Rise and fall of boomers and busters

By Michael Coote

Thursday 8th April 2004

New Zealanders are reluctant to thank Australians for anything but recent announcements across the Tasman deserve our gratitude.

The Australian government has warned its people that within the foreseeable future there will be no outright retirement for the majority of them, but rather a mixture of semi-retirement and part-time work.

The reason is unaffordability of publically supporting fully retired baby boomers, and this in a country that has compulsory saving and is far richer and more economically stable than New Zealand will ever be.

Our Aussie neighbours have, by implication, invited us to wake up and smell the coffee. New Zealand is a poor cousin to Australia, and notwithstanding the de facto compulsory saving of the so-called Cullen Fund, we are likely to be in a worse position to support future elderly through redistribution.

There's increasing urgency around the developed world about the risk that baby-boomers will not be adequately provided for in retirement. The biggest economies the US, Japan and Germany are confronted with these problems, so sheer brute size and wealth of an economy is not the answer. Many developed economy boomers will end up old, poor and drudging past their mid-60s. The good news is increased life expectancy, in which to experience these joys.

Accordingly, today's workers are being urged to save frantically to become tomorrow's comfortable retirees. The implication is that every working person should become a capitalist. They should buy shares and bonds, typically through a managed fund structure, although some may prefer to invest directly.

But problems are not so simple that they will be solved by universal thrift. Critical is what rates of return can be expected over the long-term due to necessary trade-offs between rates of saving, consumption and indebtedness if a mass change to thrift by boomers occurs.

Savings rates have declined across developed economies. People would rather buy today than have the future deferred spending that saving represents. Moreover, as burgeoning household debt testifies, people are prepared to leverage consumption, which places them even more remotely from saving. Central banks have encouraged a debt-fuelled consumption Ponzi scheme by cutting interest rates to low levels in recent years. These are the same organisations heard to lament low savings.

For boomers a paradox arises. High general consumption and indebtedness boosts compounding returns on share portfolios through increased corporate profits, dividends and capital growth, but also increases the risk of major shocks as debts eventually curb spending and trigger savings-led recessions and depressions.

Alternatively, increases in general savings at the expense of consumption and debt reduce compounding returns through decreased profits, dividends and growth. As consumption and debt decline through thrift, they contribute toward a mutually reinforcing downward returns spiral with an escalating need for increased savings.

Retirement investors are faced with two alternatives if thrift is to oust consumption, especially leveraged consumption: save more than would previously have been recommended in traditional assets like bonds and shares, and hope that decreased consumption as others do the same does not demolish compounding returns, or invest in higher risk/return assets that might not generate the desired result if they blow up late in a person's savings cycle as retirement nears.

As boomers save more, their own demand inflates asset prices, which then cost more to accumulate. When they liquidate en masse in the future, they will deflate prices, because who will be around to buy all those assets?

Investment markets will be hard-pressed to provide for future wrinklies whether savings rates go up or down. Work is the pension of the poor, and so it shall be for most of today's low-saving high consumers besides.

The future extreme gap of note between haves and have-nots will be between the old rich and the old poor in developed economies and its preconditions are operative now.

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