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Five Questions for Richard W. Johnson

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The aging of America will trigger sweeping changes for all Americans, not only retirees. The demographic shift will change the way we work and retire, put more demands on health care and long-term care, and swell entitlement programs, squeezing out funding for other government programs. But the shift can also provide the country with a surge of volunteers and get the most from often-undervalued older workers. Senior Fellow Richard Johnson answers five questions about how retirement is changing, how workers can prepare, and how policymakers can improve retirement security.

Five Questions Archives

Updated February 22, 2011

1. How fast is the population aging and how will that change the nation?

The oldest Boomers turned 65 last month, but that's just the tip of the aging iceberg. The number of older Americans will soar over the next 30 years. Today, about 13 percent of Americans are age 65 and over. By 2020, that share will jump to just over 16 percent. By 2040, it'll top 20 percent. The graying of the population is really a worldwide phenomenon as birth rates fall and longevity increases.

Aging creates challenges, chief among them the rising cost of entitlements, especially Medicare. Without reforms, by 2040, health care and Social Security could consume nine-tenths of all federal revenue, leaving very little for other government services—things like defense, roads, education, and courts, just to name a few. We'll either have to raise taxes or let the national debt reach extraordinary levels. Neither is feasible, so what aging is going to do is force us to rethink our entitlement programs.

Population aging will also change the way we work. With unemployment now higher than it's been in a generation, it's tough to find a job, especially if you're over 50. But employers will eventually need more older workers as the economy recovers and the relative number of younger workers goes down. That means we're going to have to invest more in training older people, better accommodate workers with disabilities, and promote flexible workplaces because many older workers want more freedom and flexibility than a traditional full-time, year-round job allows.

The good news is that many older people volunteer, so the coming surge in retirement could unleash an army of volunteers to promote the public good.

2. How is retirement changing and what challenges do retirees face?

Twenty years ago, many people could put their retirement on autopilot. Many workers had traditional, defined-benefit pension plans that paid a set benefit, based on earnings and years of service. It kept them going from the moment they retired until they died. But now, most workers with retirement plans belong to 401(k)-type plans that can generate sizeable benefits but require a lot from participants. People can still enjoy a comfortable retirement, but they have to plan for it and make wise decisions—that's a real change.

Private employers are now much less likely to offer retiree health benefits. Many people won't be able to afford to retire before Medicare kicks in at age 65 because individual health insurance will be too expensive. New private health insurance exchanges set to go into effect in 2014 may reduce premiums somewhat, but early retirees would still end up paying much more for health insurance than they did while working. Even with Medicare, out-of-pocket health care costs are likely to grow. If current trends continue, half of seniors in 2030 could spend more than one-quarter of their income on medical bills and insurance premiums.

Long-term care is another hurdle. About a quarter of Americans age 65 and over need help with basic personal care or household chores. Long-term care is expensive and it's tougher for families to provide as much unpaid care as they once did because family sizes are shrinking and more women are working outside the home.

But old age is changing in some encouraging ways. People are living longer and old age disability is less common now. People will have more healthy, active retirement years than previous generations did. The high poverty rates among widowed and divorced older women will fall in the future because more younger women are working and earning more money today.

3. How should people prepare for retirement?

The most important step is to enroll in a 401(k) plan, invest early, and contribute as much as possible. Resist the temptation to cash out your retirement plan when you change jobs. People who don't have a 401(k) plan should invest in an individual retirement account to shield retirement savings from income taxes.

Also, don't retire too early! Working longer pays a triple dividend—boosting lifetime earnings, building up Social Security credits and pension assets, and shortening the period over which retirees must spread this wealth. Working just one extra year can increase annual retirement incomes by almost 10 percent on average. Going back to work after you've retired can be hard and the pay is usually a lot less, so you can't assume retirement decisions are easy to reverse.

People in their 80s and 90s have higher poverty rates than people in their 60s and 70s. One way to avoid poverty is to get the most out of your Social Security benefit by waiting to claim it. For every month you delay taking up Social Security until age 70, the monthly benefit increases, so there's a real advantage to waiting.

Also, people need to educate themselves about available financial products. One option to consider is purchasing an annuity with your 401(k) plan so you don't run out of money in retirement.

4. What policy changes should be made?

We need to get health care spending under control. It's one of the most important threats to baby boomers' financial security in old age. Unless we reduce spending, Medicare could run out of money by 2029.

Social Security must be fixed. After 2015, the system will pay out more than it takes in from payroll taxes for the foreseeable future. Then we'll probably need a combination of tax increases and benefit cuts to get the system into balance. We should consider raising retirement ages further because life expectancy continues to rise. The early eligibility age of 62 was set in 1956 for women and in 1961 for men and needs to be updated. Still, not everyone can work until age 62, so we first need to bolster our disability insurance programs.

We need to think about how we finance long-term care, which is becoming more expensive every year. The single largest payer of long-term care is Medicaid, but it doesn't protect people very well because benefits don't kick in until people have spent all of their money. Few buy private insurance, and those who do run the risk that their policies won't cover the services they'll eventually use because long-term care delivery may change in the future.

We also need to promote savings by people with moderate incomes. One way is to encourage automatic payroll deductions for people who don't already contribute to 401(k) plans. We need to eliminate work disincentives at older ages, including the retirement earnings test, which reduces Social Security benefits for workers between 62 and the normal retirement age (set at 66 for people born between 1943 and 1954 and increasing to 67 for people born after 1959). It may be time to eliminate the Social Security payroll tax for workers older than 65. The tax doesn't raise their future benefits much and it discourages them from working. Also, the Medicare as secondary payer rule is outdated: it requires workers over age 65 to use employer-provided health insurance instead of Medicare, making it cost more to hire older people. We could also improve the delayed retirement credit, which increases benefits for every month after the normal retirement age that you wait to claim Social Security, but only up to age 70. People are living longer and longer—why not increase that age to 72 or 75?

Two more things: we could reform the traditional, defined-benefit plan for government employees since most existing plans encourage early retirement. And we could better help the sixth of seniors who remain in or near poverty by creating an effective minimum Social Security benefit and providing more assistance with their medical bills.

5. What do we still need to know? What research questions haven't been answered?

There are plenty of unanswered questions, so we have an ambitious research agenda. What we really need to know is whether people are saving enough to cover their health and long-term care bills when they're older and still have enough money left over to enjoy a comfortable retirement. The answer depends partly on how employers and employees make decisions about 401(k) plans, how employers choose their match rates, and how automatic enrollment—which increases participation—might change those match rates. We want to know how the financial crisis and Great Recession will affect boomers' retirement plans. We also want to know how people can tap into their housing wealth to finance retirement. And we're playing out various scenarios reforming Social Security, health care, and long-term care to see who wins and who loses under different options.

We're looking hard at work at older ages, trying to understand the types of jobs that older people get and what employment barriers they face, especially when jobs are scarce. We're very concerned about whether people really will end up working more when they're older. Can older workers find new jobs when they're laid off? What happens to people with disabilities who can't work until they qualify for Social Security retirement benefits? And how do employers feel? Lots of anecdotal evidence suggests that age discrimination is widespread, but attitudes could change as the workforce ages. From a research standpoint, it's complicated, but exciting and important as well.