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Farewell Welfare in Retirement — Part Two

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I believe we’re in a secular bear market. Phil thinks we’re heading into the biggest boom of all time over the next decade. So our views clearly differ. ButThe Daily Reckoning is not about reaching a consensus. It’s about thinking differently and provocatively, with the various editors, including me, arguing passionately about their ideas.

 

Yesterday I argued that Australia’s welfare system was becoming increasingly fragile.

 

In case you missed it, here’s a quick recap of Farewell Welfare Part One:Welfare is not an entitlement. It’s an expense to current and future taxpayers. In a compassionate society, the majority are prepared to pay this tax cost — within reason.

 

There are two ways to fund welfare programs. The first is via a national social security fund, where income generating assets produce the revenue needed to fund welfare payments. The second is via taxes. But for this to work over time the taxpayer base must significantly outnumber the amount of welfare recipients. That is, like a pyramid, the base of taxpayers must be significantly larger than the ‘tip’ of the recipients.

 

This pyramid principle has worked for the past century. My parents, grandparents and great-grandparents were all age pension recipients.

 

The growing population base in the Western world (climaxing with the baby boomers) ensured a large enough tax base to support the welfare system.

 

But as Bob Dylan sang, ‘The times they are a changin’.

 

You need to understand the numbers behind this change. You need to be prepared for the incremental squeeze today and tomorrow’s governments are going impose on your age pension.

 

Germany and Japan have a negative birth/death ratio. That is, in both countries more people are dying than being born. In Australia, Netherlands, UK, France and the United States, the birth/death ratio is only marginally positive. The highest birth/death ratios are in countries like Ghana, Honduras and Algeria, where families — not the state — care for their elderly.

 

In the West, you have a situation where generous static promises are careening headlong into the reality of a dynamicworld.

 

Western society would do well to remember the wisdom of Ayn Rand:‘You can avoid reality, but you cannot avoid the consequences of avoiding reality.

 

You can pretend that the Social Security Ponzi scheme will continue. But that won’t change the outcome that befalls an inverted pyramid.

 

The following charts shows you the financial and demographic reality facing the Western world.

 

The first chart is a compilation of private and public debt levels (as a percentage of GDP) in various countries.

click to enlarge

Source: Ineichen Research & Management

 

The left hand side of the chart is dominated by the West. Japan is the clear ‘winner’. Australia ranks 10th, with slightly more than 200% debt to GDP.

 

What these numbers DO NOT show you is the level of unfunded liabilities — future welfare and health costs — for each country. For example, the guesstimates on US unfunded liabilities range from $50 trillion to $200 trillion.

 

Using the lesser figure of $50 trillion would add approximately 300% of GDP to the ‘official’ debt levels in the chart. An honest politician (now there’s an oxymoron) would say this is not repayable. He’d look into how best to manage the expectations of taxpayers and those who receive taxpayer funded benefits.

 

The ‘poorer’ countries — the ones with higher birth/death ratios — have the lowest debt levels. These are the countries that have had to live within their means and not indenture future generations into tax paying servitude.

 

The chart is a clear indication that the West is living beyond its means. On the public level, it’s running welfare and health schemes we cannot fund. On a personal level, it’s about living lifestyles (and buying homes) above our pay grades.

 

Debt repayment is a function of variables — time, income and interest rates.

 

The following chart on the median age in various countries shows that the West is running out of time.

 


click to enlarge

 

The most indebted countries have the highest median ages. The combination of our elderly living longer, the boomer demographic bulge and smaller families has skewed the Western median age higher.

 

The traditional pyramid structure of society is starting to look more like a rocket ship.

 

Time is working against Western governments’ tax collection model. The employed (on average) have less time toretirement and retirees are spending more time in retirement.

 

To change the time variable is (in theory) simple. If you’re currently working you’ll need to extend your working life well beyond 70. More time employed and less time retired. But good luck to the political party trying to sell this ‘ask not what your country can do for you’ message.

 

Governments’ welfare illusion makes you believe you can have money for nothing. But in the real world taxes must rise to cover the increasing shortfall between revenue and expenditure. And higher taxes means you’ll have less money to repay your own debts.

 

Read the rest of this article at The Daily Reckoning

 



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