Actually, the Times Got it Right on 401(k)s

(MoneyWatch)  The New York Times editorial page added its two cents to the retirement reform debate with a piece on Sunday. The editorial focused on the 401(k), as well it should. You can't head off the looming retirement crisis until you acknowledge that the 401(k) is part of the problem.

The 401(k) was conceived as a savings supplement to traditional pensions and Social Security. Private pensions, however, are now all but extinct, leaving the 401(k) to do the whole job of filling the income gap between what Social Security provides and what you need for a dignified retirement.

It's a job the 401(k) was never designed to do, and, not surprisingly, it has failed to do it. According to estimates from the Employee Benefits Research Institute, on June 30 the median 401(k) held by someone on the verge of retirement age was $69,000. What's that mean? At the typical financial planner's' recommended withdrawal rate of 4% a year, the median retiree can count on a lifetime retirement income of Social Security plus $233 a month from his 401(k). In my mind, $233 a month is all you need to know. The 401(k) isn't working.

The Times cites a number of reasons.

• Workers don't save enough. A 401(k) is optional, so most 20-something workers, for example, don't contribute a dime. Even when employees do save, the median contribution rate is 6%, about half of what is needed.
• Too much money leaks out to loans or withdrawals. About 40% of people receiving a lump sum from their 401(k) when changing jobs take the cash and run rather than rolling it over. About a quarter of people in their 30s and 40s have an outstanding loan from their 401(k)s.
• Workers aren't good investors. Not surprisingly, 401(k) participants make the same investing mistakes as everyone else: They get too conservative when the market is down and too daring when the market is up.
• The plans create winners and losers based solely on retirement year. The Times cites a Brookings Institution study that shows that a worker who retired in 2008 after 40 years in the workforce could expect half as much money in retirement as an otherwise identical worker who retired in 1999 at the peak of the bull market. If anything, that's too mild: A T. Rowe Price study found that the year of retirement could make a four-fold difference in the size of equally responsible workers' nest eggs. Four-fold.

My MoneyWatch colleague editor-at-large Jill Schlesinger blogged yesterday that all the 401(k)'s shortcomings could be fixed by energetic efforts to teach participants to save enough and invest wisely. I think that point of view ignores both history and human nature. Investors, professional and amateur, have always tried to time the market and have always gotten it wrong. The majority of people in their 20s and 30s don't think about retirement voluntarily and never will. As I blogged last week, the notion that plopping workers for a few hours in front of a white board will turn them into Warren Buffetts is, to put it mildly, not borne out by history. For all the time and treasure already fruitlessly spent lecturing workers on the wonder of diversification and the wisdom of starting young, the only efforts that have really improved 401(k) accounts were automatic enrollment (signing workers up for the plan without their permission when they join the company) and target-date funds, which invest prudently without any input from the worker.

The Times proposes that the 401(k) get a serious overhaul, drawing on what has worked so far and, implicitly, on the experience of other countries whose retirement plans pay more attention to real people's behavior. There's nothing "la-la" about that. In my mind, the truly unrealistic idea on the table is the status quo-the notion that a wholly voluntary, self-directed supplemental savings plan can single-handedly provide for 30 years of retirement for a whole population. It's now abundantly clear that the 401(k) can't. For future generations, we ought to get serious about evolving the plan into something that has a chance of success. That's what the Times was saying. They're right.

More on MoneyWatch

* Fidelity (Accidentally) Makes the Case Against the 401(k)
* Have Doubts About the 401(k)? So Does Your Boss
* The 401(k) Has Failed. Let's Admit It