The U.S. is experiencing 401(k) shock. Lulled by recent dreams of early and easy retirement, millions of Americans are suddenly facing the harsh truth that they will have a much harder time retiring. It's not just that the Net stock boom has gone bust or that options aren't worth what they used to be. It's that baby boomers are realizing they will need much more money to retire than they previously thought--at a time when making it will be much tougher. Almost as bad, people are beginning to choke on the surprisingly large number of choices they must make on health care, insurance, and investment plans. As the boomers head toward retirement, corporate managers and Washington policymakers will surely begin to feel their frustration and anger. And as the BusinessWeek Retirement Guide shows, they would be wise to attend to it sooner rather than later.
Of course, people who bet the bubble with their retirement savings have only themselves to blame. They will have to dig out by working longer--perhaps much longer. From 1946 through 1997, stocks had an average compound annual return of 7.5% after inflation. If productivity continues to grow, the market may regain much of its momentum. But Robert Schiller, author of Irrational Exuberance, and others argue that returns over the next 20 years could fall below 5% after inflation as price-earnings ratios move back toward their long-term mean.
Those with lots of high-tech company stock in their 401(k)s may be in the worst shape. Many high-tech corporations, such as Lucent Technologies Inc., matched their employees' 401(k) cash contributions with their own stock. That broke the first rule of investing--diversify. Some companies then broke the second rule of investing, liquidity, by restricting the stock's sale until employees were 50 or 55. The market downturn erased most of that paper wealth, along with dreams of early retirement. Employees welcomed stock matches during the boom. But it turned out to be bad pension policy.
It gets worse. A little-known Bureau of Labor Statistics measure, the CPI-E index, shows that inflation for the elderly is rising faster than for the rest of the population, nearly all due to higher medical costs. Meanwhile, big companies are cutting back health insurance for their retirees. Only one-third offered them last year, compared with two-thirds in 1988. Some companies, such as General Motors Corp., have even taken back benefits they promised to those already retired.
So everyone is scrambling to figure out what to do. By and large, boomers' parents retired with simple, defined-benefit company or government pensions and health plans. Boomers are living in a different world, shouldering much more risk and facing many more choices. The tax cut will allow them to save more of their income. But Washington needs to do more to make it easier to buy long-term care and other medical insurance. And some kind of Medicare drug benefit is in order. Corporations could help by putting real money into 401(k)s, not paper, and keeping their promises to employees when they retire--or stop promising. Stripped of the illusions fed by a booming stock market, retirement is shaping up to be a nightmare of cost and complexity.