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More about ‘economic ecology’

by Don Kuehn

In my last column, I coined the term “economic ecology” saying, “… it is incumbent on all wage earners (regardless of gender) to learn as much as they can about the economic ecology—how to make money, how to conserve it, how to grow it, and how and when to harvest it.”

Let’s take a closer look at each phase:

How to make it. It’s not just about going to work and collecting a paycheck. It also means budgeting and controlling expenses, living below your means and making wise choices about spending. An old axiom puts it like this: “It’s not how much you make that matters, it’s how much you keep.”

Keeping as much as possible so that you can invest and grow your money includes separating things you want from things you need.

How to conserve it. There is a difference between saving and investing. You save in very low-risk accounts—like money market and passbook savings accounts—for short-term expenses like holiday shopping, unexpected medical bills or needed car repairs. You invest to grow your assets, hopefully, at a rate faster than inflation—that is, real growth—so that your money will be worth more when you retire than it is today.

Investing has some inherent risks. There is the chance that the investments you choose will decline in value, or experience short-term losses as the economy cycles through periods of growth and decline. To cushion the effect of the swings in the market, diversify your assets so that some investments will be cycling up during the times when others might be declining.

How to grow it. I am a strong advocate of no-load, low-cost mutual funds. A mutual fund is a basket of stocks or bonds that generally share common characteristics, e.g., they pay dividends, are part of a market index, are all small companies or large multinationals; they are bonds representing loans to companies, municipalities or special governmental districts (like sewers, roads or utilities). By selecting funds in various categories, over time you can build a portfolio that is diversified and balanced between stock and bond funds.

By late October 2012, the average stock mutual fund had gained 11.4 percent for the year and 124 percent from the “bottom” of the market plunge in 2009, according to Lipper Analytical Services. And the average general obligation U.S. bond fund is up 32 percent since September 2007.

The combination of stability afforded by bonds, growth found in stocks, and reinvested dividends has resulted in a sizable rebound in the retirement accounts of those who stayed the course when the bubbles burst and the markets crashed a few years ago.

Generally, conservation of assets also includes rebalancing your portfolio as market conditions or your personal situation changes. For most people under 50 the bulk of all assets should be invested for growth. That means a greater proportion of stocks over bonds (funds). Some recommend a formula where you subtract your age from 100 and invest that amount in riskier stock funds. But like any rule of thumb, your situation, tolerance for risk and family circumstances will impact that balance.

As you near retirement, that balance shifts toward more safety and less risk (more bonds) because there is less time to recover from a potentially catastrophic loss.

How and when to harvest it. You should be able to withdraw 4 percent per year from a well-diversified portfolio without fear of running out of assets before you die. The problem is, 4 percent isn’t very much money; and most Americans nearing retirement haven’t saved or invested enough for that to support a satisfying retirement.
A recent study by pension consultant Aon Hewitt revealed that the average defined-contribution account, like a 403(b) or 401(k) has a balance of $74,380. While that may seem like a fair sum, at 4 percent it represents a withdrawal rate of less than $3,000 per year.

Fidelity Investments has calculated that a withdrawal rate of more than 5 percent “steeply increased the risk of depleting retirement savings during an investor’s lifetime.” In fact, a $500,000 portfolio consisting of 50 percent stocks, 40 percent bonds and 10 percent short-term investments would only last 10 years if one were to withdraw 10 percent per year. But at 4 percent, it could be expected to last 36 years—long enough for a healthy 65-year-old to make it past the century mark.

Knowing when to harvest your retirement assets is a different issue. Americans have long held the notion that retirement is supposed to happen at age 65. That’s been the magic number since Social Security began. But retirement can’t be triggered by an arbitrary date or age. It is critical to gauge your retirement readiness on the amount of money you have set aside to fund your later years.

To know when you’re ready, you have to assess what your expenses are now, and what they will be when you think you will be ready to retire. If you have a great deal of debt (a home mortgage, car loans, high credit card bills or other monthly costs), you need to work that debt off before you retire; otherwise you’ll deplete your nest egg faster than you had planned.

You have to know what your assets will be. The Social Security Administration (SSA) used to mail a paper version of the annual benefit statement that estimates your monthly income if you take benefits early, if you wait until your “full” retirement age, as well as how much more you’d get if you wait to collect benefits. In 2011, to cut costs, the SSA discontinued sending paper forms to anyone under age 60. However, you can go to where you can create a secure account to view your information online.

You can get an estimate of your state retirement benefits by contacting the administrator of your system. And you should be getting regular statements (at least quarterly) from your 403(b), IRA or any other personal retirement accounts you may have. If you have been paying into an annuity, tally that as well. In short, gather all of your financial statements and make an assessment.

According to the Employee Benefit Research Institute (EBRI), nearly half of all baby boomers risk not having enough resources to pay for a “basic” retirement. In many cases, they retire as soon as they can start collecting benefits, thinking they will have enough to live on. But they spend down their income too soon, either because they are still servicing debt, incur unanticipated expenses, or don’t believe the studies that forecast how long they will live.

According to the Society of Actuaries, 46 percent of pre-retirees don’t believe they will live as long as the average population. And while that may be pretty close (mathematically), knowing whether you are one of the ones pulling down the average is the tricky part. What if you fall into the other half and live well into your nineties?

You may read some projections that working to age 70 would be a panacea to ensure adequate retirement income. After all, if you’re working you aren’t drawing from your nest egg; you are continuing to contribute to Social Security and to your pension plan—whether it is a 401(k), 403(b) or state plan; and your expenses can be brought under control.

But the EBRI finds that for approximately one-third of people between the ages of 30 and 59, working longer just won’t be enough. The difference between the EBRI analysis and other studies that point toward age 70 retirement is that the EBRI takes into account the very real issues of longevity risk (living longer than you thought), investment risk (the chance the markets will swoon at or near your retirement date) and the complications of catastrophic healthcare costs (such as nursing home stays).

It doesn’t matter whether you are close to retirement or just starting out in your career, the reality is that you have to understand your own economic ecology and begin immediately to organize your finances for your own future. The decision of when to retire should be based on your financial readiness, not on a magic (age) number. It’s your money, and right now is the time to get it together, so one day you can enjoy the kind of retirement you deserve.

Don Kuehn is a retired AFT senior national representative. For specific advice relative to your personal situation, consult competent legal, tax or financial counsel. Comments and questions can be sent to