James Poterba is interviewed by the Richmond Fed:
... EF: More recently, one of your areas of research has been retirement finance and the investment decisions of workers thinking about their retirement. In recent decades, we've seen a tremendous shift in the private sector from defined benefit retirement programs to defined contribution programs. Was this mainly a response by firms to the tightening of the regulatory environment for defined benefit plans, to changing demand from workers, or to something else?
Poterba: I think it's a bit of everything. A number of factors came together to create an environment in which firms were more comfortable offering defined contribution plans than defined benefit plans. One factor was that when firms began offering defined benefit plans, in World War II and the years following it, the U.S. economy and its population were growing rapidly. The size of the benefit recipient population from these plans relative to the workforce was small. It was also a time when life expectancy for people who were aged 65 was several years less than it is today. Over time, the financial executives at firms came to a greater recognition of the true cost of defined benefit plans.
I also think the fiduciary responsibilities and the financial burdens that were placed on firms under the Employee Retirement Income Security Act of 1974, or ERISA, have discouraged firms from continuing in the defined benefit sector. ERISA corrected a set of imbalances by requiring firms to take more responsibility for the retirement plans they were offering their workers and to fund those plans so that these were not empty promises. ERISA was enacted in the aftermath of some high-profile bankruptcies of major U.S. firms and the discovery that their defined benefit plans were not well-funded, leaving retirees with virtually no pension income.
But ERISA and the growing recognition of the costs of defined benefit plans are probably not the full story. The U.S. labor market has become more dynamic over time, or at least workers think it has, and that has led to fewer workers being well-suited to defined benefit plans. These plans worked very well for workers who had a long career at a single firm. Today, workers may overestimate the degree of dynamism in the labor market. But if they believe it is dynamic, they may place great value on a portable retirement structure that enables them to move from firm to firm and to take their retirement assets with them.
Most workers who are at large firms, firms that have 500 employees or more, have access to defined contribution plans. Unfortunately, we still don't have great coverage at smaller firms, below, say, 50 employees. For workers who will spend a long career at a small firm, the absence of these employer-based plans can make it harder to save for retirement. A key policy priority is pushing the coverage of defined contribution plans further down the firm size distribution. That's hard, because smaller firms are less likely to have the infrastructure in place in their HR departments or to have the spare resources to be able to learn how to establish a defined contribution plan and how to administer it. They are probably also more reluctant to take on the fiduciary burdens and responsibilities that come with offering these plans.
Another concern, within the defined contribution system, is the significant amount of leakage. Money that was originally contributed for retirement may be pulled out before the worker reaches retirement age.
EF: What is causing that? ...
Poterba: Say you've worked for 10 years at a firm that offers a 401(k) plan and you've been contributing all the way along. You decide to leave that firm. In some cases, the firm you are leaving may encourage you to take the money out of their retirement plan because they may not want to have you around as a legacy participant in their plan. ... Sometimes, the worker may choose to move the funds from the prior 401(k) plan to a retirement plan at their new employer, or to an IRA. Those moves keep the funds in the retirement system. But sometimes, the worker just spends the money. When an individual leaves a job, they may experience a spell of unemployment, or they may have health issues. There may be very good reasons for tapping into the 401(k) accumulation. Using the 401(k) system as a source of emergency cash, sort of as the ATM for these crises, diminishes what gets accumulated for retirement. ...
Inadequate social insurance for workers who lose their jobs leads to inadequate retirement savings. So while there may be a "very good reason" for this from an individual's perspective, from a larger social perspective this is a problem connected to our unwillingness to provide adequate social insurance for those who are the unlucky losers to the dynamism inherent in capitalism that propels us forward. Those who benefit so much from the dynamism could and should do more to help those who pay the costs.