Aficonados of the wilder suggestions about the pensions schemes out there will have come across this idea from Colin Hines and Richard Murphy that only investments in real assets might be allowed. Further, that these should be bonds paying perhaps a safe 1% – at times they allow as much as 3%.
Their insistence is that much savings is not in fact investment. It just goes to buy some second hand pieces of paper which doesn’t lead to the real building of real assets. Therefore we must change this so that savings into pensions build real things. Financed by those bonds.
The problem here is this:
Hundreds of thousands of workers do not have a pot big enough to fund an annual income of £21,000, even when combined with the state pension, according to a report from Standard Life Aberdeen, a pension provider.
Savers need a nest egg of £390,000 to reliably receive £21,000 per a year, the average amount pensioners expect to spend, for thirty years. However, two in three has saved less than this.
The state pensions is some £6,000 a year. Close enough at least, so we can lop that off the £21,000. That leaves us with £15,000 to find.
At a 1% yield £390,000 is going to leave us a long way short of that £15,000. We would actually need a pension pot of £1,500,000 to pay that. Ramping investment up to Chinese levels of GDP isn’t all that clever an idea. Yes, OK, making the future richer through investment is nice but we do in fact desire to have some living standard now.
It’s also true that at a 1% return during a working life then the average person simply cannot build up a £1.5 million pension pot. The lifetime income they’re trying to smooth over the lifetime just sin’t high enough to do that.
OK, so, perhaps it’s a 3% yield then? Well, that’s still not enough, is it? On £400k we get £12,000 – still not hitting our desired £15k.
It gets worse too. That £21k desired is inflation protected which it will need to be over the 30 years. The 3% being mooted is a nominal return, not real, and most certainly not protected. So, while the undersave will be less it is still true that switching to these bonds will require much greater levels of saving during a working lifetime and thus a lower standard of living across all of it.
This isn’t known as the way of making the people richer.
There is though a way of doing this. Which is to eat some of the capital over the time of the pension. This being what is actually done of course. But if you are invested in bonds then that means that you must be able to either redeem or sell on those bonds at the time of your choosing. That means that the bond issuers must be willing to return capital to saves at any time. That’s not the way to finance something. Or, obviously, those bonds can be sold.
Current pensions takers sell the bonds to those currently saving for their pensions. That’s the way to liquidate one pension pot and then save into another one. Which means that we’ve recreated, by necessity, the process of people saving into second hand pieces of paper rather than building new assets.
There is no way out of this. Unless pensioners consume their capital in retirement they must save vast portions of their income while working. Someone on £25k, countrywide median, must save 20 years of income in order to gain a £500k pension pot that will pay them £15k in retirement. That’s all income for 20 years to be saved at that 3% bond yield and that’s before we even think of inflation.
Or they must be allowed to eat their capital which means being able to sell second hand bonds. Which means other people saving into second hand bonds which is exactly the thing this whole scheme is meant to be avoiding.
If people are to be allowed to consume their capital then of necessity there needs to be some communality to this. For some will outlive their capital – a natural effect of variable lifespans – and some will underlive it. So, we need insurance companies with their annuities in there. Or at least some mechanism which performs the same function.
We’ve just, that is, recreated the current structure even as the plan is to entirely replace it. Which shows us what idiocy the plan is.
The root misunderstanding here is the belief that stock markets, or markets in investments even, are there to function as places to raise capital for real investment. This isn’t actually so. They’re places to sell investments made at some point in the past. Raising investment cash is a nice side effect but it’s not the reason – not even the economic reason – for their existence. Financial markets exist to allow people to sell primary investments. This requires that people be able to purchase secondary ones. Thus the whole idea of bypassing “financialised capitalism” through requiring primary investments from pensions savings fails. Fails on the grounds that it never has understood what the hell the markets they want to replace actually do.
Or, as we know already with Hines and Murphy, they know not what they speak of.