Sweet deal in super for baby boomers
In our office we have a mix of what you might call "baby boomers" and "Generation X".
It's easy to tell them apart by the ringtones on their cellphones: the baby boomers typically have Bob Dylan while the Gen-Xers tend to have Coldplay.
The differences are even more apparent when you think about what these two groups can expect in their retirement. Some of New Zealand's baby boomer generation have already retired and are enjoying the benefits of New Zealand Superannuation. Whereas when you ask Gen-Xers about retirement they are a lot less certain.
For the baby boomers, New Zealand Superannuation is a wonderful source of income; it is not affected by the level of interest rates, by sharemarket booms and busts or by finance company collapses. It arrives reliably every fortnight from the Government.
Like the energiser bunny, it keeps on going and going for as long as you can. Whether you live to be 90, 100 or 110 it doesn't run out. So you have no worries about exhausting your entitlement. Finally, it not only keeps pace with inflation, it keeps up with increases in the average wage, which will generally be higher.
For example, over the last five years the pre-tax level of New Zealand Super payments have increased by an average of 3.3 per cent per annum while inflation has averaged 2.1 per cent.
That's a nice form of income and it's worth a lot to the recipient. There are plenty of possible ways of placing a value on it and here's one that everyone can under stand: How much would you need to have on term deposit to generate such income?
The current rate for a married couple who both qualify works out at $32,364 per annum before tax. Using a 3.79 per cent six month term deposit rate (from the Reserve Bank's June survey of retail deposit rates) this gives us a $853,900 value for the equivalent amount that would have to be on term deposit to generate this income.
And this is before taking into account the fact that it is an income stream that is linked to inflation and wages.
Today's 64-year-olds need not bother buying Lotto tickets.
They are about to strike it big on their next birthday. There's no point in dreaming about winning first division and living off the interest because that's effectively what happens to every couple.
More complex approaches to valuing this income can take into account that if you had the lump sum you could spend some of the principal each year (even though you then run the risk of outliving your financial resources). But if you also include the wage inflation linked aspect and the possibility of one of you living to 90 or older, the result is a similarly large amount needed to generate this income.
Viewing wealth in terms of the income it can generate is not new. A long time ago a Mr Fitzwilliam Darcy was described as being wealthy because he had "an income of 10,000 pounds per annum". Note that it was not his net worth or the capital gains that he was generating that Jane Austen chose to describe but the income that he was entitled to.
Where will the Gen-Xers get this kind of income? They could hope that all the successive governments that are elected in the next six to 12 general elections are willing to keep the entitlements the same. But the more attractive the current scheme is, the less likely it will exist in its current form in 30 years' time.
Alternatively, they could save hard to accumulate the capital required to generate this income. But as I just demonstrated this could be a savings target that would be best described as challenging. The minimum contribution to KiwiSaver should be seen as exactly that: a minimum that will need additional saving if the Gen-Xers expect to enjoy the same lifestyle as the baby boomers without the government-funded Lotto prize.
It seems that those with the Bob Dylan ringtones have the least to worry about in terms of finding themselves on "Desolation Row". Perhaps they should switch their ringtones with the Gen-Xers and relax to Coldplay's Paradise.
Mark Brighouse is the chief investment officer at Fisher Funds, an investment manager and Kiwisaver adviser.
Sunday Star Times