The already-shaky financial picture for many American households has been further threatened by the COVID-19 pandemic and its economic fallout. In particular, a lack of emergency savings was a serious problem long before this crisis, and many households are now draining what little they had. Liquid savings, of course, is only one piece of the financial security puzzle, and it should be addressed in tandem with retirement savings, student loan and personal debt, housing, and jobs, which are all intrinsically linked. But when a household is living essentially paycheck to paycheck, without any cash on hand to cover unforeseen expenses, bigger-picture planning is nearly impossible. Financial resiliency must be the starting point.
For the average American, liquid savings are what can prevent urgent financial needs from becoming a full-blown crisis. Even prior to COVID-19, most household balance sheets were in rough shape. A 2019 survey found that 65% of households lack a mere six weeks of take-home pay on hand. Another survey of likely voters, conducted by the Bipartisan Policy Center and funded by the Rockefeller Foundation, found that 37% of respondents would be unable to cover more than a month of normal spending with their emergency savings.
This liquid savings shortfall can have devastating consequences for long-term financial security. Specifically, it can lead workers to jeopardize their financial futures by drawing down their retirement accounts, incurring taxes and often penalties. In more dire circumstances—particularly for many low- and moderate-income families—an unexpected medical expense or broken-down car can force a household to borrow on high-interest credit cards, resort to costly payday loans, or spiral into foreclosure or eviction. Some of the consequences can be seen through underserved consumers, such as those without bank accounts and those using alternative financial services like payday loans, who collectively spent $173 billion in fees and interest payments during 2017. Penalizing those with less access to liquid savings replicates itself across other systems, which can unfortunately tether those without financial means to a cycle of debt and financial insecurity.
Although households throughout the country struggle to build up a savings cushion, the challenge is most acute in communities of color. Prior to the pandemic, Prosperity Now found that 37% of U.S. households are liquid-asset poor, meaning they have insufficient savings to live for three months at the federal poverty rate, but 58% of Black and Latino households fell into that category. Much of this difference can be attributed to longstanding racial income and wealth gaps.
Fast-forward to the current crisis, which has further elevated this issue of emergency savings. As families across the nation deal with financial shocks, including loss of work and reduced wages, hospital bills, and unexpected expenses, the ability to set aside additional funds has grown even more difficult. Many households are draining the limited savings they started with, which is especially true among households of color, who have been hit harder by COVID-19 and its fallout. BPC’s survey from May found that among those with emergency savings at the start of this crisis, 70% of Black households and 60% of Hispanic households say that they have dipped into them during the past few months compared to only 34% of white households.
Having immediate access to funds insulates households from risk, creates alternatives to borrowing, and provides a way to smooth out income volatility. It also provides peace of mind. Not surprisingly, a survey of lower-wage workers conducted by Commonwealth found that those with more than $400 in savings express fewer financial concerns than those with less than $400 in savings, regardless of wage or debt.
With so much at stake, how can we help households build these emergency funds to address urgent needs? The nature of the problem will require action and initiatives from both the private and public sectors.
In the private sector, a number of efforts are underway to help employees accumulate savings and make it easier to access cash. BlackRock has created an Emergency Savings Initiative that has joined educational, financial technology, and industry partners to incubate and test solutions to household liquidity issues. One approach that employers can initiate is an employee hardship fund or cash benefit program to provide workers with a quick cash grant in a moment of need. This can allow a worker to avoid major disruptions like missing work, taking on risky debt, or missing a rent payment. Other maturing private-sector options are helping workers avoid high-interest debt and payday loans, such as DailyPay’s system, which for a relatively modest cost, allows employees to access their earnings as needed instead of waiting on pay period cycles.
From the public side, policymakers should look for solutions at both the state and federal level. One strategy that has been implemented by some states to help low- and moderate-income savers are Individual Development Accounts, which match savers’ deposits given that they participate in financial education and use the funds accumulated for financial goals such as postsecondary education, homeownership, or capitalizing a small business. Several states— including California, Illinois, Oregon, and others—have established state-run retirement plans into which employers are required to automatically enroll their workforce. Although these accounts are nominally for retirement, they can double as an emergency fund for those who lack other savings, because contributions are made on an after-tax basis.
There are also opportunities to help households at the national level. One bipartisan bill would allow employers to automatically enroll their workers into emergency savings accounts, just as is done with retirement savings accounts today. Another proposal, the Refund to Rainy Day Savings Act, would help families build emergency savings during tax season by allowing tax filers to save a portion of their refund for a “rainy day” later in the year. Federal approaches like these or others, coupled with state-based and private-sector action, would help communities get through this financial setback and be prepared for the next one.
One thing is clear: Everyday household financial struggles have been brought front and center—exacerbated by the pandemic’s economic impact—and addressing them must be a national priority. Helping Americans build liquid savings for emergencies is a key step towards that goal and would move millions of households closer to financial resiliency.
See this blog originally published on the Bipartisan Policy Center’s page here.