AGEING POPULATION - Burden or Benefit?

1. abcd AGEING POPULATION- Burden or Benefit? 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. July 1999 - Government initiative announced Dec. 2000 - Legislation passed Contributions - €4.6bn (initial) + 1% p.a. of GNP (to 2055) Objective - Meet part of Exchequer’s 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) National Pensions Reserve Fund

4. Economic Background Average Annual Growth Rates in GNP Source: ESRI Medium Term Review 2001-2007

5. 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 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 Source: Actuarial Review of Social Welfare Pensions

6. Virtually full labour force covered by Social Insurance Pension on retirement at age 65 (also invalidity plus dependant’s 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 Irish Social Security System

7. No stated Government policy 20 year history of increases Indexation of Social Welfare Pensions

8. Total Outgoings as % of GNP Projected Cost of Irish Social Welfare Pensions 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

9. 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” Securing Retirement Income

10. 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 Report’s Conclusions on Coverage/Adequacy

11. 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)” Didn’t 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 Report’s Conclusions on Indexation of Social Welfare Pensions

12. 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 Mechanism for addressing intergenerational issues

13. Other Features No Irish Government Bonds Managed by agency independent of Government Clarity of acounting and accountability No mixing of financial / social objectives Mechanism for addressing intergenerational issues

14. Comparison of Exchequer Cost of Earnings Indexation - with funding and PAYG (% of GNP, 1998-2046)

15. 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 Public Service Pensions

16. Projected Cost of Public Service Pensions as Percentage of GNP

17. 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 Commission’s Recommendations in relation to Funding

18. Commission’s Recommendations in relation to Funding

19. 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 National Pensions Reserve Fund

20. 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) And Now

21. “The proportion of persons of working age to those over 65 years of age is projected to fall from a current 5:1 ratio to less than 2:1 by mid century” In Summary • “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”