suggested it’s a framing issue: Retirees continue to think of their nest egg as a balance, and when it comes to balances, growth is good. Instead, they should think about their retirement savings as an income stream and consider how sizable that income stream should be. Still others wondered if we were just all making a fuss about nothing. Maybe retirees are just happy having a tidy sum that they can eventually bequeath to their heirs.

One of the superannuation fund administrators pointed out that we tend to oversimplify the process of spending in retirement: Just as people have many needs along the way as they accumulate money for retirement, so the path to decumulation is not likely to be one-size-fits-all but instead quite heterogeneous.

EBRI’s Retirement Security Research Center (RSRC) has identified this exact dynamic as it has explored drawdown behavior in mining its empirical 401(k) and individual retirement account (IRA) databases and in examining data from the Health and Retirement Study. Members of the RSRC have concluded that it could help to develop retirement “personas” in order to identify the finite set of approaches that people take to spending down their assets — and to thereby best identify products, services, education, and policy that can support them. This could also involve adding a qualitative aspect to the research as well by actually talking to retirees about why they engage in the behaviors they do.

This is exciting work and immensely valuable: People both in Australia and in the United States work very hard for their earnings. They deserve to be able to spend it optimally throughout their lifetime. Of course, that also involves developing a consensus around what “optimal” means on an individual/household basis — as well as from a societal standpoint.

[1] https://www.superannuation.asn.au/resources/superannuation-statistics

[2] Andrew Reeson, Thomas Sneddon, Zili Zhu, Alec Stephenson, Elizabeth V. Hobman, Peter Toscas. “Superannuation drawdown behaviour: An analysis of longitudinal data.” Canberra: CSIRO-Monash Working Paper, May 2016.

[3] More specifically, EBRI’s 2018 Issue Brief found that within the first 18 years of retirement, individuals with less than $200,000 in non-housing assets immediately before retirement had spent down (at the median) about one-quarter of their assets; those with between $200,000 and $500,000 immediately before retirement had spent down 27.2 percent. Retirees with at least $500,000 immediately before retirement had spent down only 11.8 percent within the first 20 years of retirement at the median. https://www.ebri.org/publications/research-publications/issue-briefs/content/asset-decumulation-or-asset-preservation-what-guides-retirement-spending

About ebriorg
President and CEO, EBRI

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