How much money will you actually get when you retire? And how secure will that income be?
Slowly but surely a debate is starting to open up about the impact of ageing populations on economic growth. And as a result, a second and equally important debate is starting about what is actually happening to pensions.
“We really see retirement as the next big financial crisis,” says Barbara Novick, vice chairman of BlackRock, the world’s largest money manager, with $3.86 trillion in assets. “The longer we don’t address it, the bigger it gets.”
It is also a very difficult area to track. So the blog tips its hat to John Maudlin, who has been examining the position with regard to state and city pension funds in the USA with the assistance of Lumesis. Three key conclusions emerge:
- What we are told is only half the story, or even less, for most publicly-funded pension plans. Most will say they are fully, or nearly fully-funded. But that is only because they use unrealistic assumptions about the rates of return expected for their investments. Texas, for example claims to be >80% funded, but Maudlin’s analysis suggests it would be 43% with realistic return assumptions
- New rules proposed by the Governmental Accounting Standards Board and Moody’s will soon overcome this problem. But this greater clarity will then highlight a deeply worrying position – both for those who expect to claim a pension, and for state tax-payers who will be asked to make up the difference on any shortfall
- Individual cities have similar problems. San Jose, the capital of prosperous Silicon Valley in California, is spending 20% of its $1.1bn general fund on pensions and retiree healthcare. It has already been forced to reduce other services as a result, and is now trying to reduce retiree benefits through the courts
Maudlin’s chart above shows today’s reported level of each state’s unfunded pension liability as a percentage of its total liability. In other words, if a state pension fund claimed to be fully funded, it would be 100%. Sadly, only those few marked in blue are anywhere close to this, being between 8% – 18% unfunded. Those in green are 18%-22% unfunded. Those in red are >44% unfunded. When the new rules are implemented, the position will be far worse. Texas today is shaded green, for example. And, of course, these figures do not include healthcare costs.
The sad conclusion is that most state pensioners will not get the pension they are expecting. Equally likely is that taxes will rise in most states, in order to help make a bad position less bad. Overall these developments will reduce the total amount of cash that people have to spend. Detroit’s application to freeze pensions, and the accusations of fraud, are likely just the first of many such situations.
Nor will this affect only a small number of people. We don’t know the number of state pensioners, but we do know that 65m Americans are already over the age of 60, one in five of the population. In 10 years’ time, the over-60s will be one in four. By then, latest official estimates suggest Medicare will be about to run out of money, followed by Social Security in 2033.
We also know that nearly 2 out of every 3 pensioners rely on Social Security for 50% of their income, according to Democracy for America. Whilst 1 in 3 rely on it for 90% of their income.
Consumption is 71% of US GDP. It is therefore wishful thinking for any policymaker to argue that GDP growth can possibly go back to the SuperCycle levels, given the outlook for pension income. Ageing American Boomers not only don’t need to buy all the things they bought when their families were growing up. They also can’t afford them.