Saving money isn’t the only thing you need to do to prepare for retirement

Seen it all before.
Seen it all before.
Image: EPA/Wu Hong
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Most people don’t realize until it’s too late, but the hardest thing about saving for retirement is deciding what to do after you quit working. Retirees must figure out how much they can spend, leaving enough to cover health expenses for the rest of their lives (and their partner’s), however long that may be.

By comparison, saving is easy—you just divert some of your paycheck into an investment account, and hope that if the investments don’t pan out, the income you keep adding to it can more than make up the difference. There is less room for error after you retire; if you invest poorly or spend too much, there’s no way to replenish the pot.

A cruel fact of life is that as we age, our brains deteriorate. That means that just as we are expected to make some of the most complex financial decisions of our lives, our cognitive abilities are on the decline.

But not all hope is lost. Older people have high levels of crystallized intelligence, which is the sum of their knowledge, experience, and expertise. This kind of intelligence is useful in making wise financial decisions. Fluid intelligence, by contrast, is the speed and capacity for generating, transforming, and manipulating information. The loss of this kind of intelligence varies across individuals (pdf), but typically it falls two standard deviations between age 20 and 70, reflected in lower reaction times and a loss of short-term memory.

Researchers at Columbia assembled a group of nearly 500 Americans, measuring their cognitive abilities as well as collecting their credit scores (a way to judge their financial acumen). They studied how credit scores varied by age and the two forms of intelligence. In terms of the ability to make shrewd financial decisions, the researchers found that older people more than made up for their diminished fluid intelligence if they had gained experience and expertise in financial matters (that is, subject-specific crystallized intelligence).

This has major implications for retirement savings, for people of all ages. The riskiest thing you can do is not to pay attention to financial matters until late in life. Women often leaving financial planning to their spouse, and struggle financially when they are widowed. Needless to say, learning financial concepts when you are 70 is harder than when you are 40, even if in retirement you have a lot of free time on your hands.

Long before you retire, then, it is not enough simply to save; it’s important to gain financial literacy as well. The more knowledge you enter retirement with, the better off you’ll be to make fundamental, life-altering financial decisions. Because it is harder to gain new knowledge as you age, it’s important to start as early as possible, and build expertise the same way you build assets.