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The Baby Boomers' legacy
During May 2011 the first Baby Boomers will apply for the New Zealand Superannuation. From this day and for the next 20 years the number of people who are likely to be paid the New Zealand Superannuation will grow by around 450 people per week.
On average, it takes the income taxes paid by two wage earners to pay for the Superannuation income of one retired person.1 This means that every week from mid-2011 we will require an extra 900 earners in our economy. If New Zealand isn’t able to find these extra workers then there may be higher rates of tax, the government might have to reduce the value of Superannuation payments, or it will have to cut spending in other areas such as health, education and welfare.
The prospect of New Zealand finding these extra earners is not bright if Statistics New Zealand’s population forecasts2 are to be relied upon. If the present population trends continue then New Zealand’s working-age population will, on average, grow by less than 200 people per week.
The economic impact of the baby boomer ‘demographic bulge’ has been well known for some time. The contribution-based Superannuation introduced by the third Labour government in 1974 contemplated the difficulty that the country would have in affording retirement incomes for the Baby Boomers and sought to make early provision for this. This scheme was quickly dismantled by Robert Muldoon in 1976 following his election as prime minister when he promised that a pay-as-you-go Superannuation scheme was viable.
A social favour
Pay-as-you-go Superannuation schemes require the taxpayers of today to pay taxes to support the pensions of the retirees of today. In such an arrangement there is something of an implicit social contract whereby the taxpayers of today presume, or are led to believe, that the favour will be continued by the taxpayers of tomorrow who will gladly contribute taxes to support their parents’ and grandparents’ generations in their retirement years. The problem with such an implicit social contract is that no one thought to ask those on the other side of the contract whether or not they were willing or indeed able to be part of such a contract. One reason why those on the paying side of the contract weren’t asked was because they weren’t even born when the terms of the contract were set up.
Of course the flip-side of this inter-generational social contract is that future generations get to inherit other stuff that a country with well-developed infrastructure and social systems has built up and nurtured by preceding generations.
Aside from the question over the fairness of this deal, there is a more pressing question around whether or not this deal is economically and socially sustainable.
We can't grow our way out of this problem
It is doubtful that we can rely on the cure all of economic growth to simply grow our way out of this problem. Firstly, Superannuation pensions are tied to the average wage; as the economy grows, wages will also grow and, hence, so too will the cost of Superannuation. Secondly, the world is also facing three other problems that will increasingly demand any additional economic resources that may be available. These are: the legacy of debt that is growing out of the current financial crisis, the rising cost of energy as oil becomes scarcer, and the costs associated with adjusting to the impacts of climate change.
Those left working as the Baby Boomers retire could always agree to hold up their end of the bargain and agree to pay more taxes and receive fewer services.
But New Zealand is not the only country facing the problem of an aging population. In fact, New Zealand has a slightly younger population than most western countries. As these other countries age, they will face skilled labour shortages and will look to recruit skilled workers. If the tax burden is too high and public services inadequate, many younger New Zealand workers will simply vote with their feet and leave. So who then is left to pay the taxes and do the skilled work required to grow the New Zealand economy?
Rising cost of health care
Perhaps the real sting in the economic tail of an aging population is not the increasing cost of retirement incomes or a dwindling workforce but the rising cost of health care. A recent report by the Treasury3 suggested that by 2051, 69% of our health expenditure will be on the elderly compared with around 40% today. This report warned that government would need to severely prune growth in so-called ‘non-demographic’ health spending if it is to limit public health spending to less than 12% of GDP. Currently, such spending is around 7%.
It seems inevitable that both entitlement to and the value of retirement incomes will be cut over the next five years. Most likely the age of entitlement will gradually shift up to 70 years. Also, means testing of Superannuation may be re-introduced and the indexing of pensions to wage movements may change.
These responses by themselves may not be enough as they don’t really address the underlying problem that is caused by there being too many people at the top of the age pyramid and too few workers to support them. Addressing this more fundamental problem requires a radical shift in focus away from the needs of the old and the aging and towards the needs of the young and yet-to-be-born.
Focusing on leaving a great legacy
At present we have a welfare system which allows at least one-in-six children to live in relative poverty and around a quarter of our school leavers to exit high school without a meaningful qualification. Furthermore, there is a strong link between who is poor and who does not succeed at school. Ideally, these needs and failures should be addressed as a national priority.
If we are interested in building a prosperous and just society, the real challenges don’t lie with how we fund our retirement incomes or how we provide better health services to an aging society. Rather, the compelling challenges are around how we can make sure that every child has the resources needed for them to grow up healthy and clever and how every young person has the opportunity to utilise their talents and become a contributing citizen. Meeting these challenges requires not just a significant and immediate redirection of resources, but a mind shift that begins to focus on the great legacy we might leave for our grandchildren.
By Alan Johnson (from SPPU)
1 The average wage and salary earner pays $7000 per year in income tax while the basic Superannuation income for a married person is $14,228 per year.
2 These figures are based on Statistics New Zealand’s medium fertility, medium mortality scenario with 10,000 net migration.
3 John Byrant et al, (2004), Population Aging and Government Health Expenditures 1951-2051 The Treasury—available at www.treasury.govt.nz