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SUSTAINABILITY OF NATIONAL PENSION SCHEMES

This article explores the sustainability of national pension schemes, focusing on individual savings schemes and social security retirement schemes. It discusses the importance of optimizing returns, public confidence, and understanding of occasional negative returns. Additionally, it examines the need for reforms to ensure benefits can be delivered for the next 30 years. The article also explains the concept of actuarial balance and the mathematics behind projecting social security.

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SUSTAINABILITY OF NATIONAL PENSION SCHEMES

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  1. SUSTAINABILITY OF NATIONAL PENSION SCHEMES Gary Hendricks Regional Pension Workshop Majuro, Republic of the Marshall Islands April 25-29, 2016

  2. Sustainability For Individual Savings Schemes: Is the scheme being operated to optimize returns? Does the public have confidence in the scheme? Does the public understand occasional negative returns? For Social Security Schemes: Can the scheme deliver benefits at or near current levels for the next 30 years? If not, reforms must be agreed upon and phased-in. The alternative is to abandon the scheme.

  3. Sustainability:Individual Savings Schemes • Optimizing returns means: • Following guidelines and requirements discussed previously (all investments are productive, no social investing, all operations timely with low expense ratios, no pre-retirement withdrawals) • Providing near consistent asset buildup • Optimizing returns does not mean: • Guaranteeing against investment losses. Some will occur. • Investments with guaranteed returns can be offered • On-going vigorous educations is absolutely required • Accounts sometimes temporarily lose value. Worker must understand this and be persuaded • Workers need reminding that retirement income falls when assets are withdrawn early (e.g., loans, medical expenses, etc) • Politicians are drawn to proposals permitting early withdrawal. It costs the government nothing and makes them popular.

  4. Sustainability: Social Security Retirement Schemes • Programs become unsustainable because of poor design, impulsive government action, and inaction. • Social Security is dynamic. Social Security needs to change when demographics and the economy change. • The Goal is sustaining current benefit levels for the next 30 years. During that time many changes may be planned and implemented.

  5. Sustainability: Maintaining Actuarial Balance • Primary indicator of the financial health. • Actuarial Balance—the balance between annual income and annual outgo. • Keys to success: • Cash flow projections – over the short, medium and long-term • Adequate reserve fund to finance short-term funding gaps

  6. Projecting Social Security • How can anyone rely on a 30 year projection?. It may not be as difficult as you think. • Everyone who will receive benefits in the next 30 years is already alive. • They are all already in the workforce or retired. • Two-thirds of new entrants to the labor force have also been born • Mortality rates tell us how many workers will live to retire and how long, on average, retires (current and future) will collect a pension.

  7. Projecting Social Security (cont.) • Economic trends usually can be easily incorporated because they affect both wage levels and pension levels in the same way. • If wage growth is slow, it will reduce growth in contributions. It will also reduce increases in pension levels. • Demographic trends have the largest impact on costs.

  8. Social Security and Medicare Cost as a Percentage of GDP

  9. OASDI and HI Income and Cost as a Percentage of Taxable Payroll

  10. US Social Security Long-Term Deficit • The Trustees project that the annual deficits for Social Security as a whole, expressed as the difference between the cost rate and income rate for a particular year, will decline from 1.31 percent of taxable payroll in 2015 to 0.98 percent in 2017 before increasing steadily to 3.52 percent in 2038. Annual deficits then decline slightly to 3.32 percent in 2050 before resuming an upward trajectory and reaching 4.65 percent of taxable payroll in 2089 (Chart B). The relatively large annual variations in deficits indicate that a single tax rate increase for all years starting in 2015 sufficient to achieve actuarial balance would result in sizable annual surpluses early in the period followed by increasing deficits in later years. Sustained solvency would require payroll tax rate increases or benefit reductions (or a combination thereof) by the end of the period that are substantially larger than those needed on average for this report’s long-range period (2015-89).

  11. Sustainability: Mathematics of Actuarial Balance Actuarial Balance: Income = Outgo • Outgo = AvgPension * NumberPensioners AND • Income = TotalWages * ContributionRate (Total Wages = AvgWage * NumberWorkers) THEN • Contribution Rate = Outgo/Total Wages

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