Everywhere you turn, you seem to see financial professionals' warnings that people aren't saving enough. With each month's new data on personal income and spending, newspaper headlines trumpet Americans' negative savings rate, warning that we're overborrowing to prolong an unsustainable standard of living. When you read about the costs of medical care and other major living expenses for retirees, you may feel like there's absolutely no way you could ever save enough to be 100% sure you'll make it through your golden years without going broke.
However, at least one group of economists is suggesting that people are worrying too much about retirement. According to a study conducted by a professor at the University of Wisconsin, the vast majority of Americans between the ages of 51 and 61 should feel confident that they have enough to meet the costs of retirement. Because the study's findings contradict so many opinions in the financial world, it's worth taking a closer look at the study to find the source of its optimism.
Social Security and retirement saving
As you would expect from a paper published in the Journal of Political Economy, the study's model for determining how much various families should be saving for retirement is fairly complicated. However, the study's basic assumptions are relatively straightforward. Its model includes assumptions about rates of return, taxes, earnings, Social Security and other pensions, and medical expenses that seem reasonable. Based on these factors, the model calculates how much money you should save.
One surprising fact about the study and its methodology is how low the results of these savings calculations are. When you look at the entire population of people aged 51 to 61, the average target for net worth that the study's model comes up with is just over $150,000, while half of all families will need to save $63,000 or less. Even for the families with the highest earnings, the average target amount is less than $500,000.
However, perhaps the most surprising result of the study is that the vast majority of people have more than enough to meet their targeted savings amount. From the study's data, it's apparent that most people don't have enough savings in their own investment accounts to meet their retirement needs. But when you factor in the value of Social Security and pension payments, it's enough to push most people over the top. The study states that less than 16% of families haven't saved enough for retirement.
That was then, this is now
The authors of the study are quick to point out that it covers the 51-61 age group as of 1993, so the entire sample population has now reached retirement age. While the study is optimistic about the retirement prospects for this population -- especially since the net worth figures as of 1993 left out much of the long bull market that continued throughout the remainder of the 1990s -- it acknowledges that trying to extrapolate its findings to younger age groups may not be appropriate. With uncertainties about the continuing ability of Social Security to provide benefits at its current levels, as well as the pension funding problems of companies such as private employers like Exxon Mobil
The study also acknowledges that saving too much for retirement isn't necessarily a bad thing. From an economic perspective, the primary problem with saving too much for retirement is that you might have been better off spending more money earlier in your life. In other words, the extra money you decided to save for retirement might have made you happier if you'd earmarked it for current spending earlier in your life instead. However, there are a number of legitimate reasons why you might want to have an extra margin of safety during retirement. Since the study gives only median and mean numbers, there's a significant probability that your particular experience will be more expensive. If you only save enough to meet the study's averages, then you won't be prepared if it turns out that you're unlucky and have higher expenses.
Also, the study only looks at retirement savings as a means for covering one's own living expenses. It doesn't attempt to gather data on the intentions of its sample population to leave bequests after they die. For those who wish to leave behind unused money to family members or for charitable causes, saving more than the study's calculated amounts would be necessary in order to ensure that there's something left to pass on after death.
A cause for optimism
Despite some reservations about how well the study reflects the financial condition of younger people, it provides a good reminder that you have a lot of control over your own destiny. Even though conservative financial calculators may tell you that you should be saving more than you can, that doesn't mean that there's no way you'll be able to pay all your expenses in retirement. Most calculators use simple assumptions that won't reflect the reality of your retirement situation. Moreover, given the uncertainties about the future of government programs and other benefits that have a major impact on retirement, any fixed estimate of what you'll receive from these sources can be extremely misleading. By having a savings plan you can live with, and working hard to keep it going, you should feel confident that you're on the road to retirement security.
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Fool contributor Dan Caplinger is on his way toward oversaving for his retirement. He doesn't own shares of any of the companies mentioned in this article. The Fool's disclosure policy always saves enough for you.
