Sunday, August 14, 2011

How much is enough to retire?

A while back there was a book published in the US called 'The Number' that discussed the factors affecting how much money a person needs to retire. At one level it is the amount needed to pay the basic bills at another it is the amount needed to continue a lifestyle not that different to pre-retirement.

It is amazing how little decent research has been done on this subject. Recently, in the UK, there was a Government sponsored report that looked at the funding of care (The Dilnot Commission) and I was surprised at the simplistic way the income and expenses of older people were predicted.

I have just been reading (skimming would be more accurate) a report from the US (Economic Preparation For Retirement) published by the National Bureau Of Economic Research. The data source for this analysis is the Health and Retirement Study Consumption and Activities Mail Survey. I have no idea if these sources are good or bad. I had to purchase the report from the here – maybe there is a free copy on a site somewhere.

This is good bit of research but even so still raises some big big questions.

Instead of using the normal metric of ‘adequacy’, which is normally two-thirds pre-retirement income, this study look on the consumption patterns of older people and asks if they can maintain this funded by income and depletion of wealth. So a single person is deemed adequately prepared if he or she dies with positive bequeathable wealth. A married person is adequately prepared if he or she dies with positive wealth where he or she may die as a married person or as a surviving spouse.

So far so good.

I start to get worried about the research when I read statements like

We assume that housing wealth appreciates at a real rate of return of 2.5 percent which is approximately the rate observed from 1985-2006. Mmmm, that doesn’t look like a very good assumption to me.

I could find no mention about the assumed rate of inflation for the coming years or the sensitivity of the findings to different inflation rates

I couldn’t find any assumptions about the impact of next to zero-level interest rates that have just been guaranteed in the US for the next three years.

I could find no assumptions about the impact of older people not being able to supplement their investment income or not working until retirement because of changes in employments patterns.

I could find no assumptions about the practicality of asset depletion (i.e. a house might be worth $XXX but how do you practically turn that into income that is zero at the point of death)

I could find no assumptions about the connection between the overall health of the US economy and the older person. Somehow I think that $14 Trillion budget deficit is going to have an impact on older Americans.

Don’t get me wrong – these are not criticism of the analysis. This is a complex subject and none of us have a crystal ball to predict the future. Maybe I missed the parts of the report that covered these issues – if so - then sorry.

I just wish we had something like this in the UK rather than the simplistic back of an envelope stuff that passes for research. Dick Stroud

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