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Time to socialise savings

Most people hate making financial decisions. They put them off if they possibly can. The research required to make most financial decisions is difficult in itself and it also forces you to confront issues you do not really want to think about. No wonder procrastination is the norm.

This is simply human nature, which is not easy to change. Well-intentioned educators keep saying we need more financial education. What the FSA and the Consumer Finance Education Body mean by that is more education about the financial products, sales and advice processes authorised by the regulators.

The problem with this is that it makes the same wrong assumptions as finance theory. Its model is that we are rational creatures attempting to maximise our utility. We are content to take responsibility for our own actions and our own future. The more choice we have the better.

None of this is true. We do not like those rational computations and choices and all the evidence shows that we are very bad at them, especially when weighing long-term against short-term rewards, because of hard-wired characteristics, especially the way the limbic system (gut, emotion) overrides calculation. We are social animals and much prefer going along with the crowd to painfully working things out for ourselves.

Knowing how we are as human beings, consider what you would ideally want as a system for long-term savings. You would want a long-term retirement savings system that opted people in without any choice, did not require them to take any decisions about how their money is invested and delivered a reasonably predictable stream of income in retirement. You would want the option to top up these savings with a simple plan that required no difficult decisions, generated very low volatility and gave a clear caution that it would not pay you back at a profit for several years at least.

Advisers may consider I am being patronising but do not be misled by the small fraction of the population who consult a financial adviser. The financial system should be designed around the simple needs of the many, not the complicated wants of a small minority.

A combination of a career-average defined-benefit pension scheme for employees (with as near a clone as can be devised for the self-employed) and a with-profits savings plan would meet the needs of the vast majority of people. They really do not need anything more complicated. Neither product is, in principle, hard to design if you accept the role of the state as backstop insurer.

Instead of recognising that longevity and inflation can only be managed collectively, we have created the situation where everyone has to struggle with them individually but cannot manage the risks effectively. In fact, the only possible solutions are socialised ones where the risks are shared.

Nest makes a start in terms of auto-enrolment but still uses an automised investment solution where a socialised one would be better. With-profits has been killed off by life office stupidity and regulatory incompetence and people are expending vast amounts of money and energy trying to recreate its results, which is like trying to create a family car out of mismatched parts designed by a dozen different manufacturers.

Over the next decade, I expect conventional views to shift towards collective, socialised solutions to the savings issue. In the meantime, we will all pay more than we need in our attempts to insure the uninsurable.

Chris Gilchrist is director of Churchill Investments and editor of The IRS Report

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Comments

There are 5 comments at the moment, we would love to hear your opinion too.

  1. Socialism doesn’t work. If humans are too stupid to live their own lives and must be governed, who is supposed to do the governing? Aliens? The one thing that creates more disaster than a stupid person trying to govern himself is a stupid person trying to govern everyone else.

    All socialised systems have the same problem: that the omniscient, omnibenevolent superhumans who are supposed to run things for the benefit of the masses do not exist. As Chris says, there is nothing inherent that prevents defined-benefit or with-profits from working, but we know exactly how the people who would actually be put in charge of British Leyland Savings would screw it up: overpaying bonuses, underestimating human longevity, raiding the pot, etc etc. We know that’s what would happen because we’ve seen it a hundred times before.

    “Neither product is, in principle, hard to design if you accept the role of the state as backstop insurer”? Well, a product which guarantees a pension of 100% of everyone’s salary from age 40 plus a free kitten is easy to design if you accept that saying “and if we run out of money, we’ll knock on the door of the productive classes and take more of theirs” is both feasible and morally right.

  2. He said Socialised, not Socialism.

    Chris’s comments about crowd behaviour are correct, and in the mass sector, the products that most people use arent’ necessarily the ones that are best for them, but the ones that everyone else uses (take company pensions for instance).

    Essentially, any private sector solution that could adequately recreate the models of many online businesses, or wraps for that matter (eg, take a smaller cut by targetting many more people) and wrapping it in a pretty and easy to use pakaging could find success.

    As a state solution, NEST is unlikely to have the pzazz to acheive this. Wouldn’t it be nice, though, if people clamoured for pensions in the same way they clamour for iPhones?

  3. Russell Hutchinson 13th April 2011 at 2:26 am

    What bothers me first about this is the lack of evidence to support all these assertions.

    What bothers me next is the lack of imagination: as soon as you start thinking about scenarios you realise the problem of this ‘one-size-fits-most’ approach.

    Not-saving is often rational: if you are on a very low income for example: when buying shoes for the kids is a better use of the money.

    Saving in non-financial products is often rational: putting aside money to start your own business for example; or spending more money on your education so you can earn a higher income in the future.

    State savings vehicles come with moral hazard: hundreds of thousands of KiwiSavers in NZ are saving too littel (2%) into the wrong funds (cash funds) because of the design of default funds.

    I am sure we could continue to add to the list. State savings vehicles can play a part, but unless you recognise the boundaries of that part you will short-change your savers, limit their financial flexibility, and cause harm.

  4. The problem with this approach is once again we are pandering to those who don’t want to take personal responsibility for anything they do.

    This is treating the vast majority of the population as morons unable to make decisions for themselves – which they can, they just choose not to (unless its buy the new iPhone or Wii).

  5. Chris makes some very valid points, especially when he says “The financial system should be designed around the simple needs of the many, not the complicated wants of a small minority.”.

    Should be, indeed. However, the financial system is never going to be deisgned to serve the many, its whole driver is to make money for a few. That’s why the whole population is being taxed more and getting less back, as well as facing pay cuts and job losses, while the banks are handed billions of pounds of public money which they use to pay back loans to ‘money markets’ and inflated salaries and bonuses to each other.

    Regarding socialised savings – isn’t that what Natonal Insurance/state pension is?

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