tuzemi: (Default)
I just had this thought while driving into work. My post earlier today was about "real life economics" vs. the textbooks, and that basically what works best for me would crash the global economy if everyone else did it. On that same theme, I had a thought flash into my mind that we might be in for a far worse crash in just a few years when the next big wave of Baby Boom retirees actually try to retire. It's not a new thought of course, see Salon's article on pension thefts, but it does have I think a slight new wrinkle.

Imagine that you have been saving some fraction of your salary for 25 years into a 401k or IRA. Now you're retired and make your financial plan. Let's say you put $200 in every month, your company matched at 50%, you got 8% return (which is unrealistically good), and consumer inflation was only 3% (which isn't too far off). After 25 years you have about $300k in there (~$145k in year 0 dollars). Your retirement plan is to pull $25k every year, which should be about $22k in interest and $3k in principal. You can be retired for 20 years and still pass on $220k to your grandkids. Sounds nice and responsible.

When you pull $25k that first year, your principal drop by $10k that year: $7k of value is lost for no good reason. The next year you pull $25k and your principal drops by $15k: $12k is lost for no good reason. The next year you pull $25k and see the principal drop by $35k. Imagine your horror when you realize that your retirement is being held hostage by Wall Street. You're screwed if you cash out all at once, but then if you try to take out regular payments it might be gone anyway. Whatever you do, there is no way to get your $200 per month for 25 years (!) back.

This is the future I see:

  • When the retirees start to actually pull their money from their "funds", they'll see that those funds don't maintain their price ("value") at the rate they were supposed to. They'll have a choice: cash out everything and stick it all in a savings account, or eat through the principal at a rate 2-3x what it was supposed to.

    • When too many people in one 401k/IRA fund cash out, the whole fund is declared insolvent and no one else in that pool gets anything.

    • When most people in the fund take their regular payments, the fund remains solvent but the payments slowly dry up until the retirees get far less than minimum wage, becoming massive financial burdens on their living relatives.

    • Pension funds face the same choice: pay out their beneficiaries at a sharply reduced rate, or go belly up all at once.

  • The return of four generations living under one roof.

  • The elderly suicide rate going up sharply.

  • A rash of people in their 30's and 40's take out 401k loans and then strategically default them in order to clear up their other debts. They pay off their mortgages, cars, and school loans while the money is still "there", since it won't be there to retire on anyway.

  • The government is forced to restrict people's ability to withdraw the funds to preserve the global economy. The law is changed to make a 401k loan visible on credit reports, and unable to be discharged through bankruptcy (yes this makes no real sense, since the creditor for a 401k loan is the same person declaring bankruptcy in the first place).

  • Marx starts laughing from his grave as the American people come to realize (again) that Wall Street has become a machine that systematically destroys money rather than let the small fry get their promised investment returns back.

All it takes for this future to happen is that a 401k/IRA doesn't have a guaranteed price on its principal. Which we already know is true.

Sometimes being INFJ is depressing.
tuzemi: (Default)
So I've been thinking recently about what I call "consumer math", which is what I term "economics for the rest of us". If you've ever taken Econ 101 they've talked about "luxury goods" and "marginal utility" and other such terms, and make it seem like we're all part of the market and can convert our marginal utility into cash anytime we want. Except that the reality is we can't.

  • Go buy something at Walmart and try to sell it again. Pick anything at Walmart. A television. DVDs. Food. Furniture. Buy a brand-new hot DVD for $19.99 and try to sell it at Walmart's "clearance price" of $17.99. You'll soon discover my "Walmart Law of Economics", which is: whatever you buy at a retail store has no resale value, e.g. you're always throwing away your money at Walmart/Target/Best Buy/Office Depot/etc.. Even for something like a laptop or high-end television, the best you can do is break even on the sale, and that's only if you use eBay or Craigslist to connect you with the best possible buyer. Another way of putting it is, "You Can't Make Money From A Garage Sale".

  • The really big one: let's do the math on a house vs. an apartment. Last year I spent $1150/month on a mortgage, insurance, and taxes, on a 1500 sq ft house. 30 year note, about $200 a month went to principal. This year I spend $800/month on a 1200 sq ft townhome lease, none of which goes to "principal". Net result is that I am saving anywhere between $150 and $350 more per month than if I had the house, which depends on the "housing market": if the house sale price never drops, then renting saves $150/month; if the house price drops a little, then renting saves $350/month; and if the house price drops a lot then renting saves a whole lot more. So in other words, unless I desperately need a house for something only a house can deliver, a house can never be an economic win unless I've already got enough cash to put down a massive (30%+) down payment.

  • Another big one: cars. We all know that a car depreciates so fast that you lose a couple thousand dollars driving a new one off the lot in your name. But what I've noticed is that the best possible deal for a car is to do one of two things. First, you can buy a brand new car and maintain it perfectly and get 15+ years out of it. It's hefty, but you can get it down to about $2000/year all told with loan and maintenance costs, and you'll have an extremely reliable ride for a long time. The other option is to get a good used car at the 50-100k mile mark for about $6000 and get 7+ years out of it. You'll still spend about $1000/year in increased maintenance costs, and reliability is merely "very good" rather than "great". Most other strategies end up costing a lot more, especially the worst strategy of "buy a new car and replace it after five years".

Put the points together and the best way for me to manage finances going forward is to spend as little as I can in retail places, never buy a house, and only buy cars when I have carefully planned for them. I can't imagine being terribly unique in my experience here. If enough consumers reach the same conclusions, just how exactly are we supposed to lift this global economy?


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May 2014

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