“When I was trying to buy my first home, I wasn’t buying smashed avocado for $19 and four coffees at $4 each” – Australian property mogul Tim Gurner on TV news show 60 Minutes
When Gurner compared the consumption choice of buying a serving of avocado toast with a down-payment on a house, his comments drew scorn and derision from millennials. Anyone who understands what motivates today’s youngsters knows (surely) that they prize life experiences over providing for their future security. And besides, critics added, one would have to forego between 10,000 and 21,000 plates of avocado toast to save enough for a decent down-payment on a first home.
Ultimately though, Gurner’s comments allude to some timeless (and often-overlooked) truths that we would do well to revisit. For starters (and we all know this), for every dollar we have, we can choose to either consume it (spend) or defer consumption to some future date (save). Implicit in the decision to save is an ethos of delayed gratification: that I may need to restrain myself from my desired level of consumption right now in order to provide for my future needs.
Secondly (reframing the long-term objective as pension saving instead of house purchase) those of us who are fortunate enough to be able to contemplate the concept of retirement have an expectation that there will be a time in the future when we will no longer earn, or will earn less, but will still have consumption needs. The problem is that it is difficult for people to consider today’s consumption choices from the point of view of their retired selves. While rationally they may accept that saving is a good and necessary discipline, emotionally they apply some heavy mental discounting to their future state, which pales in comparison to a desire to live in the present – to drink alcohol (perhaps), to eat avocado toast, etc. Essentially, what they are doing is trading off their future financial comfort in order to optimise the here and now.
So where does that leave us? Are millennials’ desires for instant gratification harming their future financial prospects? Well, maybe. But is the investment industry missing a trick? Faced with a society that facilitates, encourages and needs consumption to stimulate economic growth, the investment industry appears to be adopting an attitude that says to the younger generation in particular “we’re here when (if) you need us”. I believe this message could be strengthened, and that doing so would genuinely help millennials.
Here is a stripped-down illustration of what the consume/save definition amounts to, in terms of percentage of earnings. Let’s make a few rough assumptions:
- Average working life is 45 years, from 20 to 65
- Earnings roughly keep pace with inflation over one’s working life
- Over that same period, savings (wisely managed) can earn a real return of 3% per annum.
Under these assumptions, the cost of providing for an income of $1 per annum costs x% of salary at age 20 (where x varies depending on one’s income). Providing for that same amount of income at age 65 costs 3.78*x%. In other words, one would need to sacrifice 3.78 times more as a percentage of salary at age 65 in order to compensate for not saving enough at age 20. The difference arises from the years of accumulation foregone by funding that $1 of income at age 65 instead of age 20.
While this is somewhat compelling, it’s probably not enough to get a 20-year old, caught up in the euphoria of having some real disposable income and with other more immediate priorities, to make a commitment to long-term saving. So we need some other devices to help them along. The first – one that is gaining traction in DC pension schemes – is the concept of auto escalation. This “nudge” principle is based on the idea that people are more willing to give up future income than present income. So they may begin contributing at a paltry rate (say 1% of earnings) but be willing to commit a large chunk (say 33%) of future salary increases to augmenting this contribution rate. If we assume that salary increases average 3% pa, then within 10 years the person who begins saving at 1% of salary will have increased their contribution rate to 11% of salary. They still forego some of the potential accumulation early on, but are approaching a respectable rate by their early 30’s.
A further safeguard to the recklessness of youth is to restrict the circumstances under which individuals may access their long-term savings. Clearly there is some discretion involved here, but I would submit that accessing retirement savings to buy more avocado toast, or even to take that trip that had been on one’s university bucket-list, should be proscribed. As someone who blew his first six years’ pension accumulation on a (fantastic) backpacking trip across South America, I would have been grateful for some words of wisdom from my older self. By all means take that trip, I would have told the younger me, but don’t confuse your savings for a life experience with your savings for retirement. Meeting the costs of the former requires sacrifices which I would have been happy to make, given the immediacy of and strong desire for the end goal. Meeting the latter demands some persuasive (non-condescending) messaging and integrated self-protective devices.