In the last few years, the numbers of older people in the workforce have increased significantly. In 2000, 72.5 per cent of men aged 50-64 were in work or looking for a job. Now, 77.8 per cent are. And whilst 92.4 per cent of men over 65 were retired in 2000, today that proportion is 86.4 per cent.
This is not merely a temporary effect of low interest rates. Peter Spencer at the EY Item Club warns that it “will continue”.
The problem here is not the closure of final salary pension schemes. As David Blake at Cass Business School has pointed out, defined contribution schemes can be as good as final salary ones - because share prices, over the long-run should rise as much as our wages. Instead, says Mr Spencer, the problem is “deficient levels of pension saving”; when firms abandoned final salary pensions they often replaced them with schemes into which they paid less.
To see the issue here, take a very simple example. Imagine someone wants to work and save for 30 years to fund 30 years of retirement. And imagine he wants to retire on an income of half his salary, say with the state pension topping up some of the gap. How much must he save? If we assume a real return of three per cent per year - a reasonable assumption for a mix of bonds and equities - the answer is over one-fifth of his annual income.
The intuition behind this is simple. Imagine the first year of saving pays for the first year of retirement, the second year of saving pays for the second year of retirement and so on. Then 30 years of a three per cent return means that £1 of saving generates £2.40 of pension income. To get £50 of annual pension income we thus need £20.83 of annual saving.
This might actually understate how much you need to save. If you want to leave a bequest, you’ll have to save more. You’ll also have to save more if your salary rises in real terms as you get older and you want to retire on something close to your late-life earnings.
However, many people save nothing like this: the aggregate saving ratio (which admittedly includes older folk running down their wealth) is just seven per cent.
Granted, some of us approaching retirement can plug some of the gap by downsizing our house and so realizing big capital gains. But today’s younger folk - who either don’t own houses or have paid a huge price to do so - can’t rely upon the same house price appreciation that 50-somethings have enjoyed.
This poses the question: do we really want to save so much and retire early?
On the one hand, no. It’s possible to save too much. Imagine someone chooses to live a bare subsistence. He will deprive his future self of the happy memories of holidays and outings; of the enjoyment of music and books he could have bought; and of the leisure skills he might have acquired had he spent money, say, learning a musical instrument. That’s hellishly stupid.
On the other hand, though, some research suggests that jobs don’t get more enjoyable as we age. One reason for this is that the opportunity cost of time increases and so 50-somethings are more aware than 20-somethings of the sacrifice of leisure time they make when they work. Worse still, even once-good jobs are becoming less enjoyable. Many professionals today face longer hours, more stress and less discretion at work than they did in the 80s. A country in which even successful academics are being hounded to death is one which has little to offer even educated workers. This points to early retirement becoming more attractive, and hence to a need to save a lot.
I fear people cannot make the optimum choice here. Even if you have the discipline and opportunity to save from an early age, you can’t foresee how your working life will change over 30 years, or how your tastes for work, leisure and income will change. We are therefore asking young people to make impossible decisions.
