AGEING POPULATION Burden or Benefit

1
AGEING POPULATION- Burden or Benefit?
abcd

• 20-22 January 2002
• Balmoral Hotel, Edinburgh

2
DEFUSING THE DEMOGRAPHIC TIMEBOMB
BACKGROUND TO THE ESTABLISHMENT OF THE NATIONAL
PENSIONS RESERVE FUND IN IRELAND

• Eamonn Heffernan
• President of Society of Actuaries in Ireland

3
National Pensions Reserve Fund

• July 1999 - Government initiative announced
• Dec. 2000 - Legislation passed
• Contributions - 4.6bn (initial) 1 p.a. of GNP
  (to 2055)
• Objective - Meet part of Exchequers PAYG
  commitments from 2025
• (Social Welfare Public Service Pens)
• Funding issue addressed in 2 major reports
• Securing Retirement Income (May 1998)
• Commission on Public Service Pensions Report
• (November 2000)

4
Economic Background
Average Annual Growth Rates in GNP
Source ESRI Medium Term Review 2001-2007
5
Population Labour Force Projections
Ratio of those in elderly dependency ages to
working age (20 to 64) Number of working age per
100 persons aged 65 and over

• 1996 2006 2016 2026 2036 2046 2056
• Elderly dependency
• ratio () 20.6 19.7 24.8 32.6 40.1 49.2 53.3
• Number of working
• age per 100 persons
• aged 65 and over 485 508 403 307 249 203 188

Source Actuarial Review of Social Welfare
Pensions
6
Irish Social Security System

• Virtually full labour force covered by Social
  Insurance
• Pension on retirement at age 65 (also invalidity
  plus dependants pension)
• Benefits not pay related nor means tested
• Old Age/Retirement Pension (2002)
• 147 p.w. (single)
• 261 p.w. (where adult dependant)
• 33 / 58 of avg. earnings

7
Indexation of Social Welfare Pensions

• No stated Government policy
• 20 year history of increases

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Projected Cost of Irish Social Welfare Pensions

• Total Outgoings as of GNP

Year Rates indexed Rates indexed to Prices
to Earnings
2001 4.4 4.4 2006 3.8 4.1 2011 3.6 4.3 2016 3.6 4
.7 2026 3.6 5.7 2036 3.5 6.8 2046 3.3 7.8 2056 2.8
7.9
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Securing Retirement Income

• Report of Pensions Board to Government
• Part of National Pensions Policy Initiative
  (NPPI)
• Aim
• To have national pensions system which
  enables all residents to acquire an income . to
  maintain established standard of living .
  retirement .. incapacity death of income
  provider
• Objective of NPPI
• To facilitate national debate on how to achieve
  this aim .. and to formulate a strategy and make
  recommendations for actions needed

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Reports Conclusions on Coverage/Adequacy

• 2 Main Pillars
• Social Welfare System
• Vol. Supplementary Pensions
• Current Supp. Pens. Coverage (1995 Survey)
• 52 Employed
• 27 Self Employed
• 46 Total
• Adequacy
• 50 of Gross Pre Retirement Income
• Min. of 34 of Avg. Earnings
• Supplem. Pens. Coverage
• 70 of Total Workforce over 30

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Reports Conclusions on Indexation of Social
Welfare Pensions

• If indexed to prices
• Pensions fall 28.5 to 9 of avg. earnings (mid
  century)
• If indexed to earnings
• Outgoings increase 4.5 to 7.9 of GNP (same
  period)
• Didnt recommend automatic indexation to earnings
• Desirable to aim to increase pensions in line
  with earnings
• Identified issues of intergenerational fairness
  and risk
• Sought to identify mechanism to alleviate these
  issues

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Mechanism for addressing intergenerational issues

• Accumulation of Fund to smooth burden over
  generations
• Purpose to place ceiling on Exchequer
  contribution
• Advantages
• Spreading of cost
• Additional resources available
• Manage intergenerational transfers
• Better understanding of long term commitments
• Greater degree of trust

13
Mechanism for addressing intergenerational issues

• Other Features
• No Irish Government Bonds
• Managed by agency independent of Government
• Clarity of acounting and accountability
• No mixing of financial / social objectives

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Comparison of Exchequer Cost of Earnings
Indexation - with funding and PAYG ( of GNP,
1998-2046)
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Public Service Pensions

• Defined Benefit / Final Salary
• Accrual Rate 80ths (Pens.) 3/80ths (Grat)
• Minimum retirement age 60 - some exceptions
• Spouses pensions death gratuity
• EEs contribute 6.5
• Pensions indexed to pay
• Financed - PAYG

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Projected Cost of Public Service Pensions as
Percentage of GNP
17
Commissions Recommendations in relation to
Funding

• No need to fully fund in line with private sector
• Would do nothing to address peak
• Would, however, bring greater transparency
• Saw definite advantages in partial funding
• Avert destabilising shifts in Govt. spending
  patterns
• Ensure diversification of expenditure during
  economic boom
• Ensure greater transparency/discipline
• Considered reserve/private sector type funds
• Favoured latter
• Recommended funding of pension increases

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Commissions Recommendations in relation to
Funding
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National Pensions Reserve Fund

• Key Provisions of Legislation
• Statutory obligation to pay 1 p.a. of GNP to
  2055
• Managed by independent commission with
  discretionary authority
• Commercial investment mandate
• But no Irish Government Bonds
• Prohibition on drawdowns prior to 2025
• Power to appoint investment managers/custodians
• Accountability to Minister for Finance /
  Parliament

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And Now

• Investment strategy
• 40 Eurozone Equities
• 40 Non Eurozone Equities (50 hedged)
• 20 Eurozone Bonds (2/3 passive, 1/3 active, no
  Irish)
• 13/14 Specialist mandates (both active/passive)
• 580 applications from 200 institutions
• Market entry strategy devised
• Managers appointed shortly
• Fund approx. 8bn / projected 125bn (2025)

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In Summary

• The proportion of persons of working age to
  those over 65 years of age is projected to fall
  from a current 51 ratio to less than 21 by mid
  century

• Our projections indicate that the Exchequer
  costs will rise from 4.7 of GNP to 12.4 of GNP
  by mid century

• The consequence will be either that taxes will
  have to rise dramatically to meet incrreased
  pension costs or else the value of pensions in
  real terms will have to be reduced

• Fortunately because of our predominately young
  population and the economic boom, we have both
  the time and the capacity to prepare for the
  burden

• The establishment of the Fund will go some way
  towards easing the burden for the next generation