The Decline in DB Retirement Plans and Asset Flows

byJames Poterba--MIT and NBER

Steven Venti--Dartmouth and NBERDavid A. Wise--Harvard and NBER

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Demographic trends & markets–Demographic trends, asset flows,

and market rates of return• Prior: the rise of 401(k) plans• Now: the decline of DB plans

–Demographic trends, housing demand and housing prices

–“Companion” project on int’l capital flows and rates of return

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Figure 1-2. DB and 401(k) participation rates of employed persons, selected cohorts

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5

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Age

Part

icip

atio

n R

ate

%

1984

1987

19911993

1995

19982003

C45C27

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Overview• Summary of method• Show PV of DB wealth at 65 →2040

– Compare with 401(k) assets at 65• Show projected total DB assets →2040• Show DB + 401(k) assets →2040• Compare demographically induced

change in pension equities vs. size of equity market

• Assumptions and uncertainty

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Overview of method

1. Begin with SIPP cohort data--1984, 1987, 1993, 1995, 1998, 2003--on DB:

1) $ amount benefits2) % receiving benefits3) Participation rates (person) when working

2. Use estimated cohort effects to predict outside the range of the SIPP data (younger cohorts)

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Overview of method

3. Use cohort participation rates when working to help predict % of cohort receiving benefits when retired

4. Project total benefits paid by year for each cohort

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Estimate cohort effects

60 1 60 65 2 65 70 3 70 75 4

75 5

2013

1971

( )

ac a a a a

cc

B A A A AA

c A c

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PV of benefits at 65 for cohorts retiring→2040: DB v 401(k)

• All persons:– PV of DB benefits– 401(k) assets

• Persons with plan:– PV of DB benefits for persons with a DB– 401(k) assets of persons with a 401(k)

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Total assets by year→2040

• Project assets assuming “full funding”– Discount future benefits at 3% real

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Pension assets, contributions, withdrawals →2040

• DB• 401(k)• Combined

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Effect on rates of return?• Compare demographically induced

change in equities with total market value• Suppose:

– The total value of equities will grow at a 4% real rate→2040

– DB plans fully funded & 60% in equities – 401(k) contributions 60% in equities & no

rebalancing• Then:

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So• The change in demand for pension

equities that can be attributed to demographic trends seems modest relative to the total equity market.

• Viewed another way: by 2040 pension plan net withdrawals would be 1% of total value of equity market (never much greater than 1%)

• Casts doubt on the prospect of a sharp meltdown in asset values.

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Conclusions-1

• By 2012, 401(k) retirement assets at 65 will exceed the maximum prior level of DB wealth at 65

• By 2030, 401(k) retirement assets will be about 3 times the maximum of DB wealth

• Note: does not mean that all retirees will have sufficient retirement saving– Like DB plans, 401(k) plans are less common

among low-wage earners

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Conclusions-2

• By 2019, withdrawals from DB and 401(k) plans combined will exceed contributions

• But illustrative calculations suggest that the effect on market rates of return is unlikely to be large