You may have heard the phrase, ‘asset rich, cash poor.’ No one likes to hear anything with the word ‘poor’ in it, but if you have to be poor, this is the best way!
Assets are the wealth you own. Cash is the wealth you have available to spend. They are not always the same thing, which is how people can be ‘rich’ in one and ‘poor’ in the other.
In an economy like ours, there are three broad ways in which people generate cash (or, to give it the more technical term, earn income). The first is through their labour. The second is by owning land. And the third is by owning capital. Technically, ‘capital’ is every other type of asset other than land. But in this context, we tend to see capital as either money or ownership interests in a business – shares, as they are more typically known.
Each type of income has its pros and cons. Especially when we are young, labour is often the easiest way to earn income. From the age of about 15, we can exchange our time for a wage or, if the job is a little more formal, for a salary. The amount of income we receive in exchange for our time depends on a whole range of things, but generally it is a function of supply and demand. Higher demand and lower supply tends to drive the price of our labour up (think qualified people such as tradespeople or professionals); high supply and low demand keep the price of labour low (think jobs with few barriers to entry that lots of people can do, such as working in a supermarket).
So, the relative ease with which labour can create income is one of its strengths. But labour also has a lot of limitations. In terms of generating wealth, the main drawback is that the amount of income that can be generated from labour is limited. This is especially evident if you are paid an hourly wage: the number of hours you can work is limited by various things, including the law. (While people occasionally look at the large salaries of people like bank CEO’s as evidence of high labour income, in reality those ‘jobs’ have more in common with owning an asset – with the ‘asset’ being the right to be the CEO for a particular period of time.)
Which brings us to the other two ways to earn income in the modern economy: by owning land or by owning other assets. People who own land or assets can often use those assets to generate income (or avoid a cost, which can have the same impact on daily living. A residential property can be used to create rental income, for example. Or, if the owner lives in it, the property allows the owner to save on expenses such as rent).
Often, it is easier to generate income from assets than it is from labour. Capital assets do not become unwell, for example, and they do not grow old. Capital assets, especially financial assets, do not need to be re-trained if the underlying economy changes. Financial assets can simply be re-directed to that part of the economy that is growing. Capital assets can be given to professional asset managers to manage on our behalf. They can also be divided up and ‘diversified’ across different forms of investment, so that we can reduce the risk of losing that capital. Try diversifying your job and see what your boss thinks!
Different types of financial asset produce different types and levels of income. A family home, for example, is very definitely an asset. But, as we say above, if you use the home to live in, you cannot receive rent as well. The only ‘cash benefit’ of living in the home is that you do not have to pay rent.
Generally, the family home is the type of asset people refer to when they use the term ‘asset-rich, cash poor.’ The value of most family homes has risen markedly in value in recent decades. As we saw last week, this is having a huge impact on wealth distribution in Australia: in 2017/2018, people aged 65 or over who owned their own home outright had average household wealth of $960,000. For households who did not own a home, the average household wealth was just $40,000.
The family home makes $920,000 worth of difference to the average 65+ household. And when you look at the median house prices in Australian cities, you see that most of this difference is the value of the house itself. In December 2019, the overall Australian average house prices was just under $810,000. In Sydney, the average was $1.14 million. In Melbourne, it was $900,000. These are the two biggest populations, so it is these cities that affect the national average household wealth the most.
What the figures show is that, for many people, most of their wealth is held in the family home. This is where the phenomenon of people being asset rich and cash poor comes from: people own houses that are worth a lot of money. But they cannot use that house to generate cash.
If this is you, please do not fret! The first part of your description is ‘asset-rich.’ Being rich in anything is a good thing! Happily, there are various ways that you can use this household wealth to improve your financial situation. And, no, we are not encouraging you to rent your place out on AirBnB – we are talking about low-risk, common sense steps you can take.
So, if you want to tweak things to give yourself more cash to live on, please don’t hesitate to get in touch. This is one problem we especially love to solve.