Putnam Perspectives: Savings, Solvency and the American Promise

8/3/2019 Putnam Perspectives: Savings, Solvency and the American Promise

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PUTNAM INVESTMENTS | putnam.com

I think we all know in our bones that America is at a critical inection point. We reall

do ace a choice between decline and renewal. I we want to keep the American

promise o a better lie or our children, we absolutely must make a transition awayrom public debt, leverage, and excessive debt-ueled consumption to a new

economic model based on higher personal savings, public solvency, more invest-

ment, more exports, more new business ormation, and more rapid job creation. Th

wont be easy, but the alternative is worse. The status quo course were on right now

is dangerous and unsustainable.

The road to insolvency

Since the turn o this new century, Americas scal health has taken a drastic turn o

the worse. Back in the good old days o 2000, the Congressional Budget Oce [CB

projected that by 2011 ten years o record ederal surpluses would turn the ederaldebt into a net surplus o $2.3 trillion dollars thats the alling debt line we see in

Figure 1 as the national debt is paid down past zero! You may remember that some

people actually worried about what might happen i the ederal government didnt

need to issue any new debt. Well, were not losing sleep over that anymore, are we?

Americas debts have

put us on the road toinsolvency

Our workplace

retirement system

provides a great base for

increasing our savings

Now the target of budget

scrutiny, retirement

savings incentives can

actually help keep the

American promise

November 2011 Putnam perspectives

Savings, Solvency, and the

American PromiseRobert L. Reynolds

President and Chie Executive Ofcer

I we want to keep the American promise o a better lie or

our children, we absolutely must make a transition away rom

public debt, leverage, and excessive debt-ueled consumption

to a new economic model based on higher personal savings,public solvency, more investment, more exports, more new

business ormation, and more rapid job creation.
http://www.putnam.com/


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NOVEMBER 2011 | Savings, Solvency, and the American Promise

Figure 1. A lost decade o decits uels a surge in Americas national debt

-2

($) 10

8

6

4

0

PUBLICLY HELD FEDERAL DEBT ($T) Actual debt 20002011$10.2 trillion

CBO projected debt-$2.3 trillion

(CBO, January 2001)

debt

surplus

2

2000 2005 2011

$12.5T

Source: Pew analysis o Congressional Budget Oce (20012011) data.

What happened? History took us by surprise. Instead

o big surpluses, we had a decade o decits, liting the

national debt held by the public to over $10 trillion by

2011, $12.5 billion more than the CBO had projected at

the start o the new century. There were multiple causes

or that, including:

Tax cuts under both Presidents Bush and Obama

9/11, the wars in Aghanistan and Iraq, and other new

deense costs

Major new spending on discretionary programs

A new drug entitlement program or seniors

Massive stimulus spending to try to end of another

depression ater the crash o 2008

But the single most damaging cause o these decits,

shown here in red and accounting or more than a

quarter o total decits twice as much as the Bush

tax cuts was the lower revenue ows caused by

slower economic growth, which was well below what the

CBO had projected. In other words, economic growth, or

the lack o it, is the most powerul variable in Americas

scal health.

Unsustainable decits

Today, ederal decits already claim a large share o

our economy, much more than that claimed by top-

rated peers like the United Kingdom, France, Canada,

Australia, and Germany. Our total national debt and

this includes internal government debt like the Social

Security trust unds is on track to reach $15 trillion

by the end o this year. Fiteen trillion dollars is a mind-

boggling number and dicult to imagine.

The single most damaging cause o these deicits was the lower revenue lows caused by

slower economic growth In other words, economic growth, or the lack o it, is the most

powerul variable in Americas iscal health.


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Figure 2. Americas decits now rank among the worlds largest

2010 budget defcit as a percentage o GDP

U.S. U.K. France Canada Australia Germany

10.6% 10.4%

7.0%

5.5%4.6%

3.3%

Note: IMF calculations or the U.S . dier rom Congressional Budget Oce gures, which put the U.S . decit at 8.9% GDP.

Source: International Monetary Fund. All inormation as o December 31, 2010.

As shown in Figure 3, $15 trillion measured in $100 bills would stack up into a solid block o hundreds bigger than a ootball

eld and more than hal as tall as the Statue o Liberty.

Figure 3. Total ederal debt could reach $15 trillion by year-end 2011

Sources: U.S. Federal Reserve and www.USdebtclock.org.

And the orward outlook is worse. The Congressional Budget Oce advises us that President Obamas most recent

budget would raise total national debt held by the public rom roughly 63% o GDP today to more than 90% by 2020, with

no end in sight! That is a debt-to-economy ratio that America hasnt seen since World War II.
http://www.usdebtclock.org/http://www.usdebtclock.org/


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Figure 4. Our national debt is on track to reach 90% o GDP by 2020

(%) 200

150

100

50

01930 19501940 19701960 1980 1990 2000 2010 2030E2020E

U.S. FEDERAL DEBT AS A PERCENTAGE OF GDP

Crash

of 2008

148%

Vietnam

War era

World War II

The Great

Depression

22%

108.6% Over 90%

Sources: Heritage Foundation compilations o data rom U.S. Department o the Treasury, Institute or the Measurement o Worth

(Alternative Fiscal Scenario), Congressional Budget Oce, and White House Oce o Management and Budget.

Figure 5. Interest costs alone could nearly quadruple by 2020

$800B

$600B

$400B

$200B

$0

INFLATION-ADJUSTED DOLLARS (2009)

2000 2020

$768.2

$280.1$186.9

Actual Projected

2005 2010 2015

Source: White House Oce o Management and Budget, 2010 estimates.

Simply put, its a path to insolvency. And while this scal

time bomb keeps ticking, interest costs on the debt

are exploding. Unless we change course, those costs

will nearly quadruple by 2020, reaching close to $800

billion a year. This, by the way, is happening at a time o

historically low interest rates. A sustained rise o just 1%

in interest rates would add $150 billion more a year to

this burden. Albert Einstein once described compound

interest as the most powerul orce in the universe.

Were gambling against it, and were doing that with

other peoples money.

We now depend on other countries to nance us

We now depend on oreign creditors to nance nearly

hal o our debt, about ten times as large a share as they

held in 1970. So ar, these oreign creditors still believe

that America can and will get its act together.

Their aith that America will right its course, plus the ear

generated by the even worse nancial mess in Europe,

is the only reason why the U.S. Treasury can still borrow

huge sums o money 10 years out at rates o 3% or less.

But Americas dependence on oreign buyers at our

Treasury debt auctions makes us increasingly vulner-

able. I global investors should ever conclude that our

political leaders are unable or unwilling to deal with our

decits and debt, we could be plunged into crisis by

surprise and virtually overnight.


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We now depend on oreign creditors to inance nearly hal o our debt, about ten times as

large a share as they held in 1970. So ar, these oreign creditors still believe that America

can and will get its act together.

Figure 6. Other countries hold nearly hal o our debt today

Foreign holdings

1970Debt held by public:

$283B

5%


$2.4T

19%


$8.4T

47%

Source: U.S. Department o Treasury.

So, the way I see it, America doesnt really have a choice

about coming to grips with its debts and bringing

government spending under control. The real choice we

ace is whether to act or be acted upon by some very

ruthless global markets, the same markets now driving

the sovereign debt crisis in Europe.

The key driver is demographics:

an aging America

Heres the key driver o our decits. America is aging. Lie

expectancy is rising. Baby boomers are now turning age

65 at the rate o about 7,000 a day. Over the next twenty

years, the number o Americans over age 65 will nearly

double, rom 40 million to 72 million.

America doesnt really have a choice about coming to grips with its debts and bringing

government spending under control. The real choice we ace is whether to act or be acted

upon by some very ruthless global markets, the same markets now driving the sovereign

debt crisis in Europe.


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Figure 7. A nation o retirees

Americans over age 65

40 milliontoday

72 millionby 2030

Source: U.S. Bureau o the Census, August 2008. Most recent data available.

Congress cant vote down this demographic wave; the president cant veto it. We have to deal with the stress it will put on

our old-age support programs, and the longer we delay, the tougher that gets.

Absent reorm, entitlement costs will dominate ederal budgets

Unless we see substantial reorms to Social Security, Medicare, and Medicaid, these three entitlement programs alone

will grow by 2045 to absorb as much o Americas economy as the entire ederal government budget has averaged since

World War II over 18% o GDP.

Figure 8. Absent reorm, entitlement costs will dominate uture budgets

Three major entitlements and tax revenues, 20002050

PrecentageofGDP

Sources: Spending projections rom Congressional Budget Oce, alternative scal scenario in The Long-Term Budget Outlook, June 2009.

So i we want the government to pay or anything else, whether that is the Marine Corps or National Public Radio, we

will have to get serious about curbing entitlement costs and about raising some additional revenues to meet these

demographically driven obligations.


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The real risk to our creditworthiness is not economic or inancial. We do have the resources.

The real risk is political paralysis, the seeming inability o our two-party system to ind

common ground, to compromise, and to crat a workable solution.

Both political parties will have to make some painul

concessions, which neither seems quite ready to do.It would be tragic, or example, i the current Select

Committee on Decit Reduction does not nd some

common ground and at least meet its target o saving

$1.2 trillion over the next decade. And $1.2 trillion,

by the way, is just 2.6% o the $46 trillion the ederal

government is projected to spend in the next ten years.

My gut tells me that i the Super Twelve ail, there could

be very nasty reactions in global markets. Americas

own leaders would, in eect, be validating the S&P

downgrade we saw this summer.

When you actually read that S&P report, one thing is

crystal clear. The real risk to our creditworthiness is not

economic or nancial. We do have the resources. The

real risk is political paralysis, the seeming inability o our

two-party system to nd common ground, to compro-

mise, and to crat a workable solution.

Enough on the budget context and bad news. I want

to turn now to the positive side o the ledger. And letme suggest to you that action to strengthen Americas

public and private retirement systems, not undercut

them, could play a vital role in reviving condence and

sustaining growth in our economy.

The good news: Our DC retirement system

The good news is that we have created a robust dened

contribution workplace savings system predomi-

nantly 401(k) that reaches more than 83 million

workers. This system has shown to be strong, resilient,and always open to improvement. This suggests to me

that i we can strengthen the dened contribution [DC]

system and extend its reach, we can take huge strides

toward shoring up Americans belie in their own utures.

And theres every reason to believe we can. Because

with the passage o the Pension Protection Act o 2006

[PPA], we transormed the DC system qualitatively,

enabling 401(k) workplace savings to become Americas

primary retirement system.

Figure 9. DC workplace savings ofer a great base to build on

American workers covered

38

48

62

83

40

4239 40

42 42

75

20

35 38

0

25

50

75

100

1980 1985 1990 1995 2000 2005 2008

DB plans

DC plans

(Millions)

Sources: Private Pension Plan Bulletin, Abstract o 2008 Form 5500 Reports, U.S. Department o Labor, December 2010.

Collective Bargaining Status o Pension Plans, Total Participants by Type o Plan.


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Figure 10. The Pension Protection Act has

revitalized the DC system

$5.5trillion$4.1

trillion

2009 2015

Source: The Asset Management Industry: Now Its About Picking Your

Spots. McKinsey & Company, September 2010.

The DC system is currently being revitalized, and work-place savings are projected to grow to over $5.5 trillion

just in the next ew years. The reason why is that PPA

endorsed three game-changing elements o dened

contribution savings plan design: auto-enrollment,

savings escalation, and guidance to wise asset alloca-

tion. The law also gave plan sponsors who adopted these

best practices strong sae harbor legal protection.

Today, the evidence on these policy innovations is in, and

the good news is we have essentially solved the chal-

lenge o accumulation. We have not ully implementedthe solution not by a long shot but we do know

what works. Recent research by the Employee Benet

Research Institute [EBRI] shows that workers in their 20s

and 30s whose employers adopt auto-enrollment plan

designs will be able to replace between 40% and 60% o

their pre-retirement incomes, just rom their DC plans!

Thats beore you count Social Security, other savings,

home equity, lie insurance holdings, or any other assets

they may have.

Just this summer, in a study that Putnam did with

Brightworks Partners,* we ound that there is a antastic

success story taking place already within the existing

workplace savings world. People who have access to

workplace savings plans and who participate and who

also deer more than 10% have the potential to replace

over 100% o their pre-retirement incomes once you add

in Social Security. There are millions o these people, by

the way, so this is not some reak anomaly. And mostinterestingly, the income o the best prepared is no

higher than that o the least prepared.

This tells me that i we could nd ways to provide all

workers with access to workplace saving, get them to

start saving, and convince them to deer 10% or more, we

could potentially immunize Americas workorce against

the risk o elderly poverty.

But heres the terrible irony that we ace today. Just as

weve discovered how to design workplace savings plans

that can build reliable lietime nest eggs, just as were

recovering rom the black-swan bite o 2008, now

we ace a new potential risk aimed right at the heart o

retirement savings. It stems rom well-intentioned, but

misguided eorts to cut ederal decits.

People who have access to workplace

savings plans and who participate and

who also deer more than 10% have the

potential to replace over 100% o their

pre-retirement incomes once you add in

Social Security.

Retirement incentives should not be

budget items

To understand this risk, you need to see savings tax deer-

rals through a very bizarre lens, the one used by all too

many budget hawks in Washington. Too oten, budget

experts in Washington view the temporary tax orgive-

ness that retirement savers get or putting unds in anIRA, K-plan, or variable annuities as tax expenditures,

orgetting that these assets will be taxed as ordinary

income the minute they are drawn on by retirees.


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Figure 11. Retirement savings are now in the cross hairs o budget hawks

Major income tax expenditures 2010 to 2014

$0 $100 $200 $300 $400 $500 $600 $700

Deductions for state

and local taxes

Earned income tax

credit

Lower capital gains

and dividend taxes

Mortgage tax breaks

Retirement

savings deferrals

Health benefits

(Billions)

Source: Douglas Elmendor, CBO Director, Testimony to Select Committee on Decit Reduction, September 13, 2011.

Figure 11 shows the so-called tax expenditures that

were submitted in September in testimony beore the

Select Committee on Decit Reduction. As you can see,

retirement savings deerrals or DC and DB plans are

right up there, second only to the tax costs associated

with employer-based health care, and just ahead o tax

breaks or mortgages and capital gains.

So make no mistake. The deerrals that help make work-

place savings and IRAs easible are in the cross hairso budget hawks right now, and they look like a very

juicy target. Thats partly because Congresss current

budget rules allow only a 10-year window to analyze

the impact o tax deerrals. That methodology seriously

overstates the costs to Treasury o savings tax deerrals,

by 55% to 77%, according to expert studies that Amer-

ican Society o Pension Proessionals and Actuaries

itsel developed earlier this year. Whats more, budget

hawks also have no way to take account o any dynamic

benets that savings may bring by lowering the costo investment capital, or example. So its not surprising

that one proposal being considered would cap total

savings deerrals at $20,000 a year or 20% o salary,

whichever is lower.

Now that may not seem terribly menacing. But take my

word or this. I know rom experience that once savings

tax deerrals are on the table, they are in play. The temp-

tation to cut deeply into them is great. That is exactly

what happened in the last major tax code overhaul in

1986, when ceilings or 401(k) contributions were severely

slashed and so many complications were imposed on

IRAs that their growth was stymied or years.

I want to be clear here. We absolutely do need to get

decits under control. But whatever we do to curb

ederal decits, retirement savings incentives shouldbe held harmless. It would be a truly grotesque policy

mistake immoral, in my view to try to curb public

decits by undercutting tax deerrals or private thrit.

Every dollar that retirement savers set aside is one less

dollar that will ever be asked or as government aid

in the uture. Every company that oers a workplace

savings plan is helping to meet a real national need.

And the incentives or workplace savings do encourage

employers, especially o small businesses, to oer

savings plans to low- and middle-income workers, notjust to the owners and their key executives.

We absolutely do need to get deicits

under control. But whatever we do to

curb ederal deicits, retirement savings

incentives should be held harmless.


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Figure 12. DC tax breaks avor lower-income workers

30% 32%27%

11%8%

18%

23%

52%

0%

20%

40%

60%

Under $50,000 $50,000$100,000 $100,000$200,000 $200,000 or more

Participants with acces s and retirees with acc ount balances

Share of federal income taxes (after credits) paid

Source: American Society o Pension Proessionals and Actuaries, 2011.

Figure 12 shows the distribution o the tax deerrals or

workplace savings by income level, alongside the ederal

taxes that people at these income levels pay. Sixty-two

percent o these tax deerrals go to people earning less

than $100,000, 38% to those earning more. Some on

the political let see this as an unair tax break to the

afuent. But lets compare these tax deerrals again,

let me note these are just postponements, not ull

orgiveness with the ederal taxes people actually

pay. What we see is that while 62% o these tax deerrals

go to those earning less than $100,000, these low- and

middle-income workers pay just 26% o ederal income

taxes. So they get more than twice as large a share o

tax deerrals as the share o income taxes they actually

pay. Thirty-eight percent o the tax deerrals go to those

earning more than $100,000, but these people pay

75% o all ederal income taxes.

In other words, more afuent earners get only about hal

the share o savings tax breaks as they pay in taxes. That

seems pretty air to me. You might even say progres-

sive. My point is this: The potential gains to the Treasury

rom cutting tax deerrals is vastly overstated, but the

damage such caps could inict is vastly underestimated.

Thats because access to workplace savings is the prime

determinant o whether low- and moderate-income

workers save at all.

The potential gains to the Treasury rom

cutting tax deerrals is vastly overstated,

but the damage such caps could inlict is

vastly underestimated. Thats because

access to workplace savings is the

prime determinant o whether low- and

moderate-income workers save at all.

Restricting access to workplace plans would

be harmul

EBRI research tells us that over 71% o workers earning

between $30,000 and $50,000 do save or retirement,

but only i they have access to payroll deduction savings

plans at work. Among moderate-income workers who

lack access to savings at work, ewer than 5% open tax-

advantaged Individual Retirement Accounts. So capping

or eliminating incentives or workplace and other retire-

ment savings could have devastating impact sending

millions o low- and moderate-income workers toward

retirement with essentially no savings.

I trust that everyone will stand with me in opposing any

reduction in savings incentives. Retirement savings

deerrals are not some special-interest privilege we

deend just because theyre good or our businesses.

Retirement savings are a good thing or all Ameri-

cans. They are a source o dignity and sel-reliance or

millions o working people. They are the seed corn o our

economic uture.


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Figure 13. The impact o access o moderate-income workers who save or retirement

71.5%

4.6%

0

20

40

60

80

With access to workplace plan Without workplace plan IRA only

(%)

Source: Employee Benet Research Institute (2010) estimate using 2008 Panel o SIPP (Covered by an Employer Plan) and EBRI estimate

(Not Covered by an Employer Plan IRA only).

Instead o cutting savings incentives, we should be

doing everything we can to expand workplace savings

coverage or the many millions who lack it. We should

be advancing ideas like the auto-IRA payroll deduc-

tion proposal a very reasonable, cost-eective way

to draw many millions o lower-income workers into

retirement savings and give them a stake in our ree-

enterprise system or the rst time ever.

The auto-IRA is a bipartisan idea, by the way, and it

reects what should be a bipartisan consensus: that

national solvency and personal solvency go together.

We should never pit one against the other. We need poli-

cies that oster both. Yes, the struggle to restore scal

sanity in this country is real, as weve just seen. Americas

decits and debt are now dangerous enough to raise a

real national security issue.

Those politicians and special interest groups who reuse

to admit that we even ace a serious scal problem,

or say we dont need to make any serious changes in

Social Security or Medicare, are simply in denial. I theirview wins, they will lead America straight into a glob-

ally driven debt crisis, and then into truly awul austerity

under ruthless market pressure, just as were seeing

happen in Europe.

But there are many elected ocials and policymakers

who are seeking good-aith, bipartisan solutions to curb

ederal spending and bring our decits under control.

This will require both common sense and some very

uncommon political courage in other words, leader-

ship. But the gains we could achieve ar outweigh the

sacrices we are going to have to make anyway, someday.

Instead o cutting savings incentives

we should be advancing ideas like the

auto-IRA payroll deduction proposal a very reasonable, cost-eective way

to draw many millions o lower-income

workers into retirement savings and give

them a stake in our ree-enterprise system

or the irst time ever.

I, or example, we could see real action to make Social

Security solvent, we would also see a huge surge in

condence at home and around the world, proo posi-

tive that Americans can control their own destiny. I wethen link a solvent Social Security system to reorms that

strengthen and extend private workplace savings to

reach virtually all working Americans, we would also be

nancing a new burst o economic growth. And as we

saw when looking at the drivers o our decits, economic

growth is the most critical variable and the best way to

cure our budget woes in the long term.


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Putnam Retail Management | One Post Oice Square | Boston, MA 02109 | putnam.com

Retirement savings can help keep the American promise

So please, everyone, bring this message to our leaders in Congress: Robust retirement savings are key to keeping the

American promise. They uel the capital markets that drive innovation and growth. They enable retirees to live in dignity

and not burden their children. Every penny o retirement savings spares government the potential need to help elders who

would much rather help themselves. And when young and middle-aged workers know they can count on strong, solvent

public and private retirement systems, they, too, can be reed up to take risks, to change jobs, to learn new skills and maybe

even start their own business, and to reach or their own American dreams.

Isnt that the American promise we all believe in? Lets send that message to our Congress loud and clear.

271681 11/11

1The Putnam Lietime Income Survey, with research methodology provided by the Putnam Institute, was conducted online

by Brightwork Partners and completed in the rst quarter o 2011. The survey o 3,290 working adults age 18 to 65 was

weighted to U.S. Census parameters or all working adults.

The views and opinions expressed are those o Robert L. Reynolds, President and CEO o Putnam Investments, are subject

to change with market conditions, and are not meant as investment advice.

Based on remarks to the American Society o Pension Proessionals and Actuaries, Maryland, October 24, 2011.

I, or example, we could see real action to make Social

Security solvent, we would also see a huge surge in

conidence at home and around the world, proo positive

that Americans can control their own destiny.

Putnam Perspectives: Savings, Solvency and the American Promise

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