A little bit about a lot of money

By William H. Stewart
Special to the Saipan Tribune

If you are a retiree or a government employee currently paying into the retirement fund the accompanying two graphs should be of interest to you.

Graph #1 illustrates the estimated loss to the NMI Retirement Fund of an estimated $121.6 million over the next 10 years by virtue of the fact that the Fund has not had $72 million due from the CNMI government’s employee payroll contributions to invest. Had this money been available—or otherwise could somehow now be paid into the fund for a “successful” investment return of, say, an annual average of 6 percent—the Fund’s assets might have increased by $49.6 million to $121.6 million over and above what the Fund now has in its investment portfolio.

The fact that for many years the government has neglected to meet its full contributing payroll obligation to the fund and its current employees who still pay a portion of their income toward retirement is sad enough—but it gets worse. Graph #2 illustrates the effect of inflation—that monetary thief that erodes the purchasing power of money. If by some stroke of magic the government could pay the Fund the amount of its employer contribution due at this time, namely the $72 million this year, the fund would have to invest the money and hypothetically achieve an average annual rate of return over, say, the next 10 years of at least 3.5 percent in order to simply retain the purchasing power of the initial $72 million. Stated another way: At the above estimated annual average percentage rate of inflation of 3.5 percent, the initial $72 million in current dollars would only purchase $52.3 million 10 years in the future. That particular tranche, or block, of funds ($72 million) will have lost $19.7 million in purchasing power.

There is a lesson here.

We have not lived in an inflation-free economy. It is scientifically impossible to predict the future rate of inflation, except for that short period of time already influenced by present and past monetary policy. Inflation is principally controlled by actions of monetary authorities, who in turn, often respond to unpredictable political factors. Thus, inflation is unpredictable and—in and of itself—creates a substantial risk.

The use of U.S. Treasury bills can minimize risk. With the issuance of U.S. Treasury Inflation-Indexed Securities (TIIS) payments are made at maturity in fixed real purchasing power eliminating both default and inflation risk.

Fund members should remember these points:

(1) A dollar obtained in the future will almost always be worth less that one received today because inflation will have diminished its purchasing power.

(2) A dollar obtained today should be invested in an interest bearing account and generate a fair return on the investment plus a rate equal to anticipated inflation to preserve its purchasing power.

Therefore, if a bank pays interest of 1 percent and inflation is 3.5 percent,, over the period the investor will lose 2.5 percent of the investment’s purchasing power. Turn it around and I guarantee if you want to borrow money from a bank you will pay their prevailing interest rate, which will include a premium to cover inflation.

While the usual measure of inflation is the Consumer Price Index, the term actually describes the state of an area’s price and cost structure and is an elaborate assembly of commodity and service prices, wages and other costs of production, including the maintenance cost of assets. A characteristic of inflation is that it changes relative levels in prices. For example, if a pound of sugar is twice the price of a pound of rice before an inflationary spiral, it will probably cost twice as much after inflation. If one-half days’ wages will fill an automobile tank with fuel, it is likely that it will not do so afterward. Inflation without changes in relative prices has never occurred—if it did no one would much care. If retirement payments, wages, utilities, rent, profits and the prices of all goods and services increased at the same rate, it would be a nuisance, but no one would be hurt badly. Thus, the public’s concern with inflation is a result of its effect on the movement of relative prices and incomes.

Because all prices do not increase at the same rate or at the same time, inflation changes relative prices and income at different times. Individual price increases also push up the general level of prices. A large increase in the price of energy will raise the price of almost everything else. Keep your eye on the price of oil as it will soon impact freight rates and air fares and increase the price of imported commodities.

The Fund has loaned money to permit homeownership in the islands; provides a secure income for widows and minor children of deceased retirees; provides an income for disabled members and finances social infrastructure such as the House of Justice. All this is made possible because the Fund has invested and managed the contributions of its members and preserved its capital base. It must continue to do so.

Wisely, the Fund’s administrators have resisted touching any of the member’s invested assets to pay pensions each month. However, the Fund is currently losing millions of dollars by not having available for investing the unpaid contributions of the government’s share. Had the government paid its share, and the money invested, the Fund would be worth much more than it now is. It is this amount of money that has been lost.

The Fund has invested heavily in the U. S. and Asian economies—there’s really few other places to invest to diversify its portfolio except possibly Europe. Some of these economies are in trouble with the result that Fund management has enough on its hands to worry about without the government’s lack of payment of the money, which it owes. This problem has festered like a hemorrhaging wound for many years and it’s getting worse. Band-aid efforts won’t help in the long run.

I have been around long enough to know that, with island politics, family is everything. Now, however, it is also about money: member’s money. Big money.

This is an extremely serious situation—times are far more complex for the islands than during the days of the Trust Territory and, indeed, only a few years ago. Intelligent, knowledgeable lawmakers are needed now more than ever if the many problems facing the Commonwealth are to be resolved to the advantage of the people.

Retired elderly people and the infirm don’t need the worry over whether their monthly retirement pension is in jeopardy. Non-payment to retirees, if it were to occur, would be nothing short of tragic.

(This article is provided for intellectual stimulation and educational purposes only. The contents are not intended as investment advice.)

(William Stewart is an economist, historian, and military cartographer.)