Wage Inequality Will Exacerbate Retirement Income Inequality

If the hourly wage gap between college and high school graduates continues to grow at its current pace, the impact would reverberate into retirement, research from the Urban Institute suggests.

If the hourly wage gap between college and high school graduates continues to grow at its current pace, the impact would reverberate into retirement, because Social Security benefits are tied to lifetime earnings, and how much people can save for retirement depends on how much they earn, researchers for the Urban Institute conclude.

 

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The researchers’ projections show that mean income at ages 67 to 75, measured broadly to account for the value of owner-occupied housing and retirement savings and excluding tax and Medicare premium payments, would increase in the top fifth of the lifetime income distribution by 3% in 2045, 5% in 2065, and 7% in 2085. However, in the bottom fifth of the distribution, retirement income would fall by 3% in 2045, 6% in 2065, and 13% in 2085.

 

“These losses exceed the percentage decline in lifetime earnings, despite Social Security’s progressive benefit formula that replaces a larger share of preretirement earnings for people with limited lifetime earnings than for those with more lifetime earnings,” the researchers note.

 

They found that a higher minimum wage could mitigate but not eliminate the effects of growing wage inequality on future retirement incomes. Immediately raising the federal minimum wage from $7.25 to $12 per hour and subsequently adjusting it for inflation would raise lifetime earnings and future retirement income for people in the bottom two-fifths of the lifetime earnings distribution, but the impact would dissipate over time, despite the built-in inflation adjustment. They explain, “As average wages grow faster than prices, the share of workers who would otherwise earn less than the minimum wage would fall each decade. For retirees in the bottom fifth of the lifetime earnings distribution, the simulated increase in the minimum wage would offset 57% of the retirement income lost to rising wage inequality in 2065 and 37% of lost retirement income in 2085.

 

The researchers say a key determinant will be how policymakers respond to Social Security’s long-run financing shortfall. The projections assume that future retirees will receive full benefits scheduled under current law; however, Social Security’s Board of Trustees project that the system will only have enough funds to pay about three-fourths of scheduled benefits after 2034.

 

They make other suggestions:

  • Worker training and apprenticeship programs could boost lifetime earnings for less-skilled workers.
  • Social Security reforms, such as creating a meaningful minimum benefit or changing the benefit formula to improve progressivity, could raise benefits for retirees with low lifetime earnings.
  • Policy options to boost retirement savings include financial literacy training and federal or state mandates requiring employers that do not offer a pension plan to allow workers to automatically divert a portion of their paycheck to a retirement account.
  • Tax reforms could raise savings incentives for low-wage workers who do not benefit much from income tax deductions, the primary savings incentive in the current tax code.

 

“Together, these programs could provide all workers with a path to retirement security even as wage inequality grows,” the researchers conclude.

 

The full research report may be found here.

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