If you are working you may have heard about the impending pensions crisis. Bearing in mind that well over half the active users on this site are below the age of 30, it's quite likely that you ignored the phrase, thinking it didn't apply to you.

Here's why it matters

You don't want to be poor--I mean starvation poor--when you eventually stop working. To avoid being among the poorest of the poor in your 60s and beyond, you need to plan ahead, and fortunately for you, the earlier you start planning, the easier it is going to be to avoid that fate.

In the simplest possible terms, anyone who is more than a few years away from retirement is going to have to fund their living costs, housing costs, travelling costs and medical costs out of money they saved and invested during their working life.

That is a change from the last fifty years or so. In the period from 1950 up to 2000 or so, pensions were paid to retirees, but the money did not come from specific retirement funds accumulated over a 30-year working life. The money came from those who were currently still employed.

When discussing pensions, it is crucial to understand this difference between so-called funded and non-funded schemes.

A funded scheme works like you imagine it should. A person or group of people work and pay money into a fund. Over the years, that fund grows into something huge. When the members retire, they look at how much money is in the fund and use that to pay for their future expenditure.

A non-funded scheme is quite different. In these a group of people contribute to a scheme, and those contributions go directly to pay the retired folks who are also members of the scheme. Whatever capital is built up by the contributors through excess contributions is--or should be--used as a buffer in times of difficulty.

In less scrupulous corporate schemes, the managers raid the pension fund to pay for acquisitions, or to give bonuses to the shareholders.

These non-funded schemes are fine when the world is stable, and there are enough working people to pay for the retired folk, But they are a little like pyramid selling schemes. You contribute in the hope and expectation that there will be enough individuals to fund your own retirement in twenty or thirty years' time.

There won't be.

Until about 1980 almost every large pension scheme in the world worked on a non-funded basis. State schemes, private schemes; semi-private schemes corporate pensions. All retirement planning was like a pyramid-selling operation.

Until about 1970 or 1980 that was not a problem. And in fact, the war generation never had it so good. Their parents retired with relatively generous pensions--paid for by non-funded schemes in which there was a substantial surplus of income over expenditure. When they came to retirement, in the 1960s and 1970s, there were still enough baby boomers in well-paid jobs to provide for their own retirement.

Since that time, governments and pensions funds have looked at population trends, worked out what is happening and tried to switch people out of non-funded schemes into funded schemes.

The latter end of the baby boom generation--those born in the late 1950s and 1960s--are reaping the seeds sown by the post-war politicians. We worked our lives, paying taxes and paying our parents' pensions through non-funded pension schemes. But we can see in the future there will not be enough contributors to our non-funded schemes to pay for our own retirement, so we have to set up our own funded schemes, if we want to have any kind of comfort in our retirements.

We are paying twice over for our retirement pensions, and the problem is only going to get worse.

By the time those born in the 1980s and 1990 retire, there will be few people left to pay for their pensions. The generation Xers must set up their own funded schemes as soon as they possibly can, if they are to have any hope of a comfortable retirement around 2040 or so.


People born in 1930 or so grew up in the depression years, just about missed the war, and then started working, married and had started having children in the 1950s. Those children became the baby boomers.

The 1930s-born generation paid their taxes and their medical insurance in the 1950s and 1960s. Their parents either died in the war or were cared for by the state or by other funds. There were a lot more people working than retirees, so the total pension burden was relatively small.

In 1955 the percentage of the population aged 60 or more was about 14 percent*. In southern Europe and the new EU member states, the figure was closer to 10 percent.

* Source: International Labour Organisation, refers to the 15 EU countries plus Iceland.

If 12.5 percent of people--one in eight--are above retirement age, and since some are too young to work, there are about 5 people working for each retired person. That's a good, generous proportion, and allows non-funded schemes to work, and even generate a surplus.

Since the 1950s, life expectancy has increased, and the age at which people start working and paying taxes has also increased as more of us go to college and remain in education.

By 2005, the percentage of over-60s had jumped from 15 percent to around 22 percent and looks likely to level off at about 35 percent by 2040 or so.

If a third of people are retired, and another quarter are below working age, then the ratio of retired folks to working people drops to about 1:1, taking account of people who do not have a job, for some reason.

Here are some statistics: (taken from a US government social security presentation)

Country	       1995	       2050

US		4.2		2.3
Canada	        3.6	        1.6
UK		2.7		2.1
Japan	        2.6		1.5
Germany	        2.3		1.2
Italy		1.3		0.7

The number refers to the ratio of working people to retired people. In Italy, as you can see, the number of retired people was close to the number of workers even in 1995, and by 2050 will substantially exceed it.

In the US in 1995, there were enough people working to pay for the retired folk in non-funded schemes. But by 2050, there won't be. Each working person would have to provide all the money needed by another retired person. As well as preparing for their own retirement.

Investment growth

During the 1980s, when greed was good, share prices were spiralling out of control, and most investors in the stock market did extremely well. The pension funds tend to be the biggest investors, so the pension industry faced a wonderful situation. There were more people working and contributing than the dependent retirees. The funds accumulated big surpluses. Combine that with spiralling stock growth. They made trillions. Literally trillions of dollars.

What did they do with it? Did they save it, knowing that they were going to be hit with a crisis around 2010? Did they heck! They spent it. They raided the funds. They screwed the contributors. Pension companies went through a major period of restructuring in the 1980s and 1990s and in the financial deals of the time, money found its way out of the pension funds into the bank profits. In corporate schemes, the management boards found ways to liberate the money trapped in the pension scheme to fund acquisitions and expansion schemes.

The pension finds were huge, and no-one noticed a few billion going missing. And when they did notice, no-one really cared, as the accumulation of money seemed simply unstoppable.

In the 1990s and 2000s, however, stock growth ground to a halt and demographics started to kick in. This means the non-funded schemes are all starting to go short of cash. Whatever reserves they built up have been raided and at the first sign of a cold wind, the schemes feel it, until they begin to crumble.

Most automotive companies in the US raided their pension schemes in the 1980s, and almost all are now seriously short of cash to provide for their contributors when those people retire. GM alone has pension liabilities of $89,000 million. Ford has liabilities of $43 000 million. Delphi, Goodyear and others are in the same position. United Airlines recently walked away from $6600 million-worth of unfunded pensions, leaving 119 000 employees and former employees in the lurch. That was permitted by a US federal judge.

Those 119 000 people and their dependents now face a 40 percent cut in their pension benefits. They are among the lucky ones. The UA pension scheme is being bailed out by a government-run scheme called the Pension Benefits Guarantee Corp. (PBGC). All employers pay into a fund administered by the PBGC. That amounts to about $600 million each year.

If the liabilities of GM amount to $89 000 million, that $600 million does not go very far. UA was one of the earliest pension funds to go bust, so the PBGC still had some funds available. UA certainly won't be the last to go bust. If you are one of the unlucky ones and your company scheme goes bust a day before you retire, you will be left, potentially with absolutely nothing, despite years of contributions.

What to do

Start planning and saving now. Don't rely on any non-funded scheme, whether corporate or state-run.

In the US there are 401(k) plans. In the UK we have stakeholder pensions and personal pensions. Elsewhere similar schemes go under different names and offer different tax benefits, but they all have one thing in common. All are money-purchase plans. Take one out. Pay into it as much as you can afford. More than you can afford. Money paid in when you are 20 will multiply by a factor of five or ten by the time you retire. If you wait until you are 40 or more, then you will have to contribute half you total income to a pension scheme.

Otherwise find something that will increase in value and invest in that. Property is often a good one.

Otherwise, pray that you die before you get old.

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