Over-65s, a large and growing demographic in Europe, are cutting their spending at worst possible time as NIRP eats into savings, pensions, investments, and annuities.
By Nick Corbishley, for WOLF STREET:
With the coronavirus crisis upending the global economy, leaving all manner of mayhem in its wake, many of the economic trends that predate the pandemic’s arrival continue apace. Some are accelerating. They include the erosive impact zero and negative interest rates have on savings, investments, annuities, and pensions of European retirees, of which there are an ever larger number, given the aging populations. This has been decimating their spending power, which in turn saps consumer demand, and thereby the broader economy.
Over-65s are a large demographic, representing around 20% of the entire EU-27 population. And it keeps growing. By 2030, people over the age of 65 could represent as much as 30% of the population of Spain. Even in Ireland, one of the EU Member States with the youngest populations, the share of the population aged 65 and over is forecast to increase from one in eight to one in six by 2030.
As the population ages, the financial pressures grow. Two weeks ago, the privately owned Bank of Ireland — not to be confused with the Central Bank of Ireland — announced that it is going to start charging negative interest, of 0.65%, on cash in accounts held by investment and pension trustee firms. The bank said it had written to 14 investment and pension trustee firms to inform them about the new negative interest rate.
“The average amount held on deposit by investment and pension trustee firms is in excess of €100 million,” the bank said. “Therefore it is no longer sustainable for the bank to continue with the current rate of interest.”
Bank of Ireland is the first Irish bank to take this step. But as has happened in other Eurozone countries, once the precedent is set, it won’t be long before other Irish banks follow suit.
In Germany, annuity-type life insurance policies (Lebensversicherung) that serve as a common part of private retirement planning have also felt the sharp end of the ECB’s negative interest rate policy (NIRP), which was first launched in 2014. The policies pay out a certain amount per month in retirement. Asset managers invest the premiums in government and corporate bonds, which represent around 85% of their portfolios.
This approach worked as long as bond yields remained above the rates of return promised to policyholders. In the 1990s, life insurers offered customers returns of up to 4% per year and still managed to turn a healthy profit. But those days are over.
Thanks largely to ECB policy, bond yields have collapsed. So, too, have the payouts to policyholders. In 2019, median annualized rates fell to 0.9% and are expected to fall to 0.5% by the end of this year. Interestingly, this has not stopped Germans from investing in the life insurance policies: according to Der Spiegel, contributions increased by 11% in 2019, dashing hopes that the ECB’s NIRP policy would push Germany’s nation of savers into stocks.
The median value of life insurance policies in Germany is €13,500. Each policy lost on average €390 in 2019 as a direct result of low or negative interest rates, according to research by Deutsche Bank. Taking cash and deposits plus claims on insurance into account and leaving aside other possible effects, the aggregate loss for a representative household was roughly €540.
Many people don’t have savings or investments when they reach retirement age, and rely on public social security programs, which are not exactly generous in Germany, or in some other countries. And some are getting corporate or government pensions. But they too are feeling the strain from NIRP.
In the UK, where the benchmark interest is 0.10% but could be taken into negative territory sometime soon, recent corporate collapses such as that of Carillion have revealed the gaping deficits that exist in many corporations’ defined pensions plans. According to research by PricewaterhouseCoopers (PWC), the total deficit for such plans in the UK had soared to £340 billion by August 2019, after doubling in just one year, in part due to falling bond yields.
Many public plans are faring little better. In Spain, the national central bank just released a wide-ranging report into the state of the public pensions system. Its ominous conclusion is that retirees receive €1.74 for each euro they put into the social security system. In other words, the system is not remotely sustainable, despite the fact that monthly payouts were already sharply reduced in 2018.
And these reductions in payouts are directly hitting consumer spending. Following the cuts, a pensioner who retired in 2018 will lose on average the equivalent of €350 a month in purchasing power over the duration of their retirement, according to a study by the consultancy group IFA. The pension age in Spain has also risen from 60 to 65 and five months in recent years, and is expected to rise to 67 in the coming years. Many people are already voluntarily opting to work til the age of 67.
Something similar is happening in many other European countries. Public pension systems are offering less in the way of outputs while demanding more in the way of inputs. What’s more, the fiscal pressures driving these changes are likely to get a lot worse after the Pandemic as countries grapple with a beaten-up economy, rising public spending, and lower tax revenues. At the same time, zero or negative interest rates are cutting the payouts from savings and other retirement vehicles, and this saps spending by retirees at the worst possible moment.
As their incomes fall, people have responded in myriad ways. Some have decided to keep working way past regular retirement age, which isn’t such a bad option as long as the work is not too physically demanding. But age discrimination can make this strategy very tough. In many places, workers are pushed out once they hit the 50-mark. Self-employment may fill some of the gap, for people who can pull it off. Around one out of ten people aged 65-74 are economically active. That is likely to go up in the coming years.
Whether voluntary retirees or forced to retire by age discrimination or health, people are responding to the crisis is by cutting back their spending. This in turn is dragging down consumption in the economy as a whole. In economies that are predominantly consumer based, this is not good news, and comes on top of the pressures on spending power by many younger consumers, and those pressures are now exacerbated too by the fallout from the coronavirus crisis. By Nick Corbishley, for WOLF STREET.
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