Thursday, December 06, 2012

Intergenerational Transfers

Earlier this week I published a couple of posts on the economic problems caused by short-term risk-averse capital. Intergenerational transfers are a related problem. They were easier in the past when life expectancy was much shorter. Death took care of the problem, because most cultures had inheritance laws, under which the family property passed to the oldest child, usually a son (youngest child in some cultures). The inheriting child was expected to look after his parents in their old age, and take care of other members their family. This process for transferring capital assets from one generation to the next has been broken down by heavy taxation and increasing life expectancies.

Young people no take out loans to pay for their education. They get deeply into debt at a very young age. They get further indebted when they purchase a house. They have very little real savings, so they purchase their house with a mortgage to the bank that is often ninety to a hundred percent of the value of the house. This worked very well for most of the last half century while governments were inflating their currencies and property rose rapidly and inexorably. With the mortgage fixed in nominal dollars and prices rising rapidly, the mortgage was wiped out by time.

At the same time, older people were expected to save for their retirement. Once their children have left home and their education and housing debts had been wiped out by inflation, they have to push money into the financial system to build up funds to support themselves during retirement. This has been hard work because, inflation fights against them. They receive interest on their capital, but it is quickly wiped away by inflation.

Although these processes take place independently, the financial system combines them into a massive international generational transfer machine. Young people need money to pay for their education and homes. The banking system lends them the money that they need. Older people need to save up money for the retirement. They hold their savings in the financial system. The financial system becomes a machine that takes the savings of the parent’s generation and recycles it to their children’s generation. Inflation assists the process by wiping out the debts of the younger indebted generation and eating away at the wealth of the parents.

The financiers make money at both ends of pipe. While young people are waiting for inflation to wipe away their debt, they pay a huge amount of interest, often more than the value of their house. The parents want high interest and low risk, so they save their money in the banks that fund house mortgages, or other financial institutions that buy mortgage-backed securities from banks. They get an interest rate that is sometimes less than the inflation rate, so they are paying at their end of the pipe too.

The big beneficiary of this flow from one generation to another is the financial system. It charges fees at every point on the pipe, and those on the inside grab huge salaries and bonuses.

The global financial crisis that struck in 2007 broke the pipe. At the parents end of the pipe, money that was saved for the future suddenly disappeared into a black hole of risk. People who thought their future was secure, suddenly found that it was scary. At the other end of the pipe, house prices that were supped to rise forever plummeted. Mortgages that were supposed to be withering away, suddenly grew to be worth more than the house.

We clearly need a better process for transferring capital from one generation to the next. Paying the banking system to make the transfer is costly and sometimes robs everyone, except those inside the system.

Deeper attitudinal problems are created by this approach. Young people learn to live with high levels of debt at a very young age. They were encouraged into property speculation as the best way to build up assets. This creates bad attitudes to work, debt and risk. Wealth comes by speculation, not be hard work, entrepreneurial risk-taking and thrift. The older generation are encouraged to live for the short-term. Put together enough short-term savings in low-risk investments to keep you going for a few more years, and you can consume everything you earn. There is no incentive to build for the long term.

God is concerned about families and households.

I am the God of your father, the God of Abraham, the God of Isaac and the God of Jacob (Ex 3:6).
Exodus is not saying that God likes these three guys. He saw them creating a spiritual and material inheritance that was passed on from one generation to the next. Jacob should have built on what Isaac had established, Isaac inherited spiritual gifts, wisdom and wealth from his father Abraham. This is not each generation looking out for itself. This is each generation building on what the previous generation has done to do greater things for God.

We must start thinking this way. Instead of children building their own wealth through speculation and leverage, they should be guarding and building their family inheritance. Instead of parents caring for themselves and consuming the rest, they should be building a spiritual and material inheritance that their family can build on in the future.

Christians should develop ways to make this intergenerational transfer that bypass the financial system, so that bankers cannot clip the ticket at every step along the way. When the banks manage the transfer of capital, the transfer of spiritual capital is weakened. The transfer should work the other way round. The transfer of spiritual capital is most important. The material transfer should follow the transfer of spritiual capital, so that the kingdom of God is built and God is glorified.

No comments: