Annual Benefits Conference

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Pension Provision in Irelandfor 21st Century

• Shane Whelan, PhD, FSAI

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Outline of Talk

• Background/context
• A system to last 100 years or more
• Our current system
• A snapshot of how it delivers to aged
• Outlook for current system
• projected half a century
• Alternatives to current system
• Greater support for voluntary saving?
• Suggestion A compulsory purchase State annuity

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Background

• Some men have less prudence than brutes,
• and will make no provision against age until it
  comes.
• Daniel Defoe (1697), An Essay on Projects.
• Pensions only part of the welfare of the elderly
• health care
• crime
• State pensions are important issue to electorate
• Disquiet when reduced
• Ireland 1924 France 1995 Italy 1998
• Pensions policy has wide ranging influences in
  economy
• Slowing the process of urbanisation in Ireland
  over the last century

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Background

• Candidate for Best Paper on Pensions
• Enumeration and Classification of Paupers, and
  State Pensions for the Aged. Charles Booth,
  Journal of the Royal Statistical Society in 1891.
• Sets out rationale behind our current system.
• And, for most of 20th century, that of New
  Zealand, UK, Australia, Canada,
• In contrast to compulsory earnings-related scheme
  in Germany (1889), Italy (1919), France (1930),

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Our Current System

• Pensions policy has two distinct aims
• to relieve poverty in aged.
• to smooth income over adult lifetime.
• For each aim there is a distinct structure
• State pension a flat rate pension to relieve
  poverty.
• Occupational/private pensions to give a degree
  of income smoothing over lifetime.
• Each has distinct method of financing
• State pension pay-as-you-go (social contract).
• Occupational/private pensions pre-funding
  (financial contract) with taxation incentives.

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Our Current System
Breakdown of Income of Retired Couples in
Ireland, Year 2000
Source Hughes Watson (2005)
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Our Current System
Breakdown of Income of Retired Couples in
Ireland, Year 2000
Source Hughes Watson (2005)
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Outlook for Current System Poverty Relief
Expenditure on Public Pension System in Europe,
Year 2000 and forecast Year 2050 as a of GDP
Source Economic Policy Committee (2001)
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Outlook for Current System Income Smoothing
Occupational/Private Pension Coverage in Ireland,
by Age and Type
Source CSO(2004)
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Outlook for Current System Income Smoothing
Growth in the Value of Assets of Irish Pension
Funds, 1983-2004
Source IAPF
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Outlook for Current System

• No crisis in affordability of State pension
• Even allowing for real increases of the order of
  2 projected over 50 years.
• So elbow room to expand if desired
• Higher pensions from private/occupational schemes
  in short-term
• Higher benefits and higher security (asset
  backing)
• But not significantly greater coverage
• But what is longer term outlook for
  private/occupational pensions?

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Outlook for Current System

• Pensions Act (1990) Amendments fundamentally
  changed regulation of defined benefit schemes.
• Early leavers benefits improved
• liabilities increased
• key safety valve in financing schemes closed
• Funding Certificate
• imposes need to demonstrate regularly that
  termination liabilities are exceeded by assets
• required to fund revealed deficit over short
  time-scale
• Overall pension promise seen as a pension
  guarantee.
• Increased burden creates threat to future role of
  the defined benefit scheme
• effect will be noticed only after a couple of
  decades.

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Key Question

• Can
• Defined Contribution Schemes
• or
• Private Pension Provision
• fill the
• Void?

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Risk Transfer

• Risk discourages pension savings.
• Uncertainty might create complacency.
• Investment risk one of the key risks
• Prior to retirement.
• After retirement.
• The essence of the defined benefit scheme is to
  transfer risk from single individual to larger
  organisation.
• Can we retain this essence?

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Investment Risk before Retirement
Contribution Rate by Year of Age to Fund Pension
Accruing (see Report)
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Investment Risk after Retirement
Real Value of Flat-Rate Pension for Retiree in
1971
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Suggestion for Risk Transfer State Annuity

• State assumes risk but on terms that are cost
  neutral over the long term.
• State issues index-linked annuities at fixed
  guaranteed rates to all retirees.
• Removes all risks after retirement (investment,
  longevity, default).
• Helps manage risk pre-retirement as now targeting
  a lump sum at retirement.
• Brings clarity to the amount needed for a
  targeted pension.
• All moneys from tax-exempted pension vehicles
  must be applied to purchase the State
  index-linked annuity come retirement age.

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State Annuity 3 Versions

• Compulsory Version (proposed here and in Report)
• Restricted Version (proposed by the IAPF) The
  guaranteed annuity terms only available on the
  involuntary wind-up of defined benefit schemes
  where there is a deficit and where the sponsoring
  employer, who has underwritten the liability, is
  insolvent.
• Option Version (proposed by Jim Kehoe) Retiree
  is given the choice as to whether to avail of the
  State annuity terms on offer or provide a pension
  in more traditional ways.

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In Conclusion Pensions in 21st Century

• Majority will be dependent on State flat rate
  schemes for at least the next couple of decades
• State flat rate pension appears affordable into
  the future
• Elbow-room to increase level
• Simplify them into one universal pension?
• There is a threat to DB Schemes from current
  regulatory environment
• DC or private schemes might not be up to the
  challenge to replace
• Must keep essence of DB scheme in new framework
  transferring risk to those more able to bear it.
• Suggest a compulsory State annuity scheme.

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Reference

• Pension Provision in Ireland for 21st Century,
  Shane Whelan (2005)
• Report available from www.iapf.ie