Generation wars

Demographics. At any point in history where significant change is occurring, demographics or more specifically, generational differences, will become more apparent. Viewers of AMC’s Mad Men will appreciate the portrayal of young people in the 60’s and their stark contrast with the WWII generation – zany, experimental fashion, their anti-establishment attitudes and alternative lifestyles compared to their conservative, serious and patriotic parents and employers.

But the effects of generational divide go far beyond the aesthetic. A significant factor in the standard of living you will experience throughout your life is the period in which you were born. It sounds obvious if one were to pick an example like post-war Germany or Soviet Russia, but most people seem oblivious to the demographic crisis facing the west today.

Factor:1 Tax revenue

With a huge sector of the workforce retiring, there will be fewer workers to generate income to pay tax. It is unlikely that governments will be able to raise the amount of tax revenue that they currently do twenty years down the track. The enormous expansion of the welfare state in developed western economies in the post-war period has meant that governments need many times more tax revenue per citizen than in the past to balance the budget – not that they do. The structural deficit, combined with mounting public debt (and its accompanying compound interest) spells for a dire situation, with future taxpayers shouldering the burden of a never-seen-before inter-generational wealth transfer.

Factor 2. Government spending

With all of these old people not paying tax, guess what they choose to do instead? Get sick and draw pensions! That’s right, an inordinate amount of the healthcare costs of a nation are spent on the elderly, the very same group that is given is paid income for not working (pension)! And don’t give me the ‘but they’ve worked their whole lives and contributed’ drivel. Every generation will work and contribute. Social security (including healthcare programs) is a Ponzi scheme – this is not hyperbole – the technical definition of Ponzi finance is that new investors are required to make contributions that are used to pay off earlier investors. In the private market these schemes naturally collapse (a la Bernie Maddoff), and those responsible are criminally charged. This is not the case with public entities – a subject worthy of another post. The curious thing about Ponzi schemes is that not everyone gets ripped off. Many early and mid stage investors, even the ones who weren’t clued into the game, will make a tidy profit while the rig is still running. It’s only when there are so many who have already made their investment who all want to receive their returns, that there aren’t enough new investors to kick the money upstairs to their predecessors.

Factor 3: Asset-price deflation

Much of the wealth accumulated by baby boomers (and their parents) is due to the price inflation across all asset classes in the past forty years. Houses, stocks, commodities have all boomed, largely due to enormous unrepeatable credit expansion. This inflationary period with its growing levels of debt, has allowed older generations to save for retirement buy purchasing these assets relatively cheaply, and watch them rise in value. When they all stop working and need to fund their retirement, how will they turn these assets into holiday cruises and reclining massage chairs? By selling the assets they have accumulated – this will put downwards pressure on the value of all of these assets – meaning that millennials will not see the value of their homes and investments rise as though it were a given.

The more important resulting phenomenon however, its the lack of the ‘wealth effect‘. As asset values increase (especially real estate), people feel richer. They borrow more, spend more and have confidence in markets. Bank balance sheets expand, allowing for more lending (spending and investment). In banking terminology, this a process known as mortgage hypothecation. This is a ‘positive feedback loop’ that works well, until the credit dries up and young people cannot afford to buy into the over-inflated market.

So what is the younger generation to do? Since there is clearly a rort going on, how is one to avoid being the unwilling benefactor for the state-sponsored baby boomer largesse? I would recommend reading Aaron Clarey’s Enjoy the Decline for some ideas. Personally, avoiding the housing market (in the Anglosphere), internationalisation of assets and operating your own business (rather than being an employee) would be a good starting point. Post in the comments section any original ideas.

Gustav

Advertisements

2 comments

  1. Well-said. I constantly tell my Millennial peers not to purchase any homes. I feel that I make a strong case (as do you) but that most people seem unable to grasp the following:

    1) Price does not equal value. Nominal prices may increase while real value declines.
    2) Higher Interest Rates will slow credit expansion causing housing prices to stagnate.
    3) Boomers have not saved enough for retirement. What equity they have will be liquidated.
    4) Who will purchase these Boomers’ houses at their current prices? Indebted under-employed Millennials? Destitute immigrants? Freddie & Fannie?
    5) Desperate local governments use homeowners as tax donkeys
    6) Mobility is critical to surviving in today’s labor market

    Then again I might be wrong. Maybe the powers-that-be believe that investment banks and chinese oligarchs can use their unearned fiat to prop the prices indefinitely.

    Even if I’m wrong, you’ve delayed buying a house and you have (hopefully) accrued a larder of capital and/or income-generating assets during the interim.

Leave a Reply

Fill in your details below or click an icon to log in:

WordPress.com Logo

You are commenting using your WordPress.com account. Log Out / Change )

Twitter picture

You are commenting using your Twitter account. Log Out / Change )

Facebook photo

You are commenting using your Facebook account. Log Out / Change )

Google+ photo

You are commenting using your Google+ account. Log Out / Change )

Connecting to %s