Made Poorer by Choice: Worker Outcomes in Social Security vs. Private Retirement Accounts
Board of Governors of the Federal Reserve System
Brad M. Barber
University of California, Davis
University of California, Berkeley - Haas School of Business
June 8, 2015
Can the freedom to choose how retirement funds are invested leave workers worse off? We analyze social risks of allowing choice in private account-based alternatives to the U.S. Social Security system as an example. Via simulation, we document that choice in stock v. bond allocation and type of equity investments in private accounts leads to lower utility and greater risk of income shortfalls relative to private accounts without choice. Allowing choice increases risk for all workers. Our results suggest that private-account-based systems featuring investor choice pose substantial risk to workers beyond that induced by uncertain market outcomes. We also compare private account outcomes to currently promised Social Security benefits to demonstrate that a representative worker (who earns his cohort’s average annual salary) benefits much more from private-account alternatives — with or without choice — than do most workers. Thus, the outcomes of such a representative worker should not be used to assess population-wide benefits of private account alternatives.
Number of Pages in PDF File: 52
Keywords: Social Security, Private Retirement Accounts, Behavioral Finance
JEL Classification: H55, J25
Date posted: October 1, 2012 ; Last revised: June 17, 2015
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