So, Ritchie’s Peoples’ Pension Plan. I don’t in fact know what the outcome of this calculation would be. And I know it would take me a long time to get it wrong. So, instead, I know we’ve an actuary or two reading here. Could one or more of them do this number crunching for us?
Let’s just take Ritchie’s idea seriously for a moment. Everyone invests in bonds for their pensions. And we’ll give him decent numbers too. He’s suggested that these bonds building schools etc should carry interest rates of maybe 5%. And we’ll assume, to be kind, that inflation is on target at 2%.
So, the bonds pay 3% real.
A 40 year working life to fund a 20 year retirement. Reasonable enough, yes? Obviously, if there’s no real return on any investment then you need to save 33% of your income to fund that twenty years in retirement….assuming you want your retirement consumption to be the same as your working life consumption (ie, from income of 100 you consume 66 each working year and then get 66 each retirement year). Adding in real returns to the savings quite clearly changes this.
So, to get proper income smoothing over the lifetime, we can calculate two numbers.
1) How much of your income must you save during the working years at Ritchie’s suggested real return?
2) Alternatively, say we peg savings at 10% of income, what’s the real return those bonds must pay?
Assume that retirement fund is exhausted at time of death. I have a feeling that those numbers just don’t add up. Either 3% return means some unfeasible portion of income must be saved, or a reasonable portion saved means returns must be significantly higher.
But, as I say, I don’t actually know the result. Can someone tell us?