PENSION REFORM AROUND THE WORLD

Chris Daykin

UK Government Actuary

THE PROGNOSIS FOR TRADITIONAL SOCIAL SECURITY

• demographic ageing and scheme maturity

• retirement ages too low

• coverage incomplete

• poor compliance

• economic considerations

• changing political fashion

• insufficient advanced funding

DEMOGRAPHIC AGEING

• low fertility

• increasing expectation of life

• baby boomer bulge in some countries

• deteriorating dependency ratios

• ageing working population

• increasing numbers of very elderly

TOTAL PERIOD FERTILITY RATES, 1960-2010

1

1.5

2

2.5

3

3.5

1960 1970 1980 1990 2000 2010

UKUSAGermanyFranceItalySpainJapanRussiaChinaSlovakia

TOTAL PERIOD FERTILITY RATES IN AFRICA, 1960-2010

0

1

2

3

4

5

6

7

8

1960 1970 1980 1990 2000 2010

Eastern Africa

Middle Africa

Northern Africa

Southern Africa

Western Africa

AVERAGE ACHIEVED FAMILY SIZE FOR UK COHORTS BORN 1945-1975

0

0.5

1

1.5

2

2.5

15 25 35 45

1945195019551960196519701975

PERCENTAGE OF PERSONS SURVIVING TO SUCCESSIVE AGES

UK LIFE TABLES, 1911-2031

0

10

20

30

40

50

60

70

80

90

100

0 10 20 30 40 50 60 70 80 90 100 110

1911193119511971199120112031

DISTRIBUTION OF DEATHS OVER AGE 15, ENGLAND & WALES

0.0%

0.5%

1.0%

1.5%

2.0%

2.5%

3.0%

3.5%

4.0%

15 25 35 45 55 65 75 85 95 105

Age

% o

f d

eath

s o

ver

age

15

1860

1880

1900

1920

1940

1960

EXPECTATION OF LIFE FOR MALES, 1950-2010

35

40

45

50

55

60

65

70

75

80

1950 1970 1990 2010

UK

USA

Germany

France

Italy

Spain

Japan

Russia

China

Slovakia

EXPECTATION OF LIFE FOR AFRICAN MALES, 1950-2010

35

40

45

50

55

60

65

70

75

80

1950 1970 1990 2010

Eastern Africa

Middle Africa

Northern Africa

Southern Africa

Western Africa

EXPECTATION OF LIFE FOR FEMALES, 1950-2010

35

40

45

50

55

60

65

70

75

80

85

1950 1970 1990 2010

UKUSAGermanyFranceItalySpainJapanRussiaChinaSlovakia

EXPECTATION OF LIFE FOR AFRICAN FEMALES, 1950-2010

35

40

45

50

55

60

65

70

75

80

85

1950 1970 1990 2010

Eastern Africa

Middle Africa

Northern Africa

Southern Africa

Western Africa

DEPENDENCY RATIOS, 1970-2030(nos. 65 & over per 1000 aged 15-64)

0

50

100

150

200

250

300

350

400

450

500

1970 1990 2010 2030

UKUSAGermanyFranceItalySpainJapanRussiaChinaSlovakia

DEPENDENCY RATIOS, 1970-2030(nos. 65 & over per 1000 aged 15-64)

0

20

40

60

80

100

120

140

1970 1990 2010 2030

Eastern Africa

Middle Africa

Northern Africa

Southern Africa

Western Africa

% INCREASE IN NUMBERS AGED 65 & OVER, 1990-2010

0

50

100

150

200

250

300

350

Centr

al A

mer

ica

Wes

tern

Asia

North

ern A

frica

South

-eas

tern

Asia

South

Am

erica

South

-cen

tral A

sia

Easte

rn A

sia

Wes

tern

Afr

ica

Mid

dle Afri

ca

Carib

bean

% increase innos. aged 65 &over

PENSION REFORM TYPOLOGY

• contribution adjustment and reform

• benefit adjustment and reform

• structural reform

• reform of retirement age and structures

• new approaches to financing old schemes

• development of funded pensions

STRUCTURAL REFORM

• move to notional defined contributions

• introduce or increase flat-rate element

• make greater use of means-testing

• introduce element of pre-funding

• increase role of private pensions

NOTIONAL DEFINED CONTRIBUTION

• clear link between contributions and benefits

• still on a PAYG basis rather than funded

• different revaluation approaches

• possible demographic adjustment factor

• annuity conversion at pension age

• permits flexibility of retirement age

• passes on part of longevity risk

EXAMPLES OF NDC

• Sweden

• Italy

• Latvia

• Brazil

• China (2nd pillar)

• France (régimes complémentaires)

NEW APPROACHES TO FINANCING

• shift some of the cost to general revenue

• introduce additional ear-marked taxes

• pre-fund part of the future liability

• make investment process independent

• introduce funded component

DEVELOPMENT OF FUNDED SCHEMES

• increased level of investment

• possible economic benefits

• introduces market disciplines…..

• …..and in some cases competition

• may improve efficiency

• makes pensions less political

CHILE

• compulsory contributions to AFPs

• choice of AFP

• minimum pension guaranteed by state

• underpin on annual return

• recognition bonds for previous rights

• old scheme closed to new entrants

• high levels of transaction costs

SINGAPORE

• Central Provident Fund (from 1953)

• defined contribution

• deposit account style

• high contributions (varying from time to time)

• medical expenses, education, investment

• lump sum benefit

MEXICO

• future contributions into AFOREs

• ongoing costs paid from budget

• reinsurance of disability and survivorship

• index-linked annuities

• protected rights from old system

• guaranteed minimum pension

• pressures on annuity markets

AUSTRALIA

• Award Superannuation from 1986

• Superannuation Guarantee Levy from 1992

• Industry Funds and Master Trusts

• mandatory employer contribution of 6%

• 9% employer/3% employee from 2002/03

• administrative problems at start

• 90% of administration now with two providers

HONG KONG

• Mandatory Provident Fund from 2000

• contributions of 10% of salary plus allowances

• earnings floor and ceiling

• private schemes and master trust schemes

• alternative of occupational retirement schemes

• 63% of employed population in MPF(31.3.02)

CHINA

• flat-rate basic pension (20% of average wage)• NDC second pillar (11% contribution)• partially funded (in some provinces)• pension is 1/120 of accumulated amount• fully funded voluntary third pillar • Liaoning experiment

* basic pension at 30% of average wage* fully funded DC from employee contns.

ARGUMENTS IN FAVOUR OF FUNDING

• increases level of saving

• helps to develop capital markets

• provides needed investment capital

• helps to address ageing problems

• may reduce long-term cost

COUNTER-ARGUMENTS

• may substitute for other saving

• markets may not be able to cope

• may push up prices with excess demand

• ageing will still have an impact

• cost is only reduced in certain circumstances

DEMOGRAPHY AND FUNDED SCHEMES

• pension investment keeps market buoyant

• disinvestment may depress market

• international diversification may help

• ageing will produce mature pension schemes

• maturity requires more bond investment

• DC plans will be directly affected

DEFINED CONTRIBUTION PLANS

• transparent and easy to implement

• expose members to investment risk

• important to address issues of- solvency- expense levels- appropriate investment profile- guarantees, if any- annuitisation

PROBLEMS WITH PRIVATE MANAGEMENT

• higher costs of disaggregated system

• insolvency risk

• marketing costs

• possibility of mis-selling

• variable investment performance

• risk of fraud or mismanagement

PROBLEMS WITH ANNUITIES

• concentration of risk

• mortality uncertainty

• need for very long-dated bonds

• preferably index-linked

• permit programmed withdrawal?

CONCLUSIONS

• advantages of a mix of systems

• private funds are not a panacea

• problems of coverage and risk

• good regulation is essential

• need to keep transaction costs down

• risks of mis-selling

• need for functioning capital markets

• ... and annuity markets