Why Economists Say Some People Should Save 0% for Retirement

Traditional financial advice often suggests saving a fixed percentage, such as 15% or 20%, of every paycheck from one's 20s until retirement. This approach is simple and memorable, but an entire branch of economics, known as life cycle saving or the life cycle hypothesis, posits that this might not be the optimal strategy for real life. Instead, the goal should be to maintain a reasonable, stable lifestyle throughout one's life, rather than saving the same percentage every year. The life cycle model of consumption, a core principle in economics, distinguishes itself from conventional advice by advocating for saving an amount that best balances current needs with future needs. It suggests people move through three financial phases: early adulthood (low income, high expenses), peak earning years (increased income, declining early expenses), and retirement (no employment income, living off accumulated assets). The theory proposes using saving and sometimes borrowing to smooth out consumption, meaning maintaining a consistent standard of living, across a lifetime. This doesn't imply frivolous spending but rather covering essential goods and services like housing, food, healthcare, and vacations. Consider a couple in their early 30s with a combined income of $100,000. They might face significant expenses like $30,000 annually for daycare and $8,000 for student loans, alongside a new mortgage. If they save 15% during this period, they could be forced to live on significantly less than what they would have available later. By age 50, the same couple might earn $180,000, with daycare costs gone, student loans paid off, and a mortgage payment that consumes a smaller percentage of their income. The life cycle model suggests a fluctuating savings capacity throughout life, heavily dependent on a rising income. In their 20s, with lower income, a savings rate of 0% to 8% might be appropriate. In their 30s, with growing income but high expenses like a home, children, and childcare, a 5% to 12% savings rate could be suitable. In their 40s, with higher income and reduced childcare, a 12% to 20% rate might be achievable. By their 50s, near peak income with children leaving home and debts declining, a 20% to 35% or more savings rate could be possible. In retirement, the savings rate becomes negative as accumulated assets are drawn down. A constant 15% savings rate can create financial strain in middle years when raising children, leading to an increasing lifestyle as income grows, and then a struggle in later years to replace an inflated income. Life cycle saving, conversely, asks how much one can consume today while funding a similar, sustainable standard of living later. This could mean saving less at the start of a career and during periods of high childcare expenses, then saving more as income increases, deliberately avoiding lifestyle inflation. Traditional retirement planning often aims to replace 70% of one's final income. The life cycle theory argues that final income might be an inappropriate reference point because pre-retirement income often covers temporary costs not needed in retirement, such as mortgages, retirement savings, payroll taxes, child-rearing, and work expenses. For example, someone earning $150,000 might save $30,000, pay $11,000 in payroll taxes, spend $15,000 on children, and put $10,000 towards mortgage principal. Their actual lifestyle cost might be $84,000, not $150,000. This $84,000, adjusted for taxes and retirement-specific expenses, is the number they actually need to replace. This is a central argument of economist Andrew Biggs, highlighting that many costs change over a life cycle. In youth, most economic wealth is human capital (future earnings), while investment accounts are small. As one ages, human capital declines, but financial capital grows, eventually replacing income. A young person with little invested isn't necessarily destitute, as their human capital is significant. However, human capital cannot be borrowed against. Let's compare two scenarios for a hypothetical worker starting at 25 and retiring at 65, assuming an 8% annual return and no employer match. Income is expressed in today's dollars. Scenario 1: Life Cycle Saving (using lower end of ranges) - Ages 25-29: Income $50,000, 0% savings rate (0 contribution) - Ages 30-39: Income $70,000, 5% savings rate ($3,500/year) - Ages 40-49: Income $100,000, 12% savings rate ($12,000/year) - Ages 50-64: Income $160,000, 20% savings rate ($32,000/year) Total contributions: $635,000. Account balance at 65: approximately $1.8 million. Scenario 2: Consistent 15% Saving - Ages 25-29: Income $50,000, 15% savings rate ($7,500/year) - Ages 30-39: Income $70,000, 15% savings rate ($10,500/year) - Ages 40-49: Income $100,000, 15% savings rate ($15,000/year) - Ages 50-64: Income $160,000, 15% savings rate ($24,000/year) Total contributions: $653,000. Account balance at 65: approximately $3 million. The consistent saver contributed only $17,500 more over 40 years but finished with $1.3 million more due to earlier investment and compounding. The life cycle saver, saving little early and aggressively later, has fewer years of compounding. While a more aggressive catch-up strategy for life cycle saving (e.g., 0%, 8%, 20%, 35%) could narrow the gap, it's unlikely to fully overtake the benefits of early compounding. However, a bigger portfolio isn't necessarily the only measure of success. Using a 5% initial withdrawal rate, the life cycle saver's $1.8 million yields $89,000 in the first retirement year. Adding $60,000 in Social Security (for a two-earner household) results in $149,000 of first-year retirement income. This compares favorably to their pre-retirement spending. In their 50s, saving 20% of $160,000 meant living on $128,000 before taxes and work-related costs. Thus, $149,000 could support a similar or even higher lifestyle. The consistent 15% saver's $3 million yields $152,000 at a 5% withdrawal rate, plus $60,000 in Social Security, totaling $212,000. This is well above their $160,000 pre-retirement income and likely above their spending needs. While extra money offers a greater margin of safety, flexibility, and options like early retirement or inheritance, the life cycle question is whether that additional $1.2 million was necessary to fund the desired lifestyle. Did aggressive early saving force unnecessary sacrifices in lifestyle? This concept is explored in books like "Die with Zero," which advocates for optimizing the utility of money across one's entire life rather than maximizing the ending bank account balance. That extra money could have funded memorable experiences like concerts or family vacations when children were young, or simply eased financial pressure. While aggressive saving is a valid approach, life cycle saving challenges whether maximizing the ending portfolio should always be the primary objective, or if maximizing enjoyment and usefulness of money throughout life is a deeper goal. Academic research supports the life cycle model. A review in the Journal of Economic Perspectives calls it highly influential, though noting that households don't always perfectly smooth consumption. A study in the Journal of Political Economy found that an optimal savings rate, tailored to individual household factors like earnings history, children, marital status, pensions, taxes, and life expectancy, explained over 80% of the variation in household wealth. This suggests no universal savings target exists; the right target is highly personal. Over 80% of older households in this study had saved at least their optimal target. Children significantly change the math, as their costs temporarily reduce resources for both consumption and retirement saving. The model predicts parents save less when kids are young and more as they become independent. However, real-world behavior deviates. Studies show that when major expenses like childcare disappear, people don't necessarily increase retirement savings. Instead, they often reduce work hours, converting freed-up cash into leisure rather than increased net worth. The economic model predicts increased retirement savings, but observed behavior shows declining work, changing consumption, and no clear increase in wealth. "I'll catch up later" is theoretically sound but behaviorally unreliable, often leading to "save more never." Compounding is another critical factor. Early savings grow significantly more due to a longer runway. A dollar invested at 25 grows to about $15 by 65 at a 7% return, while at 35, it grows to about $7.60. A late saver can catch up, but at a much higher cost in terms of contributions. Future income is also less predictable than models assume, with health, career, and family dynamics subject to change. Financial advisors often default to a consistent percentage because they cannot confidently predict future circumstances, and human capital cannot be borrowed against. The model assumes more rationality than people possess; for example, auto-enrollment in savings plans shows people are more likely to participate if they don't have to actively opt-in. There's a real cost to saving too little too young, such as missed employer matches or 401k contribution room. Consumption patterns are also not perfectly smooth, tending to be hump-shaped (lower when young, higher in mid-life with kids, then lower in retirement). Retirement also carries risks like living to 100, long-term care, or poor market returns, which an average-outcome model might overlook. Life cycle saving probably works best for high earners with predictable careers but is less ideal for those with volatile incomes or little margin of safety. Simple rules like "save 15%" are easy to automate, increase in dollar terms with income, and don't require predicting the future. Advisors recommend a flat number because it's designed to survive life's uncertainties. People are better at delaying savings than at increasing them later. Aggressive saving provides more options and flexibility, while undersaving leaves few. Who benefits from life cycle saving? - Young parents with large, temporary, necessary expenses like daycare with a known end date. - Individuals with steep, predictable earnings trajectories (e.g