“Australia’s central bank governor… said generating sufficient retirement income in a world of chronically low yields on long-term assets like bonds will be a “nontrivial” challenge for local markets… The key question is: how will an adequate flow of income be generated for the retired community in the future, in a world in which long-term nominal returns on low-risk assets are so low?… This is a global question. Just about everywhere in the world the price of buying a given annual flow of future income has gone up a lot, … Those seeking to make that purchase now — that is, those on the brink of leaving the workforce — are in a much worse position than those who made it a decade ago… The problem must be acute in Europe, where sovereign yields in some countries are negative for significant durations… But it is also potentially a nontrivial issue in our own country.”
The economic landscape as observed by RBA Governor, Glenn Stevens acknowledges that low interest rates are here to stay – no matter what happens. This is contrary to the thinking of Treasurer, Joe Hockey whom has suggested that higher rates will follow on from Australia’s debt problems. Investors may see that Hockey suggests that a credit downgrade would be good for retirees (higher interest rates) whilst Stevens says sorry, a credit downgrade will mean that rates may well fall based on the European experience.
These conflicting views and commentaries clearly show the mess that the world’s financial system is in. No one knows whether bad or good news is bad or good for interest rates.

Implications for investors

So the question for investors is this:
Would Australian interest rates go up due to a credit downgrade or are they now stuck at low levels no matter what happens?
Based on overseas observations it seems clear to us that the latter view will transpire and that retirees need to understand the consequences for their retirement.
Retiree
In our view, there will be a requirement or need for self-funded retirees to draw down on their capital at some point to sustain their quality of living. As a consequence there will need to be a significant rethink of the structure of superannuation and public pension entitlements in Australia. As Stevens has flagged – income from capital will likely be insufficient to service pensions.
The RBA Governor’s comments were not surprising but it is truly alarming that he proffers a commentary without a solution. Maybe he is indicating that he has no solution or indeed is reaching out for ideas. Whatever his intention there seems an urgent need for a national summit to formulate a non-partisan response and solution to this low interest rate and slow growth environment.
To start the debate we make the following suggestions:

  1. Every Australian needs to be assured that they have an “aged care” safety net.
    It will certainly become a significant drag on consumption and therefore growth if retirees confronted by low yields and longer life expectancy simply pull back on drawing down capital in retirement because they need to look after themselves in aged care. Australia needs a national capital investment strategy to look after ageing population at the end of their lives. That is just one of a number of national infrastructure projects (see below) that can be kick started from our massive superannuation pool;
  2. Australia needs to respond to the monetary policy settings of Europe, Japan and the US with a plan to protect our growth and our economy.
    The interest rate settings that are supported by QE in Europe and Japan are economically destructive. We need a strong response and exchange controls on the flow of speculative capital into this country need to be implemented. Some will claim that this is not conducive to an open economy. That is true but the policy settings adopted by our so-called friends are destroying the retirement aspirations of our citizens, pushing up the price of investment assets and slowing our economy during its transition from the resources cycle; and
  3. It is time to develop a massive infrastructure upgrade of public assets in Australia.
    This can be achieved by the issue of high yielding infrastructure bonds that should by law only be held by Australian citizens and preferably by pension funds. Our massive super savings pool needs to be garnered into productive investment. There will be a growing need for income (as flagged by Stevens) and this requirement can be met by an infrastructure bond issue that is supported, if required, by a sensible QE program. A QE strategy focused on funding growth would be unique in the world. Too much QE has been directed at manipulating interest rates and the result is low growth.

Time for Australia to act

The above may sound fanciful but they are suggestions that should be placed with others in a serious policy debate to set Australia’s future. Today, more than ever the future is becoming harder to predict. The economic policy settings that have sent interest rates into negative yield territory are without precedent and it appears with little concern for the full range of negative consequences.
RBA Governor Stevens’ comments suggest that he is uncomfortable with the direction of interest rates in this country. He should be comforted by our observation that every thinking person in Australia is also concerned. It is time for the political leaders to acknowledge that conventional policy will not work. It is time for Australia to act in our interest and not be dictated to by overseas leaders who simply do not know a way forward or indeed a way out of the mess they have created.