Is the Federal Reserve Wrecking Retirement?

We're now in the 7th year of Federal Reserve induced ultra low interest rates.  The Fed has kept short term rates at zero (actually negative, once you take inflation into account) through monetary policy.  Long term rates fell as well, especially after the Fed devoted years to quantitative easing (i.e., purchasing bonds in the open market).  Those people old-fashioned enough to actually save money have been bedeviled by the near-absence of interest income.  While some have been desperate enough to gamble with risky investments like junk bonds in order to generate more income, many and perhaps most have simply tightened their belts and spent less.  After all, if you're not getting any interest income, the last thing you want to do is spend down your principal.  That's like eating the seed corn--there will be no more harvests once the seed corn is gone.

Insidiously, the years-long pandemic of low long term interest rates has undermined retirements.  Pension funds, insurance companies and other persons and entities trying to provide for America's retirees have historically depended on long term bonds to provide a stable source of predictable income.  Pensions funds, insurance companies offering annuities, and other providers of retirement income tend to have relatively predictable obligations (i.e., the payouts they must make to current and future retirees), and look for predictable sources of funding to ensure that they can meet their obligations.  U.S. Treasury securities, agency bonds and high quality corporates were the bread and butter of retirement funding.  But these same stable long term investments have since the 2008 financial crisis been paying lower and lower interest rates. It's getting harder and harder to finance defined benefits.  While pension funds, insurance companies, municipalities and the like have sometimes turned to stocks and alternative investments, the volatility of these alternatives makes them a poor substitute for the plain vanilla fixed-rate, meat-and-potatoes high quality bond.

Of course, pension providers could contribute more funding to pension plans to make up for the shortfall in interest income.  But how many corporations, states and municipalities do you see leading the charge to put extra profits or taxpayer dollars into pension plans?  Many seem to be looking for spots on the increasing crowded sides of the road to dump current and future pensioners.

Corporations have curtailed and terminated defined benefit pension plans.  States and municipalities are in the process of doing the same.  Multi-employer pension plans are going belly up like fish in a toxic waste spill.  Soon, almost all of America's workers will be left with largely self-funded defined-contribution retirement plans, like the 401(k), or with self-funded retirements using IRAs.  Experience teaches that self-funded retirements are usually not as stable or comfortable as retirements funded with defined benefit pensions.  And that's just for the 40% of Americans who have any retirement savings at all.  As for the 60% who have none (as in zero, zilch, nada), the opulence of life on Social Security beckons. 

To be sure, Fed policy isn't the only reason why interest rates are low.  Economic and political instability in many other parts of the world are driving capital into safe dollar-denominated investments.  Low inflation tends to keep interest rates low.  But the Fed, as the single most powerful force in the money markets, has played a crucial role in eradicating high long term rates.

While Wall Street, corporate America, the 1% and many of the unemployed have benefited to varying degrees from the Fed's suppression of positive interest rates, there is, as economics teaches, no free lunch. There are costs to persistently low interest rates, and much of the cost has fallen on those middle and modest income workers who have or hoped for a defined benefit retirement.  Okay, so we already know the wealthy enjoy a heads-we-win, tails-those-little-people-lose advantage.  But we shouldn't buy into the Fed's story that it's creating stability to prevent a Great Depression.  What the Fed has done is transfer losses and instability that could have manifested themselves in another Great Depression, to many of America's current and future retirees, whose golden years may now be more unpredictable and depressed than they had hoped.