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What's inflation? The battle to get young people to save
One in four young people can't read a bank statement, and more than half don't understand inflation. That bodes ill for encouraging saving.
by Michelle McGagh on Feb 18, 2016 at 12:51
Young people are often criticised for failing to save but most don’t know where to start; these rules of thumb could help them navigate financial services and encourage them to put money aside.
Trying to get young people to save is a problem that the financial services industry is grappling with and, at the moment it seems to be losing the battle to engage them in saving for their future, or even for a rainy day.
According to the government-run Money Advice Service (MAS), financial capability in the under-35s is seriously lacking.
Carl Pheasey, head of policy at MAS, said 60% of people had a day-to-day budget they believed worked and the same number could cover a £300 emergency, such as a boiler breaking down.
However, when it comes to long-term planning just three in 10 have a specific plan to achieve financial goals.
Putting a financial plan in place may seem like a daunting task but as a basic rule, Pheasey said putting three month’s salary aside into an emergency fund is a good idea.
‘It is important to have rules of thumb for saving and the most common is three months of post-tax salary, but only about one third of people have that,’ he said.
Pheasey also said people need to be encouraged to learn financial basics; a survey by MAS found one in five people could not read a bank statement and this increased to one in four 18-to-24 year olds.
Worryingly, 36% of the population could not calculate the impact of a 2% interest rate on £100 of savings. People were also confused when asked about the impact inflation has on their purchasing power; when asked what would happen if interest was 2% but inflation was 5%, individuals did not understand the value of their money would fall.
Around 60% of 18-to-24 year olds and half of 25-to-34 year olds could not answer questions on inflation and were unaware of the impact it has on their money.
Pheasey said the individuals who could not answer basic financial questions were still buying financial products but with little understanding of their impact.
‘Of people aged under 35 who buy a house and apply for a mortgage, earnings £35,000-plus, half of those cannot answer that simple inflation question,’ he said.
‘We want more people to manage their money day-to-day, manage life events both foreseen and unforeseen…we want to build a savings culture but it is hard to do. In the next couple of years we will be co-ordinating a programme of action to help those who do not save at all to develop a saving habit. We are looking at what rules of thumb and standard messages would help people.’
Steve Jenner of asset manager Henderson said 45% of people who currently did not save had the means to so but they ‘do not know how to do it or do not have the motivation’.
He believes that people should be encouraged to meet financial targets, such as retirement saving rather than be told to buy into a product like a pension or purchase investment funds as this puts people off.
Rules of thumb
But the key to encouraging people is establishing rules of thumb for them to follow.
‘We need to rules of thumb, we need to provide people with real-world benchmarks,’ he said. ‘£3 a day [into savings] will equal £1,000 a year, for example.’
Jenner believes retirement benchmarks are especially important and that savers should be aware of what pension size they need in terms of replacement rate.
A replacement rate is how much money you need to live on in retirement. Currently the government advises you to aim for a replacement pension rate of two-thirds of your salary; this means a person earning an average salary of £26,000 should be aiming for a replacement rate of just over £17,000 a year.
Although the state pension will make up just under £8,000 of this, you need to cover the remaining £9,000 yourself, which Jenner said would equate to a pension pot of £300,000.
‘We need a specific number around how much you need to save into a pension to get an expected retirement income,’ he said. ‘If you tell people they need a pension of £300,000 to deliver two-thirds of average income [industry] people say it is too much and [savers] will walk away but that is the reality…we need people to have a real number and we need to set real expectations.’
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