What if the U.S. government gave every American money at birth so they could retire as millionaires?
The New York Times DealBook recently asked a number of business leaders how to fix America. The suggestion for so-called birthright funds was from hedge fund manager and activist investor Bill Ackman, chief executive of Pershing Square Capital Management.
“Birthright funds would be invested at birth in zero-cost equity index funds; be prohibited from withdrawal until retirement; and would compound tax-free for 65 years or more,” Ackman suggested in the TImes article. “At historical rates of equity returns of 8% annually, a $6,750 at-birth retirement account — which would cost the government $26 billion annually based on the average number of children born in the U.S each year — would provide retirement assets of more than $1 million at age 65, or $2 million at age 74.”
We decided to ask three of our own experts their opinion of the idea and if it could work. Here’s what they said.
1. The numbers don’t work.
David Blanchett, head of retirement research for Morningstar’s Investment Management Group:
While 8% has been the approximate geometric annual equity return, it doesn’t include inflation. This is a “gimmick” I think a lot of people play to make compound growth seem bigger than it actually is.
People spend money in “real” terms and therefore it’s important to incorporate inflation when doing any kind of financial projection (especially over a really long time period). Inflation has been about 3% a year historically in the United States. This would drop the real return (or after-inflation return) to 5%.
Over 65 years that would result in $6,750 growing to closer to $160,919. It would take an at-birth contribution of around $42,000 to get to $1 million assuming a 5% return.
Also, it’s not clear that historical returns on equities are going to be realistic going forward. Average 10-year government bond yields have been around 5% and they are closer to 1% today. If I had to guess, you’d be lucky to get that $6,750 to grow to $100,000, in today’s dollars, over 65 years, versus the eye-popping number that Ackman is going with.
But let’s assume his numbers are correct. Just giving everyone $1 million at retirement isn’t a very efficient solution and would create its own issues. People don’t really do a good job spending down wealth at retirement and so we need to focus on increasing “pension-like” income in retirement versus savings.
Big picture: I don’t think this is a very good idea. It’s playing off the general misunderstanding of compound interest and isn’t really a viable policy solution. Maybe he’s just trying to stir the pot, though!
2. It may work, but …
Steve Vernon, Research Scholar for the Stanford Center on Longevity:
Earlier this year at the Stanford Center on Longevity we studied a similar proposal from Ric Edelman of the T.R.U.S.T. Fund for America. Here’s the link to the report that explored a number of innovative ways to improve retirement readiness. Page 35 discusses Edelman’s proposal.
The numbers in the [above] example are correct, and the concept could work as described. But while the idea can work in concept, the devil is in the details. Eventually the assets would grow to a considerable sum in total. But here are some questions:
- Is there a Board of Trustees or some group that manages the money? How would they be selected?
- Exactly how would the money be invested — in an index fund, or would managers be paid? And who selects the managers?
- When is the retirement age when money can be withdrawn?
- Can the beneficiaries do anything they want with the lump sum of money, or will it be required to be paid out periodically?
- What happens to remaining accounts when someone dies?
- Who votes the shares? Over time the total voting power could be quite substantial.
- Is the money supplemental to Social Security, or would Social Security be reduced to reflect the asset?
- What happens if stock returns are poor? While annual returns from stocks have averaged in the 8% range over time, for various time periods returns have been higher and lower.
- Which babies get the asset? Would you include babies who are eligible for citizenship — born in America but not to citizens? What about babies born to American citizens who are living abroad?
These questions aren’t deal-breakers on the concept — they just need to be addressed to evolve the concept from an interesting idea into reality.
3. It’s a bad idea that only gives money to Wall Street.
Maria Freese, Social Security policy analyst, National Committee to Preserve Social Security and Medicare:
While we applaud the [New York Times' attention to] our nation’s retirement problem, we strongly believe the American people would prefer to dedicate scarce federal resources into strengthening and expanding America’s most effective retirement program, Social Security, than putting billions of federal dollars into the hands of Wall Street.
We strongly believe accounts such as these would ultimately turn into step one of a longer-term effort to privatize Social Security. The competition for federal dollars for many important priorities would undoubtedly result in pressure to divert the ‘seed money’ from payroll taxes rather than continuing to spend general revenues. This would destroy Social Security’s role as the bedrock of American workers’ retirement.
An additional challenge for these accounts is the difficulty of keeping them intact over a decades-long working career for retirement. We have heard anecdotally of many people who have found themselves taking distributions from their retirement savings just to make ends meet during this pandemic.
Regardless of any restrictions initially placed on these accounts, there inevitably will be political pressure to make them available for other, non-retirement priorities, much as IRAs and 401(k) plans can be drained today. Social Security does not have these problems. American families would be much better served by dedicating additional resources to Social Security than experimenting with untried, risky private investment accounts.
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