Why Is Personal Finance a Hot Topic Now?

They must often change, who would be constant in happiness or wisdom.

~ Confucius

Why Now?

Another sign of the rising prominence of personal finance is the Canadian government’s Task Force on Financial Literacy, to which we gave a gold medal in yesterday’s post. The recently published Task Force report asked the question “Why now?”. Why is personal finance so much more important today that we need a task force to study it? The short answer is that things have changed. As a result, we need to give Canadians the tools they need to adapt to the evolving financial landscape.

What’s Changed?

The Task Force report identified several factors that have affected the financial environment:

1. Demographics:

• The sheer size of the Baby Boomer generation means that a huge number of people will be collecting pension and investment income while a much smaller pool will be contributing to those entities. This may result in pension shortfalls as more people are collecting benefits than paying premiums. It may also cause stock market instability if a lot of Boomers choose to redeem their investments at once.
• One factor that I did not see in the report was the issue of a large cohort of people living much longer than their parents and the resulting strain that might put on the health care system. Further, the Boomers will likely require longer long-term care as they age, resulting in a need for more nursing homes and long-term care facilities.

2. Structural Economic Changes:

• Globalization has meant that risk and reward are spread internationally so that trouble in one economy can mean bigger trouble for the global economy. (Witness the U.S. subprime mortgage contagion and the currently unfolding Greek debt drama.)
• Many governments and corporations are shifting the burden of retirement planning and saving to individuals. Defined benefit plans are becoming extinct and defined contribution plans are becoming the norm. In some quarters, pension plans are being eliminated altogether.
• Secure lifelong employment is a thing of the past and “job change is the norm, not the exception.”

3. Changes to the Financial Marketplace:

• 40 years ago credit cards were a seldom-used luxury item, and debit cards did not exist.
• 25 year mortgages used to be the norm, whereas 35 year mortgages are commonplace today.
• The number and complexity of financial products has increased dramatically over the past few decades. Derivatives of all types have grown exponentially. Derivatives are financial instruments that are derived from other financial instruments. Credit default swaps are one example. The counter party risks associated with these insurance-like contracts create a trail of dominoes that could cause serious problems for the financial system as evidenced by the AIG debacle.

Change Can Be Good, But Only If We Adapt

It seems like our ability to adapt to the changes above has been somewhat unbalanced. We have greeted the increased access to debt with an increasing amount and duration of debt. This has almost come to be seen as normal and healthy. In The Lexicon of Debt, we examined the idea of debt as a tool to be used wisely and sparingly. Many have forgotten this basic personal finance tenet, and may not realize that excessive debt can place their retirement dreams in jeopardy.

Although we seem to have taken advantage of the increased access to debt, it seems that many of us have not adapted to the idea that we are going to be largely responsible for funding our own retirement lifestyle. Many people are not saving adequately for retirement, as most of their income is going to support their current lifestyle and to service increasing debt loads. They still believe that the future will somehow take care of itself. For 2009, the maximum a Canadian who has worked their whole life can expect to receive from CPP is about $10 900 and from OAS, $6200. That’s a start, but it’s not a lot to live on.

Adapting to the changing financial market conditions is essential as well. I have written repeatedly that I believe that risk levels are elevated right now and that caution is warranted. Awareness of these factors can help you navigate the investing waters.

What Can You Do?

Adapting to this new landscape could be as simple as becoming more aware of the big picture and controlling the factors you can in your own financial environment. Here are a few questions to ask yourself to get you started:

• Do you have a clear, written financial plan including a budget, savings, and retirement plan?
• How do you view debt? Is it a tool, an emergency fund, or a blank cheque?
• Do you have a liquid emergency fund for unexpected repairs and expenses?
• Do you have a larger liquid emergency fund and plan in case of job loss?
• Do you know how much you will need to save to retire when and how you want?
• Do you have an idea of how much income you’ll receive from various sources in retirement?
• If you are lucky enough to have a company pension, do you understand how it works? Where is the money invested? What happens if the company goes bankrupt or the fund is mismanaged?

These are just a few of the questions that are relevant to your financial security. Go ahead and add some more in the comments section.

Do you find that people are discussing personal finance now more than in the past?