Reaching For Savings

Automatic Enrollment In Investment Plans Can Help Millions Of Americans Build Wealth

July 19, 2009|By Alex Roberts and Andrew L. Yarrow

During even darker days than these, Herbert Hoover famously called for "a chicken in every pot and a car in every garage." Today, what every American household needs more than a chicken - or a flat-screen TV - are financial instruments to save and invest their money.

After the vertiginous drop in American personal savings from the 1980s to the mid-2000s, the current economic crisis has reminded some people of the virtues of saving. Yet the recent, small turnaround is a far cry from what is needed. Tens upon tens of millions of Americans have no savings or investments, are deeply in debt, have negative equity in their homes and are completely unprepared for retirement, emergencies, or even many everyday needs.

A few months ago, President Barack Obama called for the creation of "tax-free universal savings accounts" to supplement Social Security. With the whirlwind of health care, climate change and other policy proposals batting around Washington, this one so far has received little attention.

It's more than a shame. By creating a system of private accounts now, we could help millions of Americans gain financial security and share in the nation's long-term economic growth. It would also provide a much-needed pool of domestic capital for investment.

Most Americans, in theory, can build a substantial nest egg over time. Consider this: Half of the very poorest Americans spend at least $12 on the lottery alone each week. If that money were instead saved and invested in the stock market - which, despite tough times like these, still offers the best long-term return - it would add up to $125,000 after four decades (assuming a 6.5 percent real rate of return).

While all too many households struggle to make ends meet, many families also lack the institutional support needed to build wealth. Most people, on their own, find it extremely difficult to devise a sound long-term saving and investment plan and then execute it in a disciplined fashion. That is why institutional support is critical. It lets average people outsource the tough parts of wealth-building to experts.

Workplace retirement plans are a perfect case in point. All you have to do is open an account and a portion of your paycheck will be saved automatically via direct deposit, then invested in the stock and bond markets where it will get the best return over time.

Unfortunately, roughly half of America's 150 million wage-earners do not have access to a retirement saving plan of any kind. Moreover, about 30 percent of eligible workers never bother to sign up for an account even when generous employer matches are offered.

Fortunately, there is a simple way to help people overcome this: Just sign them up for a saving account, leaving them the choice to opt out if they so wish. When companies have adopted this policy of "automatic enrollment," rates of participation in 401(k) programs have soared, especially among lower-income workers.

By creating the equivalent of an automatic, national 401(k), we could give all Americans the chance to save and invest for the future, reducing hardship and enhancing their well-being, lowering the long-term burden on the public sector and expanding national wealth.

In fact, we already have a successful working prototype of a private accounts system: the federal employees' Thrift Savings Plan (TSP). Introduced in 1987, the TSP is a user-friendly program that allows workers to divert income into a few diversified stock and bond funds. Participants can manage their own money, or select "lifecycle" funds that automatically create balanced portfolios and shift into more conservative investments as retirement nears.

The TSP charges a minuscule annual management fee of 15 cents for every $1,000 it manages. And it has generated tens of billions of dollars in returns for its 4 million participants without burdening taxpayers. So why not create a version open to the other 300 million U.S. citizens?

The new program could be called the American Saving and Investment Plan. It would look and work like the TSP, but participants would be able to use it for all long-term saving instead of just for retirement. Such a system of private accounts, if created, would ensure that all Americans have access to basic wealth-building services that many of us take for granted.

With a private accounts system in place, the government could make automatic enrollment national policy. All employers could be required to enroll their workers in a private or public saving plan with a default contribution rate of, say, 3 percent to 5 percent. This is what economist Richard Thaler and legal scholar Cass Sunstein have called "nudges," or "libertarian paternalism." Experience shows that most Americans would welcome such nudges. Lower-income workers could be subsidized, for example, with funds from the Earned Income Tax Credit.

By creating pro-saving institutional infrastructure and "nudging" people into it, policymakers could significantly boost levels of saving and investment and pave the way for more a sustainable financial future. Best of all, this approach would promote genuine self-sufficiency and help all Americans, from every walk of life, share in the nation's economic growth.

Alex Roberts is an affiliate scholar at the Institute for American Values and a contributor to the book, "Franklin's Thrift: Essays on the Lost History of an American Value." His e-mail is aroberts@americanvalues.org. Andrew L. Yarrow, vice president and Washington director of Public Agenda and author of the forthcoming book "Measure of America," teaches modern U.S. history at American University. His e-mail is ayarrow@publicagenda.org.

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