Gerald Ashley: 0:00

Hello and welcome to this edition of Equitile Conversations. My name is Gerald Ashley and, as usual, I am joined by my friend and colleague, George Cooper. George, welcome, thanks, Gerald. Good morning, how are you? And we're going to try and do that in half an hour, which, that is, the first immediate challenge. It sort of follows on, in a way, from our very first episode on demographics, because it's all part of this balance between who is paying into systems in the economy effectively and who's taking out. So, um, with that in mind, let me pose an initial question to yourself and maybe I'll join in with a few thoughts. Um, where does my pension come from?

George Cooper: 0:56

Ah, that's a good question, Gerald. I think this is one that um. It's at the core of a lot of confusion over pensions. Basically, all of the pension systems rely on current workers, that is to say, the pensions of the current pensioners come from, effectively, the pay of the current workers. There's different ways to arrange that, but that's essentially what happens. And one way to think about it is if we think about the original pension scheme. The original pension scheme, of course, was the extended family. Basically, the grandparents would live with their children and grandchildren and once they were too old to work, they would be supported by the rest of the family, right? So if the family wasn't there, there wasn't a pension scheme, and what we've got now is actually just a scaled up version of that. So you've got pay-as-you-go schemes where there's no pool of assets, but what happens instead is, effectively, the government will tax the current workers. They'll take part of the pay packet of the current workers In the UK they do it through national insurance and income tax and they give it to the current pensioners.

Gerald Ashley: 2:26

Now that's quite interesting. So this mental image that there's a very nice tin box with an amount of money or assets or bonds or equities and that's got my name on it and I get an income flow from that is just not how that state scheme works at all.

George Cooper: 2:44

That's not how the state scheme works. I'm sorry to break it to the listeners, but there is no pot of money. The government does not have any money saved up to provide for your future pension. All it's got is the hope that in the future there will be enough taxpayers to pay the bill.

George Cooper: 3:05

And that's where the demographic issue gets in, and this is going to be a critical equation which we'll unpick during the course of this podcast yes, and then there's the other, newer scheme, which is the pre-funded pension schemes which, if thinking about it, I think these have only really been in play probably for about 40 years and have been getting more important over time. These are schemes whereby you save money. You do save money into a pot, you buy equities and bonds through your working life and that pool of money is there to pay for your pension.

Gerald Ashley: 3:59

Well, you say I do that, but as an employee. It would be some sort of so-called superannuation scheme run by the firm or whoever.

George Cooper: 4:07

Yes, by a pension provider, usually these days. But basically that's very similar to the taxation system, in that you're obliged to sacrifice part of your pension, in other words, it's effectively a tax of your pension. In other words, it's it effectively attacks. They take away part of your, your salary, and put it into this pot um, which is then used to pay for your retirement after you've stopped working. And that one appears to be not dependent on the next generation, but of course, if you think about it, it actually is entirely dependent on the next generation, because when you're retired and you're drawing down that pool of assets, you need to sell them to somebody. So you need the next generation to be there to buy the assets off you.

George Cooper: 4:59

And that's where, again, we get back to exactly the same demographic problem.

George Cooper: 5:04

And that's where again, we get back to exactly the same demographic problem.

George Cooper: 5:26

If we've got 100 pensioners today selling their assets to to only 50 workers, because the fertility rate has dropped and there aren't enough new workers coming through the system, then of course you're going to struggle to sell your assets, or at least you're going to struggle to sell them at a full price. So what you might find and this is where I think there could be some nasty surprises in the next few decades. You find that while these pension pots were being built up as this big cohort of baby boomers were putting money into the financial markets, putting money into the financial markets, we all saw this big bull run in equities, bull run in housing prices, things like that. But as that baby boomer generation starts to try to sell its assets to its own children effectively and grandchildren, there aren't enough of them there and the bid isn't there, so the they don't realize as much money as they hope for yeah, ahead of this podcast, I I looked up some stats, and this uh, this plays to this very well.

Gerald Ashley: 6:35

In 1975, which is pretty much 50 years ago, there were 7.3 million pensioners. Population was less, just over 56 million, and that was around 13% of the population. As of last year, 2024, there were 12.9 million pensioners. Population estimates, which are always a slightly movable feast, suggest the population is 69.1. And that is 18.7% of the population. So that's up from 13% to heading towards 19%, and in terms of physical bodies, it's an increase in number of pensioners of 75%. And as you and I know from looking at demographics in a lot of detail, the way forward is pretty much baked in in that older people are living longer, which one likes to feel is a good thing, but the fertility rate, or the replacement rate of the population is in some cases pretty alarmingly low, and so are we now bumping up against the very thing you were talking about.

George Cooper: 7:59

Yes, and actually in this demographic transition we're also burning the candle from both ends because of course, in the 70, their early 20s at least. So they're not earning money to be taxed, to go to pay for the current pensioners. So the actual cohort of true workers is probably even lower than your statistics might allude to. So yeah, this problem is coming down the road and it's not going to go away.

Gerald Ashley: 8:52

Yeah, I mean. I think what's also interesting is that it's the political aspect of this, which is, of course, we've been told ever since I was a teenager that teenagers and people in their 20s don't vote and that sort of oldsters over 60, come hell or high water, will vote, and now, of course, they're a very large cohort. Another statistic for you that in within 10 years in the UK and I'm sure it's very similar in other Western European countries is that a quarter of the population will be pensionable, will be over 65, and I think the pension age is going to slightly move, so that 19% number I was just talking about is just going to grow and, as we know, I think it's one of your little bug bears and it's a chance for you to have a go at this. Um. There's this sort of lovely thing in the uk of the so-called triple lock um, which um favors people of my age and older, but sounds incredibly bad news to under anybody under the age of 40.

George Cooper: 10:07

Yes, I mean the triple lock. For those that are not sort of steeped in, this is basically the idea that their pensions have to go up by the higher of three different measures One is a fixed percentage per year, and then the other one is the inflation rate, and then the third one is the average wage growth, and what this basically means is that pensions must either keep pace with wages or grow faster than wages, which, of course, if you've got a situation where the pool of workers is shrinking relative to the pensioners, this means that your tax rate on those workers has got to go up much, much quicker.

Gerald Ashley: 10:58

And this is a cohort or series of cohorts, generations even, who have had to start paying for their education, so they've got student debt or some form of graduate tax, you could call it if you prefer and this is showing itself in other assets. We talked about the asset mix and, of course, again, my age group and above is very asset rich and people under 40, very asset poor.

George Cooper: 11:29

Yeah, well, the problem with this sort of set of mechanisms is it produces a self-reinforcing problem in a couple of aspects. Problem in a couple of aspects. To start with, you're putting up the tax rate on the younger generation and you've done the same as you mentioned, Gerald, with making kids pay for their higher education as well. So they've got more debt through education. They're going to have a higher tax rate to pay for this higher pool of pensioners, so of course, they've got less money to buy the pension assets off the next generation as well. So you will struggle with the asset transfer side. And then the big one, of course, because I think this is what we're already seeing in the fertility data the younger generation feel like they can't afford to have kids, so you're seeing fertility rates fall no, I mean that I I'll throw a few, a few numbers at you on on that.

Gerald Ashley: 12:35

Um, I think your second to last point was um, we could examine a little bit this, this idea that you know, the lower, the younger generations can't afford to pay the asset prices I would like when I come to sell my assets. So am I living in a fool's paradise here and thinking that my pension pot or the assets I have for my old age is actually going to be, uh, in some form of relative decline, and that the good years were not when I've retired, but the good years were when I was actually building it up?

George Cooper: 13:13

Yeah, I think there is an element of a sort of an illusion and a pension asset illusion going on. And while we're on that topic, I think we should maybe mention another one of my little bugbears, which is that we've had this process going on for a couple of decades now of essentially encouraging pension funds to invest more and more of their money in bonds, and particularly very long-dated government bonds, which, to anybody that's been watching the financial markets over the last couple of weeks will know, there's been essentially what looks like a global bias strike for long-dated government bonds. Bond yields are rising all around the world. Japan and the US is probably leading the way in terms of who's getting the headlines, but if you look at the UK market, it's doing the same thing as well Bond yields are rising.

Gerald Ashley: 14:18

Now I guess the raison d'etre for that was is it an accountancy view of the pension fund is look, we're sitting here as managers of the pension fund. We know there are a variety of liabilities going forward, ie their pensioners, who will draw down for an unknown period of time, but we know when they start drawing down. So why don't we just pile into bonds, match it all and there's nothing to worry about? Where's the problem?

George Cooper: 14:52

The asset liability matching in the pension industry is what I call the daftest idea in finance and there's a lot of contenders for that title, but I think it's a very dangerous idea. Essentially, what's happening is we're pretending to ourselves that we can measure the future pension liabilities 20, 30 years in the future.

Gerald Ashley: 15:23

Just as an accounting discount cash flow.

George Cooper: 15:27

Yeah, yes, we're saying basically the bond market, the yields on long-dated bonds embed an estimate for where inflation will be over the next, say, 30 years, and that measure lets us work out how much we're going to have to adjust up the pension rates. So if we invest the money in long-dated bonds, the pension assets in long-dated bonds, then they the the assets and the liabilities will automatically match and no matter what the bond market does in your spreadsheet you won't accrue any gains or losses.

Gerald Ashley: 16:10

That's very seductive for doing the annual report and saying don't worry, we're all sorted.

George Cooper: 16:17

Oh, it's great for corporate balance sheets, it's great for everybody to feel good about it. But if you think about what the pension system actually has to do, it actually has to allow the pensioners in 20 or 30 years time to live. In other words, it has to have, it has to provide real incomes. It's got to be able to buy bread or fuel or housing and medical care or whatever, at whatever the costs are that prevail in 20 or 30 years' time. Now, if the bond markets were able to forecast inflation accurately, then those assumptions might be reasonable. But if the bond markets are themselves being manipulated by central banks with things like quantitative easing, then the bond markets are not providing an independent measure. And in fact, the central banks are doing quantitative easing in order to push down bond yields. And they're doing it to push down bond yields because they want to push up future inflation, in order to effectively monetize away the debt or make the debt that governments have got easier to pay, sure, so so this is yeah very complex picture here.

George Cooper: 17:45

It's a complex picture, but the the point is that you you can't have, you can't claim that asset liability matching works in the current monetary framework that we've got. So it's all a little bit of um an illusion, I'm afraid I was tempted to say smoke and mirrors.

Gerald Ashley: 18:08

I was going to pull the focus out here and look at the really big picture and make some very big generalisations. The huge fork in the road of the West was really the end of the Second World War. Economics and finance types like to say 1944 for Bretton Woods, obviously the war ending now 80 years ago. And are we now at an inflection point where certainly for 75, or let's say 80 years up until now, but around 2020 to 2025, that this sort of happy circumstance of growing populations, growing economic activity, growing wealth could fund all of this and that I wouldn't say is coming to a screeching halt? But it's certainly you. You know we're probably at the peak level and it may be actually going into reverse. Is that? Is that? Do we have to think of a new landscape going forward?

George Cooper: 19:16

yes, I, I, I think that's you know very well put, gerald, it. I think we we've have, you know, with a, with the baby boomers, a whole lot of people coming into the workforce. We had a natural tailwind of demographic growth that helped the economies progress and, of course, just the recovery from the world wars, a lot of other good technological improvements. We've still got the technology improving, but of course we're now in a much more as in the West. We're in a much more competitive world. It's no longer just the West that has the technology, so that's a more nuanced factor. We don't have the demographic tailwind and instead we've got this aging population headwind, if you like, coming in. So yeah, I think we do have some tough choices to make and I think, gerald, you picked up on this just recently. The Danish government has decided to increase their pension age to, I think it's, 70 years.

Gerald Ashley: 20:34

Yes, and I think this is, you know, perhaps politicians feel that they lead the way on everything but in the end, whatever phrase you want to use, market forces, whatever phrase you want to use market forces, sort of the reality of actual life starts to impinge on some of the grander schemes. And again, just to throw some sort of data at people, for UK, what we think of our pension scheme started again in 1948. It all happened in this just post-war period. And um 65, well, that became unsustainable. Women were at 60, that got balanced up to 65 under the idea of equality, but there was no way they were going to reduce men from 65 to 60 to make the equality go that way. And the UK is now creeping up.

Gerald Ashley: 21:33

Most people are now in the 66-67 transitional period and, as you say, denmark, they've kind of moved. They're doing it in stages, quite Scandinavian and careful. It sort of goes up for six months every two or three years and, as you say, it won't be till 2040 and I know we like the old world, 2040 that's a huge way away, but it will be 70 years of age. In contrast, um france, which is one I often look at, um macron, had to fight tooth and nail and in fact had to push things through by, uh, avoiding um, getting a parliamentary vote to move the pension from 62 to drumroll 64. And that just shows the, the, the, the political power of um, what do we? What are we going to call these guys? You know, seniors, greyhead, whatever, you know, elderly, layabouts, whatever phrase you want to use. That's an incredibly powerful political block and in fact, blocking sort of block, and that must lead to political trouble at some point.

George Cooper: 22:52

I would have thought yeah, I think I mean. This is why the triple lock is still in place in the UK, because since it was introduced, rather unwisely, it's just become politically toxic to tamper with it, because the voting population is dominated increasingly by the pensioners. That this is, and this is one of the problems that means it's difficult to address this um, unsustainability of the of the pension system, which means that government deficits are set to, you know, almost permanently be be rising, which comes back to the inflation story. So government, governments are going to have to monetize their way through this, uh, this pension problem and it's not just pensions, it's social security, social payments generally, um, and that's going to lead to, over time, higher inflation, which is going to undermine the real value of those long-term bonds that a lot of pension funds are invested in.

Gerald Ashley: 24:04

Wick thought, rather than go down an entirely different byway. But there's this wonderful term in the UK the so-called economically inactive people. People can go and do their own research on the precise definition, but essentially people are not working and they're getting some form of welfare payment or income assistance. Or they're getting some form of welfare payment or income assistance or they're only partly working. That number in the uk is 9.4 million and again we go back to that 70 million total population. So we've got 12, you know, we've. We've got 19 on a pension, um, you know. And there's 12, 12 percent of people who could be working you on, um. This just all piles on the pressure. So, on the basis that most things don't end with a bang, what's going to change this? Or is it just going to be a long period of grief as reality grinds in um?

George Cooper: 25:08

I suspect we're going to carry on taking the path of least resistance for quite a while yet, which is basically that governments are going to keep borrowing to pay for this. But, as we're seeing with the bond markets, the bond markets are sensing what's going on and the bond investors are saying no, we don't really want to play the game anymore. We don't want to buy a 30-year gilt because we don't think it's going to hold its real value over that 30-year period. So that's going to leave the buyer of last resort, which, of course, is the central bank.

Gerald Ashley: 25:48

Yeah.

George Cooper: 25:49

So I think what we're going to end up with is effectively the Bank of England buying more and more government debt. Initially it'll be the different euphemisms will be developed, There'll be stabilisation mechanisms and quantitative easing mechanisms and other things, but in the end it's monetisation.

Gerald Ashley: 26:16

Yeah, I mean in a way that's the only get out of jail card. I suppose, before we do our sort of closing remarks, I thought we'd have a quick game of let's call it fertility rate bingo.

Gerald Ashley: 26:31

Now this is the idea that we need the replacement rate. I mean, we focus a lot here on old people, but you know where are the young cohorts? Are they arriving Well? Replacement rate of fertility is 2.1 per woman and you can get away with 1.9 to2, but it's you really need to be at 2.1 because people die very early and get run over and all the rest of it. Um, I just wonder. In a way we should have this as an open competition, as a a live podcast, but some of these numbers are pretty grim. Um, does it surprise you to hear that the uk it's only 1.45 percent, or 1.45?

George Cooper: 27:25

I mean, it's a ratio yeah, what 1.45, uh, I mean? Is the ratio yeah, 1.45 births per woman in her lifetime? No, it doesn't, because I've you know. Like you, gerald, I've been looking at the statistics. What I think is quite shocking, though, is the pace at which it's declining.

Gerald Ashley: 27:45

Yeah.

George Cooper: 27:47

So if you draw a trend, if you draw a trend through all of these fertility rates and it's happening everywhere, it's all around the world, it's just different. Countries are different stages of it.

Gerald Ashley: 28:01

I was just going to throw in a couple of other Problems for the home of the red-hot Latin lovers. Italy is 1.18 and Spain is 1.12. I mean, these seem staggeringly low numbers.

George Cooper: 28:20

Yes, and I believe I think at the moment South Korea actually holds the record. I think that's down at about 0.7.

Gerald Ashley: 28:28

And governments have started coming up with ideas of incentivizing tax breaks for more children and everything, but nobody can point to one of these schemes that has been very successful so far, and maybe this just in these fast last few minutes. This is pointing again to the problem of the finances of the under 40s. Who on earth can actually afford to have children?

George Cooper: 28:54

Yes, as I say, it's a self-reinforcing spiral. Because of the way we've structured things, we're piling more and more costs onto the younger generation, which is exacerbating this problem, and we are going to have to break this link at some point. And, perversely, one of the ways that we effectively break the link is with inflation, because If we cap the rate of increase of pensions and we invest them in assets like bonds, the real cost of those assets is going to, or the real cost of those pensions is going to be inflated away. So that's what's coming is effectively a closet tax on pensions.

Gerald Ashley: 29:45

And a tax you can't avoid. Inflation is you can't avoid it.

George Cooper: 29:50

Yeah, it's a tax you can't avoid, but it's also a tax that no government has to declare that they're levying. Yes, it's one that can be sort of done without the electorate's acceptance, which is why we're going to go through it, but it does tend to be a very unfair tax.

Gerald Ashley: 30:07

The cynic in me says that I'm always worried about inflation when governments won't issue inflation-linked bonds. And for all the intricacies of the bond market and Mrs Reeves' issues with needing to borrow more, I don't hear her offering a lot of inflation-linked bonds going forward.

George Cooper: 30:31

I would say inflation-linked bonds. Were there enough of them, they would be the better investment. However, I don't really believe the inflation statistics correctly record inflation anyway. So I don't really believe that the inflation linked bonds are linked in any meaningful way to true inflation.

Gerald Ashley: 30:50

So we basically said this whole topic is like a gigantic whack-a-mole here that whatever one sort of tries and pins down, there's no escape from this one. And it may be that in the very big strategic point that I made earlier, this sort of 75-year period of certainly not been a smooth run since the Second World War economically, but nevertheless, net-net, it's been exceptionally fruitful that, going forward, that things are going to shrink and maybe come back a little in their size, I think we're going to have to come back to this, uh, for a part two, um, and I I think we'll give it a few weeks and we'll think about we come up with some nice ways of, um, of cheering people up, because I think we've done done it again really well, I, I don't.

George Cooper: 31:43

I don't want to end. I don't want to end on a completely down note, gerald, because there is a very positive aspect to this demographic story, as I think we mentioned in one of the earlier podcasts, and that is we are definitely fixing the environmental problem.

Gerald Ashley: 32:01

Yeah.

George Cooper: 32:03

You know that's a positive. You know that's a positive. But also on the whole pension investment thing, one of the reasons I have this sort of bugbear over investing pensions being invested in long-dated bonds is because there is actually a very good asset and a natural asset for pension funds to invest in. If you think about what inflation is, inflation is the cost as a measure of the change in the costs of the goods and services produced by companies. So whatever you're buying, if you're buying goods or services from companies, the change in the price of those goods and services is what inflation measures. So if you invest your money in the shares of companies, you're naturally making sure that the revenues that you're investing in are index linked.

Gerald Ashley: 33:04

You effectively float with the growth that they're generating.

George Cooper: 33:08

Yes, so the right asset for pension funds is not bonds, it's equities.

Gerald Ashley: 33:15

And that is an absolutely heretical thing to say at the moment.

George Cooper: 33:19

It is Now. There was a gentleman, a fund manager in the 1970s called George Ross Gooby, who I think he managed. I think it's British Tobacco's pension fund.

Gerald Ashley: 33:33

He started at a post office fund, I think before, but he became a very major name, didn't he?

George Cooper: 33:39

OK, maybe it was a post office fund, but he basically made this connection. Basically made this connection. He worked out that equities were the superior investment and started switching pension funds, which were much smaller then, away from bonds into equities and did very well for the funds he was running. I think we need a new George Ross Gooby now to try to make the argument to get back into equities and the contrarian in me says that it's such a pro-bond landscape and nobody's you know very blinkered thinking.

Gerald Ashley: 34:22

Huge percentages of funds are in bonds. Huge percentages of funds are in bonds. Maybe he's out there, maybe he's still at university.

George Cooper: 34:35

But wherever he is, something needs to see change, doesn't it? The problem, of course, is it's very difficult for the government to unwind the legislation that has encouraged this movement into bonds. Yeah, because of course, the movement into bonds has helped them fund their deficits, sure it's. You know, we're seeing pressure, we're seeing pressure, um, from the current government on pension funds to start investing I think it's five% of their capital into let's be generous and say experimental projects. But of course, they've also, over the last few decades, they've been putting pressure to invest in government bonds through the regulatory framework, which is also a closet tax on the pension industry.

Gerald Ashley: 35:29

And that's been as you say. It's extremely well embedded. Yes, george, I think we've done enough of depressing people for our sort of just over half an hour, as you say. Let's not make it completely depressing. It's just that we're observing where we've come from and that the future is somewhat different and that maybe the lessons of the past are not going to be very informative for where we go forward, which is always slightly alarming for people because it's sort of uncertainty rather than risk. To finish off, I'm going to cheer up people and say don't worry about your pension fund, I've got a brilliant scheme for you.

Gerald Ashley: 36:12

What you need to do is learn from a professional bookie and gambler, and my book for this episode is called Odds and Sods by a gentleman called Ron Pollard. He died a number of years ago. It was his autobiography of his 40 years at Ladbrokes, the bookies, and it is a rip-roaring tale of extraordinary betting in the 1960s, 70s and 80s, of big disasters and big betting coups. Extremely entertaining, and maybe you'll give a chance to think readers have got a different way of getting out of jail. I'm not certain that's the thing to be. My last comment on that would be try to be a bookie and and not a punter, if you really want to make money in this world.

George Cooper: 37:01

But that's my book for this episode okay, well, mine, mine is set in a similar time actually it's set in the 60s, 70s, 80s and it's really the life story of a gentleman called Robert P Smith and the book is called Riches Amongst the Ruins and it's his story about how he became involved in the, about how he became involved in the emerging market debt industry and how after I think he started, really after the Vietnamese War how he started trading the debt of emerging governments in Africa and Latin America and Asia. I wouldn't say it's terribly useful for understanding financial markets these days, because the structure of the markets has changed so much since he was operating, but it's nonetheless a very interesting historical story of how the markets developed.

Gerald Ashley: 38:05

Well, it may spark thoughts on where are the future riches amongst where may be the current ruins? George, as ever, thank you very much. I think that kind of winds us up for this episode. So thank you once again for listening, okay, thank you, Gerald, talk soon.