Robbing Peter Jr. to Pay Paul Sr.

Younger workers face dwindling benefits and soaring costs as governments and corporations divert funds to baby boomers

By Amey Stone

Consider what could be a typical family conversation in the not-too-distant future:

Adult daughter: "Mom, I hate to ask this, but we could really use some help with our mortgage payment this month."

Mother: "Last month it was your credit-card bill, this month your mortgage. If this begging keeps up, I won't be able to pay my property taxes this year. I'm only 75, and I'm halfway through my 401(k) plan."

Daughter: "Yeah, but at least you have a 401(k) plan. My new job isn't even offering benefits. And remember, part of my check is going to pay your Social Security."

Ouch! Policymakers have long warned that the coming retirement of 79 million baby boomers will inevitably lead to increased intergenerational conflict, as the senior set puts extra pressure on government programs like Social Security and Medicare. But that pressure may prove just the tip of the iceberg. Corporations, too, are feeling the pinch as they face a coming wave of retirees and cut back on benefits to help keep their balance sheets in good shape.

Meantime, financial pressures on younger Americans are mounting as the price tag of major expenses -- education, health insurance, and housing -- rises sharply. A likely interest rate rise in the next few years, which will make their debt more costly, isn't going to help matters.

These new economic realities, recent public policy moves, and election-year politics are accelerating the coming war between the generations, raising painful questions about exactly where the government and Corporate America are going to get the kind of cash needed to fund obligations to future retirees. Generation X-ers won't take kindly to the benefit cutbacks and tax and fee hikes that await them when the baby boomers start to retire en masse.

COSTLY TAX CUTS.

  "For now, it's a muted concern at best," says Robert Smith, president of Smith Affiliated Capital in New York. But he expects Gen X-ers to get more concerned -- and more aggravated -- over the next few years as their costs increase while their benefits decline. "We're building to a crescendo at the point when boomers are really ready to retire."

Increasing attention to the gargantuan federal deficit is lately adding to the public perception that the current generation is getting tax breaks at the expense of future workers. This isn't quite the scenario the Bush Administration is hoping for. It believes tax cuts will stimulate enough income growth to more than make up for the lost tax receipts. So far, though, that isn't happening.

Even given recent strong economic growth, the nonpartisan Congressional Budget Office predicted in a Jan. 26 report that the 2004 budget deficit would total $477 billion (up from 2003's $375 billion) and that the nation's total debt would grow by an additional $1.9 trillion over the next 10 years. "These figures are based on very optimistic projections for good solid growth and no recessions," says Mark Zandi, chief economist at research firm Economy.com. "The budget deficit is not going to get better with the expanding economy."

SOCIAL INSECURITY.

  Americans might worry less about the federal deficit if the well-publicized Social Security problem were close to being solved. But that one hasn't even begun to be tackled. Here's the problem in a nutshell: In 1960, there were 16 workers for every Social Security recipient. Now, that ratio is 3.3 to 1, and by 2030 it will be 2 to 1. Since current workers fund payments to current recipients, "Social Security taxes are going to have to be raised," says Edward Deak, an economics professor at Fairfield University. By Amey Stone Even more worrisome, the government seems intent on spending more on other things to keep boomers happy. For example, the new Medicare overhaul, which provides some prescription-drug coverage to seniors, is now estimated to cost at least $530 billion over the next 10 years, up from an estimate of $400 billion when the law was signed last December.

Meantime, Bush has promised more tax cuts. In the short term, "the U.S. is big enough and strong enough to handle its debts," says Deak. "The big problem is that deficits work to force interest rates higher eventually." For now China and Japan's massive buying of U.S. Treasury bonds is helping keep rates low. But down the road, that demand will cool, believes Zandi.

SHRINKING BENEFITS.

  When rates rise further to keep foreign investors attracted (in addition to being the inevitable consequence of improved economic growth, hinted at by the Federal Reserve on Jan. 28), Gen X-ers will feel the pinch. Mortgage rates will creep higher, making homes less affordable and hurting the housing market. And it will become harder for consumers to pay their debts. Smith estimates that two-thirds of consumer debt has a variable rate. That means the cost of servicing debt will go up as rates rise.

Gen X-ers are already feeling one pinch: More businesses are curtailing benefit programs, partly as a result of the high cost of health-care and retirement benefits for all those boomers. That's happening even though a Jan. 14 survey by the Kaiser Foundation found that 10% of large companies had eliminated subsidized health-care benefits for future retirees in the past year, and 20% said they were likely to end coverage in the next three years. These changes primarily affect new hires, leading to a two-tiered system where future retirees will get fewer benefits than current ones, notes Smith.

Making matters worse, corporate retirement plans are getting less generous as underfunding of pensions reaches a historic high. A Dec. 23 study from a Standard & Poor's research arm found that despite strong stock market gains, pension-funding shortfalls worsened in 2003, growing to a record $259 billion, from $212 billion in 2002. The pension problem hints that an even bigger problem may be lurking: Underfunded 401(k) plans.

YOUNG HAVE-NOTS.

  "Not only are there going to be a lot more people retiring, but how many of them have made any preparations beyond relying on Social Security and Medicare?" wonders Deak. Some economists even speculate that as boomers start selling off their assets -- primarily homes and stocks -- to fund their retirements, they'll create gluts that could drive down housing prices and the stock market.

Most economists insist that such worries are premature. For now it's enough to fret about mounting federal debt, a huge Social Security funding gap, and worsening retirement-plan shortfalls at the same time the first boomers are getting ready to retire.

"The most fundamental conflict is between the haves and have-nots," says Zandi. "But younger workers tend to be in the have-not group." Thus, pressure is mounting on both aging boomers and the Gen X-ers that will follow them. And soon, they may be ready to rumble.

Stone is a senior writer at BusinessWeek Online and covers the markets as a Street Wise columnist and mutual funds in her Mutual Funds Maven column

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