Tuesday, June 2, 2009

A policy idea?

. Tuesday, June 2, 2009

As has been discussed on this blog (here, here and here) and on many others in recent weeks, US unemployment has increased to about 9% and American families are really being affected by the recession. The job cuts are particularly affecting middle income Americans: those who prior to the crisis believed they had relatively stable jobs making good money, were out in the market buying homes and other goods and making regular contributions to their 401k's (with their employers matching these contributions) and other retirement accounts. 


Seeing as how as an aspiring IR scholar I am already irrelevant, I figure any policy proposals I toss out on this blog won't be taken seriously. Or even if what I say is taken seriously, someone can just take it and run with it since policy makers don't know that I exist. So here is my proposal and my logic. 

With the collapse in stock prices over the last year, many Americans have seen the value of their retirement accounts halved and their purchasing power eroded, postponing the planned retirement of many that were on the verge, and adding to worries about retirement options for those hoping that they would be able to retire at some point in the future. 

Not only have many Americans seen their retirement savings dwindle, many have also lost their jobs over the past several months. Unable to find a new job, many middle income earners have had to dip into their savings and eat into their 401k accounts to simply make ends meet.

Now, when these people make withdrawals from their 401k accounts, they are subject to a 10% penalty. According to 401k.com, any funds withdrawn before the age of 59½ is subject to an excise tax equal to ten percent of the amount disbursed, including withdrawals to pay expenses due to a hardship. A really simple and efficient way to get more money into the hands of middle income earners who are most likely to spend the money paying bills and covering housing and food costs, would be to suspend the 10% excise tax on all withdrawals made by any person that was unemployed during the previous and/or current fiscal year. The change in policy could be made effective for 6 months at a time and be reviewed depending on the pace of economic recovery. 

This simple change in the rules governing 401k withdrawals would provide hundreds of thousands of households with a quick, easy and inexpensive boost in income. The government would not have to pass any new legislation, would not have to print checks and spend money and time mailing them to taxpayers, and the economy would get an immediate boost (either by people taking out more money and spending it or leaving more money in their 401k accounts for use in the short run). Furthermore, this idea would simply allow people to keep their own money, without it having to be in the form of a tax break which would face resistance in Congress and would be difficult to roll back once a recovery begins. Furthermore, I'd guess (without any data whatsoever) that the multiplier effect on the extra 10% in 401k money would be as high or higher than that on tax cuts, rebate checks or other forms of fiscal stimulus.  

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