The 2008 recession and the 2020 pandemic are hastening the end of retirement as we now understand it. The problems of chronic underfunding, low returns, longer lives and increasing aged care and medical costs are accelerating. The pressure has been exacerbated by individuals forced to draw on funds during the pandemic.
Average balances in super are insufficient
Australia’s post-work savings system, a model for the world, illustrates the unsustainability of the arrangements. Despite its small population of about 26 million, Australia has over $3 trillion in private retirement savings. Mandatory contributions (currently 10% of pre-tax income) and generous tax benefits underpin this savings pool, which is one of the largest in the world.
However, the typical accumulated balance at retirement age is about $200,000 for men and about half that for women. ASFA data shows the average super balance for men aged 55 to 64 is $332,700 and women is $245,000 but the medians are a more accurate measure and they are only $183,000 and $118,600 respectively. The averages are artificially increased by a small pool of people with large balances but even the average balances are well below the $600,000 to $700,000 estimated to be necessary for homeowning and debt-free couples to finance their retirements, which may last 20 years or more.
The shortfall forces increased reliance on a government-financed pension, originally intended only as a safety net. About 70% of retirees are reliant in part or full on the state pension, which, at about 40% of average weekly earnings, is substantially lower than the 65-75% thought to be needed in retirement. With public finances stretched, access to the government pension is likely to become more restrictive over time.
Last year’s Callaghan Retirement Income Review of the Australian system highlights how retirement arrangements will be forced to evolve.
The centrepiece is the proposition that retirees must live off their savings and the equity in their home, not only the earnings on their investments. Savings should not be seen as building a legacy or nest egg to be bequeathed to the next generation.
All savings must be exhausted and the family home monetised to fund living standards in retirement. In essence, your account balance should be at zero at the time of your and your spouse’s death.
Given the need for shelter, this will necessitate taking out reverse mortgages (effectively borrowing against the value of the home with the debt to be liquidated on sale at death).
Policy prescriptions pose difficulties
First, households must borrow when there is no capacity to service debt. The loan and capitalised interest must be recovered from the eventual sale proceeds of the home. This is dependent on asset values. If population cohorts retire and die around the same time, it will place pressure on house prices which secure mortgage loans.
Second, reverse mortgages may not generate sufficient money to finance retirement. It assumes high levels of savings or home equity. This is compounded by the likely low loan-to-value ratio of a reverse mortgage because of the lack of cash interest payments and collateral value uncertainty.
There are difficulties in estimating borrower longevity and partner survival, something which has eluded mankind and actuaries alike. Commercial lenders may be reluctant to participate without government support or guarantees, which would increase the demands on state resources.
Third, the scheme favours existing homeowners. Housing unaffordability means that many in future generations will never own homes. They are simultaneously deprived of bequests from parental estates reducing their seed capital. Given the record numbers of children forced to move back in with parents, the liquidation of the family home may also deprive them of housing.
Fourth, the strategy entails running down the wealth stock of a country as savings are used up and houses sold. In effect, capital is consumed to finance current expenditures. In aggregate, the running down of savings will affect available investment resources across the economy, making the nation more dependent on foreign sources. Uncertainty of drawdowns may affect long-term investment decisions.
The problems highlight failures in economic and social policy. Low wage growth and lack of income security combined with consumerism has meant inadequate savings. Absurd economic policies driving down interest rates over decades have reduced investment income and cash flow. They have exaggerated housing prices, which are now apparently to be used to cover insufficient savings and inadequate investment cash flow earnings.
Paralleling the 2000 Saturday Night Live 'More Cowbell' comedy sketch, policymakers now see more debt as a panacea to every problem.
Retirement will revert to a privilege of the wealthy, supported by expensive, regressive tax subsidies which always favoured high-income earners. For the shrinking middle class, savings and state pension, as long as it is around, may prove insufficient. Most will ultimately be unable to retire, having to work, and work, and work till they die.
When the penny drops, this additional inequality will manifest as further resentment against the elites and the swamp with unpredictable political consequences.
Satyajit Das is a former senior executive and banker. His latest book is A Banquet of Consequences – Reloaded (Penguin March 2021) updates the 2015 edition with 150 new pages covering MMT, PPT (plunge protection team otherwise known as central bankers), the Trump/Johnson ascendancy, the climate emergency, accelerating resource scarcity and Covid-19.
This article was first published in The Australian Financial Review and is republished with permission of Satyajit Das.