Young Generations Are Now Poorer Than Their Parents And… — Transcript

A society grows great when old men plant trees whose shade they know they shall never sit in.

A Greek proverb from a time well before the problems of our modern economies or the study of economics itself, is as true today as it was thousands of years ago.

But do we really live by this idea?

For the first time since the Industrial Revolution, successive generations are not becoming wealthier than their parents.

While there have certainly been setbacks and historical outliers from this trend, it has remained true in aggregate for the populations of most developed economies.

For a long time, it was simply the expectation that people's children would have a better lifestyle in their adulthood than they did.

But today, that really is no longer the expectation, in fact, most young professionals can only aspire to live the lifestyles that their parents did.

Younger generations are finding it harder and harder to get reliable jobs, afford comfortable homes, start a family and save for retirement.

This is despite the fact that the world is a much richer place today than it was at any point in the 20th century when baby boomers were busy building their now unassailable fortunes.

So, what is going on here?

How is it that a world that is richer overall, producing generations that are poorer than the ones that preceded them?

Is there some underlying cause to this?

If there is, is there a way to reverse it, and if there isn't, does that mean that we can expect every generation going forward to be poorer than the one that came before it from now on?

Oh, and I suppose it's probably also worth asking, does this even matter, since everybody is eventually going to die and pass down their wealth anyway?

Here's a question for you all, is it better to be born into a large cohort with lots of people the same age as you, or a small cohort with not a lot of people the same age as you?

Traditional economic theory would suggest that a small cohort is preferable, it means less competition for jobs, housing, social programs, spots in good schools, and on a macro level, less competition for things as basic as natural resources.

But how then do you explain the baby boomers, which despite being part of the largest population explosion ever, are in aggregate, very wealthy?

Well, Lord David Willetts, a British politician, demographer and author, suggests that the opposite may be true, and that in a democratic system, being part of a larger cohort is actually preferable because it gives that group more voting power on generational issues and more sway in marketplaces.

When the boomers were young, they voted for policies that benefited them, low cost or free higher education, family support systems and strong social welfare.

When they got to the peaks of their careers, their voting patterns changed again, and now this large block of voters was in favor of lower income taxes, less business regulation, more domestic industry protections to avoid outsourcing and global competition, and on a smaller scale, things like zoning laws, which would protect the value of their homes.

The push towards suburbs with mandated single family building requirements meant that houses got bigger and good locations got more desirable because only so many family homes could be built there, in the 50s, houses were basically a commodity, the majority of the expense was in building the structure itself, and it wasn't unreasonable for the family cars to cost more than the family home.

Fast forward 50 years and those houses are now investments as much as they are places to live, in old age, the boomers have now started voting to support retirement benefits, pension schemes, medical infrastructure and to remove wealth taxes, even if that comes at the expense of all the schemes that served them well in their young age.

Of course, David Willett's work focused specifically on the UK, and yes, I know, there are certainly people that vote for the greater good rather than their narrow self-interest, but on average, it is easy to see this trend throughout the past half century in most advanced economies.

In my own home of Australia, for example, the 2019 federal election was more or less decided by a policy decision that would reduce the tax effectiveness of Australian retirement accounts.

The party that advocated for keeping the favorable tax structure ended up winning, primarily thanks to older Australian voters.

We recently just had another election where the opposition party backed down on their plan to change retirement account taxes, and they won, very convincingly, a 2017 British election study found that over time, votes for conservative parties have shifted from being divided by rich and working class, to being divided by young and old.

A lot of what I have discussed so far came directly from Willett's book, The Pinch, and a lecture he ran at the Royal Institution, it's definitely worth a read if you are interested in these demographic processes.

Now, a lifetime of favorable government policy can be hugely beneficial to building wealth.

Imagine how much better off the average millennial would be if they got free college or secondary schooling, even all of the things being equal, this would be the difference that a lot of young people need to be able to put a deposit on a house.

And that's the next big issue to consider, the housing divide.

David Willett's small cohort theory probably omits, or at least doesn't emphasize one important detail that gave baby boomers another advantage over successive generations, and no, it's not simply that they were able to buy houses when they were cheap, certainly that didn't hurt, but it's more a symptom of a bigger issue, they were a big cohort in a small world, they had all the voting power and hardly any of the competition.

In the 1950s and 1960s, the global population was roughly a third of what it is today, and not to start a whole thing here, but if you were a white man in the countries that we are mostly focusing on, your competition was even less severe.

So, this added back all of the apparent trade-offs that we thought of earlier, there really was less competition for basically everything, including jobs, because employers had a smaller pool of labor to choose from.

Labor force participation amongst women was very low, which further reduced the supply and hence the bargaining power of workers, but it also meant that domestic duties were normally taken care of, which reduced household expenditures on things like child care, food and general maintenance.

These higher relative incomes combined with lower outgoings meant that houses could often be paid off with as little as one year's income.

Yes, they did have to endure higher interest rates, especially in the 70s and 80s, which were their peak home buying decades, but it didn't really make the difference it would today.

The median home in the USA in 1985 was $82,000, that's median, so 50% of homes, like the ones first home buyers would be looking at, would be cheaper than this, but let's keep it simple and stick with 82,000.

Adjusted for median household incomes, that $82,000 becomes $103,000, the average mortgage rate at this time was 15%, or roughly $15,000 per year, it did get higher in certain years, but most borrowers were fixed in at an absolute max of about 15%, so that's the worst case scenario.

The median home today costs $430,000, and the average interest rate is just over 5%, or $21,500 per year, just in interest payments, again, this is adjusted for median incomes at the time, so on the surface, these seem pretty comparable, maybe the younger generations shouldn't be complaining about unaffordable housing, after all.

A lot of people brush away this comparison by saying that inflation at this time was extremely high, so these higher interest rate payments didn't mean anything, but that's actually not true.

Inflation in 1985 was 3.5%, and while it was as high as 13.5% in 1980, this was consumer price index inflation, not housing inflation.

The prices of houses throughout these decades actually grew at a relatively modest rate, it was everything else that was getting expensive, this is kind of the opposite of what we expect today, where house price growth outpaces inflation, but that was not the case in the 70s and the 80s.

So yeah, the inflation argument isn't totally fair, so is it fair to complain about how easy it was for baby boomers to buy a house, well, no.

They still had it easy for two other big reasons.

It's not what you'd expect, but the higher interest rates actually kind of helped them, saving money for a deposit in an account that pays 10% interest per year really accelerates that savings goal, higher interest rates also ensured that house prices never got too high because the repayments would just become unaffordable.

In our example from before, we were looking at interest paid on the loans from two time periods, but the thing with a mortgage is you've got to pay back the principle as well, paying back the principle on a $430,000 mortgage over a standard 30-year loan term will cost an additional $14,300 per year, bring the total annual repayment to just under $36,000, the house from 1985 would have a principle repayment of $3,000 per year, bring the total repayment to just over $18,000 per year, half of what the 2022 home buyer would be paying, despite interest rates being three times higher.

Put another way, if the repayments were kept equal, the person buying the home in 1985 could have it paid off in five years rather than 30 years.

So, why am I focusing so much on housing, well, despite being a very important part of our lives, houses are also uniquely unproductive.

Real estate is kind of unique as an asset class because it doesn't produce anything of value, a house sitting on a block of land can appreciate in value and can provide a home to its owners or rental income stream to an investor, but it doesn't make anything.

Of course, there are other investments today like cryptocurrencies that also don't produce anything of value, but their market is minuscule next to the market for real estate around the world.

Minuscule and also irrelevant, if the value of Bitcoin goes to a million dollars, well, that's great for the people that invest in it, and it will have some minor knock-on impacts in other markets as people cash out to buy whatever crypto millionaires buy.

But it's not going to put anybody out on the street, housing affordability can do that, and it can also slow the progress of entire economies.

Every economy in the world is still, for better or worse, focused around large centers of economic activity, what a regular person might call a city.

If the real estate in these cities becomes too expensive, then it becomes infeasible for workers to hold down jobs there, because more and more of their income will just go to paying rent, in the short term, this can be offset by higher wages, but then these centers are really just operating for the benefit of the landlords that are lucky enough to own property there.

The money that landlords make from their properties are unlikely to be reinvested into company growth or spent on regular consumer consumption that keeps these businesses in business, it is likely to be spent on more property, further driving up market values and the amount of money that gets sucked out of productive centers to be shoved into unproductive assets.

Higher house prices also reduce social and geographical mobility, a 2020 Pew Research study found that 52% of young American adults between the ages of 18 and 28 still live at home with their parents.

One could also reasonably assume that this number is higher after two years of COVID and record high house price growth.

These young adults are financially bound to where their parents live, if they get offered a really good job in a different city, they would have to decide if it's worth the pay increase versus the increased cost of living on their own, if they decide it's not, then they miss out on a good job and a business misses out on a productive worker.

The concentration of wealth in a particular generation is something that can have very real consequences for entire economies, and these effects are only going to get more pronounced as populations continue to age, places like Japan are clear examples of this, and they don't have the same kind of housing problems that we do in the West.

But long term, does this even matter?

I don't want to get too morbid here, but people eventually die, and their wealth will get transferred down to their children or some other beneficiary.

So, the concentration of wealth in a single generation is at worst a transient issue.

I actually made an entire video last year about the great wealth transfer, which is the process of the baby boomers dying and leaving their wealth behind, the problem we discovered in that video was that a lot of the wealth that is being passed down is coming in the form of private family businesses.

In brief, the problem with that is that often these small businesses need the owner to continue operations, and the people that stand to inherit these businesses are either unwilling or unable to run them, small businesses are a huge part of the economy, losing them will do a lot of harm.

Now, a glimmer of hope here is that these businesses can be sold by their inheritors to people that do have the skills and desire needed to run them, perhaps they will sell them to people who have themselves got the money they need to buy the business from their own inheritances.

The problem here is the type of people that will actually be receiving this money, most people don't receive money from their parents passing until they are pretty old themselves, often approaching the end of their careers or starting retirement.

If the money gets handed down to them, they are likely just going to use it to fund their own retirements, and then just hand down whatever's left to their own elderly children.

Money pooling in the hands of older people means less opportunity will be afforded to younger people to do all of the things that they do to build a functioning economy, buying a house, getting a good job, and you know, starting a family so that there is a continual supply of workers to run an economy.

You can't run an economy on people waiting to get old enough to finally do something with their lives, economists call this the intergenerational wealth problem.

I like to call it the Prince Charles paradox, but it is something that we are going to have to address, things like wealth and estate taxes are commonly proposed solutions, but even if they did work, they are going to be very unpopular amongst the huge voting block that got us here in the first place.

The final thing we've got to ask ourselves is, is this all the boomers' fault?

I know a little bit of intergenerational bickering is all good fun, but blaming our current economic issues on a single generation is not going to be very productive.

Voting in your own best interest and policies being enacted in the best interests of the majority is the foundation of democracy.

And I don't think that anybody is reasonably going to argue that this is a bad thing, I think it's also very important to look at examples of economies where this has not happened, the second largest economy in the world, China, is a great counter example.

Their generational baby boomers are known locally as the lost generation because they spent most of their working life in a dysfunctional economic system.

They were also too old to truly benefit from the rapid economic expansion that took place in the decades after the economy started opening up, this meant that despite still being a large portion of the population, they did not enjoy the same economic prosperity as their Western peers.

Economic prosperity was also something that the boomers enjoyed that wasn't necessarily within their control, the last half of the 20th century, by historical standards, was very peaceful, the world also opened up to international trade, and growth was put into overdrive by an abundance of cheap energy in the form of fossil fuels, it was a great time to make a fortune, and people did, which is probably the final piece of the puzzle.

Once people become extremely rich, and I'm talking about multi-millionaires and billionaires here, they don't normally become poor again, the clump of billionaires that came from this generation will be skewing these figures to make them look worse than they really are, remember, in a group with one billionaire and 999 people who are completely broke, the average member of that group is a millionaire.

Most billionaires are pretty old, and these people will be making outsized impacts on their generational wealth statistics, again, if we look at billionaires by age in China, a country where voting by the general population doesn't really happen in the traditional sense, we can clearly see that wealth comes from periods of strong economic conditions, not just having the ability to bend public policy to suit you and your peers.

Although, of course, I'm sure it doesn't hurt.