Promises to retiring Baby Boomers are unsustainable in the developed world. Financial opinion leaders are providing cover for politicians to reduce medicare and pension entitlements during the next economic crisis. This week, another important opinion leader added to the intellectual case for rolling back pensions and entitlements.
Political Cover for Pension Change
When Mohamed El-Erian speaks, people listen. In finance circles, El-Erian is 10x more influential than Warren Buffet.
This week, El Erian wrote “The Titanic Risks of the Retirement System.”
His opinion is important because it provides political cover for governments. His editorial describes obvious facts:
- Interest rates are low.
- Stocks have low returns.
- Because returns are low, pension funds are unlikely to meet their promises.
- In attempts to earn the money promised to retirees, pension funds are making riskier investments.
- This will end badly.
To save ourselves from the bad ending, El-Erian recommends:
- Investment mangers should “be a lot more realistic”
- Someone should “put in place policies to boost savings and income”
- Pension managers tell retirees their pensions are at risk
Ha ha ha. What politician or pension manager will really do any of those? These are not real recommendations. These are tea leaves.
El-Efraim is laying the intellectual framework for change. Voters only accept change during economic crisis.
Political Cover for Entitlement Change
Alan Greenspan shocked his hosts on Bloomberg last month when said growth in entitlements must stop.
“As the population has aged, the baby boomers are going into retirement, creating major fiscal problems in developed countries. Entitlements are legal issues, they have nothing to do with economics. You reach a certain age, you’re entitled to certain expenditures without any reference to how it will be funded. We’re lucky to get maybe 2% growth annually. That is not enough to finance existing entitlements.”
Greenspan also said,
“Policymakers need to slow the rate of growth in entitlements. Every dollar of entitlement crowds out one dollar of savings and investment.”
[We’ve slightly edited Greenspan’s comments for print. Forward video to 20′ to hear Greenspan’s comments on entitlements]
Political Cover for High Inflation
Here’s one scenario for “how this ends.”
Only central bankers have the will to act, and the only action left in their bag of tricks is to lead the economy into high inflation.
High inflation solves the pension and entitlement problem while avoiding the political third rail.
US financial leaders are telling us — quite clearly — that the US will likely inflate its way out of pension and entitlement obligations. This means future benefits will be paid in cheaper dollars.
How it works:
A benefit such as a pension or Medicare coverage is set at a fixed dollar amount, for example, $5,000 per month. Inflation makes those dollars worth much, much less, Then, the government pays the benefits in cheaper dollars.
After inflation, $5,000 of benefits paid in 2019 is only worth $4,000 in today’s dollars. That’s a 20% “savings.” If inflation is higher, the “savings” is higher.
Older baby boomers will remember high inflation times in the early 1980s. Parents took out mortgages for 12%. US Treasury Notes yielded 15%. Nobody wanted to buy real estate. The price of gold was $400/ounce in 1981, compared to $44/ounce in 1971. Read the Federal Reserve History or Wikipedia.
The short end of this lollipop will go to middle-income retirees and millennials.
Winners should be GenX and Boomers with long-term care insurance, healthy people who don’t need expensive care, the communal living movement and affordable, age-friendly locales.