The economics of prefunding New Zealand Superannuation Tim Hazledine/RPRC Breakfast Briefing University of Auckland Business School 28 April, 2009
Context • Projected demographic blow ‐ out • Doubling of over ‐ 64s, 2006 ‐ 2036 ..... • and, fewer “working age” people to support them • NZ Super fund an honourable attempt to smooth the demographic bulge by transferring income from this to future generations
The demographic change – 1880 - 2100
Four key points This morning I will make four points: 1. It’s not a “Super” fund. It’s just a fund 2.A very risky enterprise! 3.Why worry? Elasticity will save the day 4.NZ super great in principle ‐‐ extend this?
Point 1: Just a fund • The fund is just a fund (an attempt to redistribute income from the present to the future) • ‐‐ that is, it actually can’t be earmarked or limited to pensions in any meaningful sense
Fund is just a fund ..... 2 Motivating example: • Your daughter is at Otago; wants to go flatting • You want to help, but are worried about rumours of excessive partying in that town • So you say: “Darling, I’ll send you $100/week, but only on the strict condition that you spend all of it on rent and none on partying etc”
Fund is just a fund ..... 3 • So what will happen? • Well, it costs at least $120 to get a room in a flat. • You have basically freed up most of what your daughter would have had to pay herself for her flat, • to be used for… whatever she likes! • In essence, you have just raised her disposable income by $100/week. She will quite possibly choose to spend some of this on getting a rather less scungy flat – say, at $140/week. But that is her choice.
Fund is just a fund .... 4 • It’s the same with the “Super” Fund • It just is an attempt to increase the disposable incomes of future generations • They may choose to put some of this towards increasing pensions beyond what the otherwise would be, but they may not • It’s their choice!
Fund is just a fund .... 5 • And none of the legislation passed in the Act to attempt to tie the hands of future generations will have the slightest effect ‐‐ they can change it, if they even need to. • They will say: “Well, it was quite sweet of our P’s and GrandP’s to try to send us this money, but it was silly ‐‐ indeed, rather arrogant – of them to attempt to tell us what to do with it” What could they know about our problems?!? (What did we know in 1979 about 2009?)
Point 2: The Fund is risky • I stressed “attempt” to send the money to the future – so what could go wrong? • Heaps can go wrong!
The Fund is risky .... 2 • Back to our motivating example • Suppose, instead of the flatting subsidy, you put money into a trust fund for your daughter • In twenty or so years time you go to her and say: “ Daughter dear, I put all this money into a fund for you and invested it in Bolivian tin mines, and it did fine for 20 years and then they just nationalised it without compensation. I’m really sorry!” • What will your daughter say….?
The Fund is risky .... 3 • But surely the Super Fund isn’t being invested in Bolivian tin mines….. is it? • Well, it is a “growth” fund, charged with earning above ‐ market returns => risk • Money is being borrowed to invest in it! • Indeed, right now, from a macroeconomic perspective, it seems that just about all payments into the Fund are borrowed abroad (i.e. not out of national savings)
The Fund is risky .... 4 • Borrowing to invest is highly leveraged – even, speculation? • But even if we did cut back on our own consumption to fund the fund, and if we did put the money into low ‐ risk, low ‐ return investments… • They will still be long term and they still will be mostly overseas • (We can’t easily absorb those savings in NZ, alas ‐‐ lack of investment demand)
The Fund is risky ..... 5 • Now, you can transfer money over large tranches of time • Or you can transfer it over large tranches of space • But it seems to be quite hard and definitely risky to try to do both – things can go wrong, with exchange rates, inflation, other countries’ policies, etc…
The Fund is risky ..... 6 • So really, we might be doing ourselves and our children and grandchildren a better favour by making the most sensible use of the investible funds right now • And right now, the most sensible “use” of those funds is quite likely to not borrow them in the first place! • ...so should we go further and sell down the Fund?
Point 3: But they will cope • But you’re still worried. You think it unfair that our baby boom should generate their demographic bulge • Well, ok, but as a economist I can reassure you • The Law ‐ of ‐ Half: “Every problem is only half as bad as it seems at first” • Because of “elasticity” – the magic elixir of economics: people have choices!
But they will cope .... 2 • People make choices subject to constraints, and when those constraints change, they make different choices to compensate • Specifically, here we have two big demographic changes: – 1. “working age” people becoming more scarce – 2. Healthy older people becoming more abundant
But they will cope .... 3 • So, our clever and enterprising children and grandchildren will make choices which: – Use the scarcer factor more intensively – Use the more abundant factor more extensively • Let’s do the figures….. [spreadsheet available]
But they will cope ... 4 • Start with the 2006 pension burden = $3,081 per year per worker • 2036: percentage of over ‐ 64s doubles, to 24%, and percentage of 15 ‐ 64 drops by 9% • This increases the apparent burden by a lot, to $6,775 per active worker • ‐‐ of course, this is what everyone is worried about.
But they will cope .... 5 • First adjustment: fewer child dependents: 0 ‐ 14 years cohort down by one quarter • This means the dependency burden falls to: $5,721 per worker • 4. With young people scarcer, there will be economic pressure to get them into the workforce sooner, spend less time at school and uni… This is a triple whammy (more work, less dependency; less education cost) • ‐‐ burden shrinks to $4,032 per worker!
But they will cope .... 6 • And there’s more! With fewer children to look after and more grandfolk to help out, expect increase in female labour force participation rate: • .... the burden drops to $3757… • And, of course, they will move back the entitlement age as life expectancy increases • ‐‐ just two more years gives burden = $2749!
But they will cope .... 7 • Oops, we’ve overshot here! • We are saying that the burden will actually be lower in 2036 than now! • And we haven’t even played the economic growth trump card. • Well, perhaps this is all a bit too “elastic” – you can fiddle with the figures yourself. • But it sure ain’t as bad as it looked at first!
Point 4: Extending the principle • But if you are still worried: Well, this is one policy you can DIY Start your own endowment fund! ‐‐ just don’t invest it in Bolivian tin mines • How much should you put into it? – ‐‐ as much as you like! – Just don’t tell other people how much they should save! – “Do not do unto others as you would have them do unto you – they may have different tastes” (GBS)
Extending the principle ....2 • Finally : As an economist and as a citizen I really like our approach to old age income support, anchored as it is in a universal, non ‐ means tested, fully taxed pension. • ‐‐ it’s fair, simple, predictable and encourages people to do stuff to augment it if they wish (ie, no “poverty traps”) • So why don’t we consider extending it to the other end of the age distribution ?!? • Thank you.
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