With his latest money tips article Dave Deruytter takes a look at the possible financial plight of a generation.
The current generation below 35 years of age, the Millennials, risk being poorer off than their parents. It has been more than a century ago since that happened.
What is needed to stop it materializing?
In the aftermath of the financial and economic crisis of 2007 and 2008, worldwide economic growth has been much lower than in the decade before. This has led to higher unemployment and to companies reducing costs, including labour and headcount. Business does that to keep up healthy levels of profits in stagnant or low-growth markets. Cost reduction is also fueled by the fact that investors still have the same Return On Equity (ROE) expectations they had before the crisis of 2007, notwithstanding the fact that risk free interest rates have tumbled to at times below zero percent.
It is obvious that investment return on ‘risk assets’ should be higher than the one on ‘risk free assets’ before an investor is willing to take a chance. Still at the time that 10-year government bonds yielded 7%, a ROE on stocks of 15% gave an 8% mark-up for the risk involved in shares. Today with the 10 year government bond yield at 0% a ROE on stocks of 15% looks unsustainably high. Logically, today a ROE of 8% should look good, not low.
At the same time, companies and rich individuals have kept optimizing the taxes they pay using all kinds of complex structures onshore and offshore, leading to poorer governments. Those governments in turn have lured investors with low taxation in a round of fierce competition with neighbouring and BRICS countries. Furthermore, the vast disintermediation effect of the global digital and internet race has accelerated the cost reduction plans of many large established international groups.
The result of all this on wages and employment is pretty drastic. Wages have also been under pressure given the increased labour and capital mobility over the past decade. Companies and people are much more mobile than before. However, even though this is and, indeed, necessary for the global economy, it has led to production plants being shifted to low cost, low tax countries and to workers moving to the countries with the higher wages for the same type of jobs. If a young person with a Master’s degree in a country with high youth unemployment today sees the opportunity to go abroad for €1,000 per month, few of them will hesitate to make the move. The country he or she is leaving loses the brains. The country receiving graduate gains them at a cheap price and, sometimes, compared to the cost of employing a local at €1,500 per month. Flexible labour and capital markets are good for global economic growth, but education systems, entrepreneurial support and labour and tax laws should be equipped to manage this new reality.