Financial Crisis Will be Seen Fundamentally as a Crisis for Retirees and Near Retirees

Professor James Galbraith provided a keynote address at a recent industry conference sponsored by NAVA—the Association for Insured Retirement Solutions. 

Professor Galbraith comes from the Economics department at the LBJ School of Public Affairs at the University of Texas at Austin.  A Keynesian and an author most recently of The Predator State, Professor Galbraith has been a consistently strong and vocal advocate of government stimulus and intervention in response to the financial crisis.

Professor Galbraith’s basic message is that in the future when we have the benefit of hindsight, the financial crisis will be seen fundamentally as a crisis for retirees and near retirees.  His point is thought provoking and deserves wider coverage—particularly in light of the hundreds of billions of dollars that have been thrown at various institutions over the past several months.  Consider, for example, the following:

1. Retirees and near retirees, when compared to the larger population, are disproportionate homeowners. 
2. Retirees and near retirees are disproportionate equity holders.
3. Retirees and near retirees have savings and are receivers of interest.
4. Retirees and near retirees are disproportionate consumers of health care.

Each of the facts above has catastrophic implications when placed in the context of the financial crisis:

1. Home values have been crushed over the past couple of years.  Home equity is the most important asset for a large part portion of the U.S. population.  Further, the ability of retirees to create income from housing assets through a sale or reverse mortgage has been significantly impacted.
2. The impact on the balance sheets and income producing ability of any retiree with meaningful equity holding is obvious.
3. Retirees and near retirees are in the asset decumulation phase of their lives.  In other words, they will be relying on savings to produce interest income during their non-working years.  Interest rates are at historic lows so the income drawn on any interest bearing asset is also at historic lows.
4. Health care is a major expense for any retiree.  As mentioned earlier, a 65 year old couple retiring in 2009 needs $240,000 to cover health-related expenses (these are the expenses above and beyond those covered by Medicare) during their retirement.  Unfortunately, health care stands in contrast to the majority of the U.S. economy in that it remains inflationary rather than deflationary.  The result is that a major expense category continues to inflate while assets and income sources are deflating.  Not a good combination—a big asset-liability mismatch.

In light of the financial crisis, Professor Galbraith’s recommends raising Social Security by a third across the board, cutting Medicare eligibility to age 55, and declaring an immediate holiday on payroll taxes.

The viability of these recommendations remains to be seen.  What is certain, though, is the brutality of the financial crisis coinciding with the retirement of 80 million baby boomers.  There must be a greater focus within the financial community on sequence of returns risk and either hedging or insuring the assets of retirees in a way that preserves the possibility of producing secure retirement income.