Thursday, 18 March 2010

The pain of not saving

I am pretty hopeless with money because organising money requires an ability to organise and I couldn't organise a fart in a curry house. In order to ensure I did not spend all my income on fripperies I used to open little savings policies by which I paid a certain amount in each month and could not withdraw anything for five years or more without suffering a substantial loss of interest. They are quite good for a chronically hopeless organiser because all you have to do is fill in a standing order form when you open the policy and the rest looks after itself. Even if the return is not very high, at least you have squirreled something away when you would otherwise have spent it on things you didn't need.

A curious fact about saving is that it can be utterly painless yet provide a tasty bonus when you finally get your hands on the money. Of course inflation is a factor and can mean that the lump sum you get at the end actually has less buying power than the small sums you paid in, nonetheless you still get a lump sum when otherwise you might just have bought another twenty exercise machines to add to the ten you did buy but never used.

Were you to save just £50 a month over five years and made no nominal profit at all you would receive a lump sum of £3,000. That's quite handy when you know you can't trust yourself to stick five £10 pound notes in a biscuit tin under the bed each month and leave them untouched for five years. Saving is not all about making a profit, it is also about preserving something which would otherwise be unavailable because of your disorganised character and spendthrift nature.

What applies to individuals also applies to businesses. If you own your own home you will have repair bills from time to time which could not always be met easily out of current income. Little things are not really a problem for most people, but a new roof or new windows can be, just as the need to buy a replacement washing machine or bed can put a strain on a tight budget. It's so much less painful to pay for replacements from a lump sum of savings, even if the real value of those savings has fallen 10%, than it is to stick the cost on a credit card and pay 20% or more. Businesses face the same problems. Things wear out and must be replaced, shops need to be refitted from time to time, new machinery is required to keep the business viable in a competitive world. These things all cost money and the sensible businessman makes provision for these future risks by maintaining a fund of reserves specifically to meet such costs.

It is rather different for government. There is no need for it to be different but it is because there seem to be votes in spending but not in saving. Of course government makes provision for replacing and repairing infrastructure such as roads and buildings but it does so mainly out of its annual income rather than by setting aside funds to form a pot that can be raided when the money needs to be spent. In one way this is both sensible and inevitable. Every year there are roads that require resurfacing and buildings that need replacement or refitting, so there is never a gap in which they can say "we don't need to spend it this year so we'll stick it in a biscuit tin under the bed". That is only part of the story, however, because this sort of expenditure is akin to you or me having to buy a replacement kettle or computer.

The other part of the story is that some aspects of government expenditure are, by their very nature, affordable only if funds are set aside for future use. Pensions are the most obvious example of this. It seems obvious to me that there is only one sustainable way to provide pensions for the retired. You build up a pot of money or assets during the person's working life and on retirement the pension payable must be limited to that which the pot can provide. Guaranteeing a certain level of pension payment without the pot being large enough to pay it means either taking additional money from those in work in order to subsidise those whose working life has ended or failing to honour the guarantee. That is a recipe for disaster.

There have been numerous examples of private pension funds not being big enough to pay the returns they had promised, with the result that either people who expected a certain income have received less or some have had their entitlement fixed and others have missed out entirely. The option of simply throwing more money into the pot does not exist for a private fund because it does not have the ability to force mugs to pay-in for no return. The government has millions of mugs at its disposal. It can simply divert taxes from one potential field of expenditure and put it into paying the statutory pension and guaranteed pensions to retired state employees or it can seek to raise more and more in tax to cover the cost. Neither of these courses is sustainable.

Pensions are just like shop refits or a new roof on your house. You know they will have to be paid for at some time in the future and clever people with large calculators will claim to be able to tell you how much they will cost and how much should be put aside each year to cover that likely cost. Sensible shopkeepers do not bury their heads in the sand and hope the day never arrives, nor do they expect to be able to find £40,000 lying around in the petty cash tin; they save for it, they build a pot. Sensible house owners likewise have savings because they know that one day the roof or windows will need replacement and that it will be more easily afforded from savings than from current income.

Some quite terrifying figures are in circulation about the likely future cost of pensions for government employees and equally scary figures for the cost of funding the statutory old-age pension. There is one reason and one reason only why there is no pot to pay for the statutory pension and only limited pots to pay for employees' pensions. Government took the money, by way of National Insurance contributions and deductions from their employees' earnings, and spent it on other things because they thought there would be votes in it. They didn't look to the future beyond the next opinion poll and the next election. Both parties are guilty because they have both done it.

Will either have the guts to tell the truth and say that it is necessary to put aside a substantial chunk of tax income each year to provide a pot to pay future pensions? It will be very expensive and might take a decade or more, but it needs to be done.

1 comment:

H.R. said...

Hey! I check in from time to time and I see that you're back!

The world is a better place now. (Absolutely no sarcasm in that remark. I am delighted.)

I've got some catching up to do here.