At first blush it seems fair and reasonable to let Americans opt in or out of personal accounts. But if the experience of other nations is any guide, personal accounts usually work better when they're mandatory -- as they are in Chile, Hungary, Mexico, Poland, and Sweden. When accounts are voluntary, low-income workers are less likely to participate -- leaving them stranded in traditional social security systems that governments are desperately trying to shrink. Making accounts voluntary also raises costs for account holders and foments confusion over whether such accounts are the right choice -- discouraging any saving at all.
Britain's experience is the most relevant. Starting in 1988, British workers were given the option of directing part of their social security contributions into personal accounts. Over the years, higher-income Brits have embraced personal accounts and have largely benefited from them. But low-income workers, who are at the greatest risk of an impoverished retirement, have generally shied away from the accounts, often out of fear or confusion. That's similar to America's experience with 401(k) retirement plans, where, despite such inducements as matching contributions from employers, low-income workers are the least likely to sign up.
Why is that a bad thing? Because in Britain as in the U.S., the hope for personal accounts is that workers will earn a good return, allowing the government to save money by trimming the basic social security benefit. But as Britain's blue-ribbon Pensions Commission observed last year, low-income workers don't choose personal accounts as much. So they're relying on a system that is in financial straits and politically vulnerable as the rich bail out. A Hobson's choice? Sure. That's why if there are going to be personal accounts, everyone should have one.
Compounding the inequity is the confusion and cost generated by making personal accounts voluntary. British workers have been whipsawed by contradictory advice over whether or not to establish personal accounts. Financial firms paid roughly $15 billion to investors to settle charges of "mis-selling," according to a Boston College estimate. To avoid such charges, British firms counsel potential customers -- in many cases for an hour or more -- about whether the accounts are right for them. That expensive service is one reason British fund managers charge a fee of 1% a year. Over time, such fees absorb 20% or more of an individual's pension saving, according to Britain's Pensions Commission.
You can debate endlessly whether personal accounts are a good idea in the first place. The international experience -- starting with Chile in 1981 -- is that the accounts increase workers' sense of ownership but don't magically fix unhealthy social security systems. If a country does opt for them, mandatory seems the cleanest, simplest way to go. As the U.S. tussles over the future of Social Security, it might take a lesson from the rest of the world -- and let experience trump politics. By Peter Coy