In
part one of this two part posting, I examined the coming global pensions crisis
and how both the private and public sector pension plans were facing a
significant under- and unfunded issue. As I noted, this will have a
significant impact on aging workers around the globe since it is becoming
increasingly unlikely that retirees will be able to count on the pensions that
they believed were their "birthright". In part two of this
posting, I will look at some potential solutions to the crisis as outlined in
Citi's publication, "The Coming Pensions Crisis".
While
the funding levels of pensions will continue to be under stress, there are some
steps that could be taken by policymakers (i.e. governments) and the sponsors
of corporate and public pension plans. Let's look at the recommendations
by group:
1.)
Recommendations for Policymakers:
a.)
Measure and publicize pension liabilities - while governments are loathe to
publicize the massive size of their unfunded pension liabilities for fear of
voter backlash, all governments must make this data available so that voters
can clearly understand the scope of the problem. With calculations
showing that there are $78 trillion in unfunded and underfunded pension
liabilities not appearing on the balance sheets in OECD nations, simply
pretending that the problem is non-existent isn't going to solve anything.
b.)
Retirement ages must be linked to longevity - some nations are gradually
raising their retirement ages to better reflect longevity. Raising the
retirement age by two years reduces pension liabilities by between 4 percent
and 8 percent. If retirement age was adjusted so that retirees received
12 years of benefits as was the case when the Social Security system was
designed, the new retirement age of 73 would save the system about $4 trillion.
c.)
Social security pensions should be treated as a safety net - rather than having
the government function as a prime pension provider for retirees, the pension
system should function as a social safety net. This is particularly the
case for Europe where government pensions go well beyond what could be
described as "social security". If this is not changed, the
annual cost of servicing these enriched pensions will rise by 2 to 3 percent of
GDP by 2050.
d.)
Encourage private pension plan savings through the use of fiscal incentives -
by allowing individuals to avoid income tax on retirement savings contributions
and by allowing those savings to accrue tax-free investment returns,
governments can promote private individual pension plan funding.
e.)
Promote "auto-enrollment" in workplace pension plans - by doing this, the system would reduce the number of employees who opt out.
f.)
Ensure equal access to retirement plans for all workers.
2.)
Recommendations for Corporate and Public Pension Plan Sponsors:
Here
is a graphic showing the funding status of U.S. corporate pension plans:
Obviously,
significant changes are needed before these pension plans start seeing
significant withdrawals (decumulation) by their stakeholders.
a.)
Ensure that corporate and public pension plan sponsors make full contributions
to their pension plans - by ensuring full contributions when they are due rather than allowing a funding deficit
to accumulate, it will be less likely that pension underfunding issues will develop. As you can see on this graphic, there are a significant
percentage of United States public pension plans that have not made the annual
required contribution to ensure full funding:
b.)
Adopt a recovery or exit strategy for pension plans with a funding deficit -
when a plan is underfunded, corporations and pension plan sponsors need to
consider moving the liability to an insurance company or issue debt to fund
some of the deficit. If it appears that the underfunding issue is
insolvable, the pension plan sponsors need to begin to re-negotiate with their
stakeholders as soon as possible before the underfunding issue becomes worse.
c.)
Increase independent governance of pensions - rather than having pension plans
managed by either inexperienced politicians or board members, plans should be
managed by independent trustees/managers with the skills necessary to ensure
the ongoing funding viability of the pension plans. It is also important
to ensure that pension management is compensated fairly.
In
general, pension plans can mitigate their risk profile through several methods:
1.)
Freezing the plan to new participants - this limits future growth in the
pension obligation.
2.)
Issuing debt to fill the underfunding gap.
3.)
Changing the plan's investment strategy - by moving to fixed income
investments, plans may see a drop in return but this will allow the plan to
more closely track liabilities.
4.
) Longevity reinsurance - transfer the risk of higher payouts because of
increased lifespan to an insurance company
5.)
Lump sum payouts to retirees - this eliminates the uncertainty of long-term
pension obligations.
6.)
Buy-out - the pension plan transfers its assets and payout obligations to an
insurance company.
As
you can see, the looming pension issue is far from clear and, as the years pass
and increasing numbers of baby boomers retire at the same time as the workforce
shrinks, the pension funding issue will become increasingly difficult to
resolve. The days of guaranteed monthly "mailbox money" are
behind us and the sooner that governments and corporations deal with the issue
of underfunded pension plans, the better will be the lot of those who have
already retired and those who plan to retire in the near future.
Your suggestion (based on the situation in the US) is interesting but not without it's issues. Switching to a defined contribution pension scheme is not without its issues. All you accomplish by this is shift the liability away from the aggregated pension fund towards the individual pension plan holders. If defined benefit pension plans are non-sustainable, then by the same logic, a defined contribution plan is also non-sustainable only now the individual has far less recourse. Note that under this scenario if you wanted to retire in 2008, the market crash would force you to work 3-5 more years in order to restore back your pension (assuming you could keep your job for that long). The other reality is that with lack of stable work, the odds of one successfully maintaining some kind of living wage income to the age of 73 are extremely low. If one is unfortunate enough to lose their job once they are over 50 then odds are they will never find another job earning anywhere close to what they did previously. Even if that wasn't true, reducing the number of people exiting the workplace at retirement means increasing the unemployment rate for individuals entering the workplace at the other end. While this does "address" the pension liability issue, it doesn't really address the overarching issue.
ReplyDeletePeople don't realize that forcing people to work another 12 years to retire is like adding 25% to a 40 year prison sentence. A lot of workers are working only to get their pension..the pension is what keeps 'em going at the job. They can't leave to pursue another career, they are stuck. In fact that's what the pension is really designed for, it becomes an anchor that the company uses to keep its most experienced and productive people - if I had no pension I might have tried a different company/different career begining in my 50's, rather than work another decade and get out...as it was I got out at 59, and would have gotten out at 57 if it weren't for my boss asking me to stay.
ReplyDeleteBecause those who were promised pensions have strong arm unions, I am beginning to see victimization of the disabled in the fight over state budgets.
ReplyDeleteBecause those who were promised pensions have strong arm unions, I am beginning to see victimization of the disabled in the fight over state budgets.
ReplyDelete