Declining Spending as We Age

As we age in retirement, our inflation-adjusted spending declines.  This fact has been established in numerous academic studies.  The question is how we should incorporate this information into our retirement planning.  Former chief actuary at Morneau Shepell, Frederick Vettese has an answer to this question in the second edition of his excellent book, Retirement Income for Life.  Here I lay out the consequences of this answer in concrete terms.

In Vettese’s earlier book The Essential Retirement Guide: A Contrarian’s Perspective, he wrote that our tendency to spend less as we age means we can assume that retirement spending “does not have to be indexed to inflation.”  I argued that this isn’t reasonable because some of the spending decline measured in academic studies comes from some retirees who spend too much early on and dwindling savings forces them to spend less later.

In the first edition of Retirement Income for Life, Vettese changed his assumption to an annual 1% decline of inflation-adjusted spending in one’s 70s and an annual 2% decline in one’s 80s.  This amounts to about a 13% reduction in the present value of lifetime retirement spending.  He kept the same assumption in the book’s second edition.  Most of my concerns about the academic study data still apply to his justifications of this spending pattern.

A Concrete Scenario

Let’s leave the academic discussions and look at the implications of Vettese’s spending pattern.  Suppose you are married and retiring at 65 with the plan to spend $60,000 per year initially.  This includes CPP, OAS, RRIF withdrawals, and all other sources of retirement spending.  Suppose further that you have two couples as neighbours who are in the same socioeconomic class as you are, but one couple is 55 and the other is 45.

As a result of the progress we see in society over the decades, wages rise faster than inflation.  Let’s assume that wage increases will exceed inflation by 0.75% per year.

Now fast-forward 10 years.  Adjusted for inflation, your plan has you spending $56,000 per year at age 75, while your neighbour who is now 65 is spending $65,000 per year.

Now fast-forward another 10 years.  Adjusted for inflation, your plan has you spending $48,000 per year at age 85, while your other neighbour who is now 65 is spending $70,000 per year.

Is this Reasonable?

If this sounds sensible to you, then by all means, plan for significant spending declines during your retirement.  I suspect, though, that if we could modify academic studies to remove data from people whose spending declines were forced upon them, we’d see age-related spending declines begin later in life and be less severe.

My own choice is to assume my spending will keep up with inflation, so that the only decline I’ll see is that my spending won’t keep up with rising wages.  However, I could see using an assumption of a 1% annual spending decline from age 75 to 90 as quite reasonable.  This is about half the decline Vettese uses.

Vettese has an interesting theory about why so few planners take into account spending declines: “If we fail to acknowledge the true spending patterns of older retirees, political correctness may have something to do with it.  The mere suggestion that older people don’t need quite as much money can come across as senior-bashing.”  He may be right about some planners, but this isn’t my motivation.

I don’t want to overstate the importance of this issue.  I consider my disagreement with Vettese on this point to be fairly minor.  His books are among the best available on how to spend your money in retirement.

We’re not all the same, and one spending pattern won’t fit all retirees.  Before agreeing to use any planned decline in spending, it’s best to think about the amounts in actual dollar terms to make sure you find it acceptable.