Giancarlo Bruno discusses the fiscal sustainability of retirement income systems
Social security systems around the world – in developed countries and emerging markets alike – are facing substantial challenges as a result of changing demographics, fiscal constraints, economic instability and volatile financial markets. It is apparent that there is a need to not only address the long-term problems associated with these challenges but also to take short-term action.
Many developing countries are confronted with the challenge of introducing or expanding social protection systems and subsequent design options. This has a significant impact on the financial services industry as its products and services may help to mitigate these challenges. At the same time, the financial services industry is strongly affected by this adverse environment. Mostly depending on historical legacies, different strategies and solutions for social protection systems exist.
While there is a need for reform in many countries, there is also a clear opportunity to learn from successful models. Even though the problems have been known for a long time, and a variety of reform proposals exist, the political cycle can be rather short-term. Against this backdrop, reforming social protection systems is a challenging task. It requires foremost intertemporal consistency based on a sustainable intergenerational social contract. There also must be greater clarity and a new social contract on the relative responsibilities of the state, community, private enterprise and the individual.
A recent assessment on basic economic indicators chosen to evaluate the fiscal sustainability of retirement income systems across 36 countries has proven that there is a need to diversify retirement income sources. From this assessment we can draw the following conclusions:
- No source of income is free of either fiscal sustainability challenges or income adequacy deficiencies; all countries will eventually have to cope with pillar weakness.
- While demographic challenges and fiscal sustainability issues are most visible in the typically government-funded pay-as-you-go, employer-sponsored pension funds and individually funded saving schemes make individual retirees more vulnerable to longevity and investment risks. Effective design of retirement schemes shall combine in a complementary and consistent way a portfolio of measures in the different pillars to minimize risks, expand coverage where appropriate and necessary, and ensure benefit adequacy as well as financial sustainability.
- Longevity and investment risks will increasingly be shifted to individual retirees. However, in most cases, retirees are ill-prepared to absorb and manage these risks.
- Among the many stakeholders, the financial services industry, and in particular insurers and pension providers, will have to play a key role in providing solutions that increase the capacity and manage the risks.
Author: Giancarlo Bruno is Senior Director and Head of Financial Services Industry at the World Economic Forum USA
Image: Pensioners play cards in Portugal REUTERS/Jose Manuel Ribeiro