Pension systems in Mexico: Main findings and recommendations from a review by the OECD
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Transcript of Pension systems in Mexico: Main findings and recommendations from a review by the OECD
OECD REVIEW OF PENSION SYSTEMS IN MEXICO
Main findings and recommendations
Pablo ANTOLINHervé BOULHOLStéphanie PAYET
Mexico City15 October 2015
2
• Purpose• Main features of the pension system
today• Main findings and recommendations
w.r.t.:– Public pension system– Transition period and low contributions– Design of the accumulation phase– Design of the pay-out phase
Outline of the Presentation
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• The review assesses the system that has resulted from reforms in 1997 (IMSS) and 2007 (ISSSTE)
• The purpose is to identify areas that need to be improved and provide guidance on how to introduce these improvements to make the current pension system sustainable in the long term both socially and financially
• The review uses OECD best practices on designing pension systems
Purpose
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THE MEXICAN PENSION SYSTEM TODAY
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• Federal (Pensión para Adultos Mayores) and state non-contributory old-age safety nets
• Reformed public PAYG DB system, which is subject to a long transition period
• Mandatory private funded DC system (gradually replacing public PAYG DB system)
• Special pension schemes (e.g. state-owned companies, local governments and universities)
• Voluntary pension contributions in the individual retirement accounts, occupational pension plans or personal pension plan
5 Main Components of the Mexican Pension System
6
DC System: Mexico in the Middle Range in the OECD, After Only 17 Years
159.3146.8
125.6110.0
96.085.384.2
76.268.3
54.951.050.148.6
37.130.2
20.014.1
11.310.610.19.59.28.88.88.07.36.76.65.85.55.14.24.13.2
0.50.1
0.0 50.0 100.0 150.0 200.0
Netherlands (1)Iceland
Switzerland (1)Australia
United Kingdom (1)OECD weighted average
United StatesCanada
ChileIsrael
FinlandIreland
DenmarkOECD simple average
JapanNew Zealand
MexicoEstonia
Slovak RepublicPortugal
SpainSweden (1)
NorwayPoland
Czech RepublicKorea
ItalyGermany (1)
Austria (1)Turkey
Belgium (1)SloveniaHungary
Luxembourg (1)France
Greece (1)
Pension funds' assets as a % of GDP
7
• Mandatory fully funded DC system for formal sector employees who entered the labour force on or after July 1997
• Free election of AFORE• Contribution rate: 6.5% + social quota• 4 basic SIEFORE: multi-fund life-cycle scheme• Eligibility for a pension: 1250 weeks of
contributions and 65 years old – Life annuity, programmed withdrawal or minimum
guaranteed pension (PMG)
Reformed System for Private-Sector Workers (IMSS)
8
• Mandatory fully funded DC system for employees who entered the labour force on or after April 2007
• Free election of AFORE• Contribution rate: 11.3% + social quota• 4 basic SIEFORE: multi-fund life-cycle scheme• Eligibility for a pension: 25 years of
contributions and 65 years old – Life annuity, programmed withdrawal or minimum
guaranteed pension (PMG)
Reformed System for Public-Sector Workers (ISSSTE)
9
• Private-sector workers who were working and contributing to the PAYG system in place before July 1, 1997 retain the right to choose upon retirement whether their pension benefits are calculated according to:– the formula of the old DB system, based on
their contributions made over their entire career; or
– the value of the assets accumulated in their DC individual retirement account since 1997.
Transitional Workers: Private-Sector
10
• All public-sector workers who were ISSSTE affiliates at the time of the reform in 2007 had the right to choose to switch to the new funded DC scheme or to remain in the old PAYG DB plan
• The affiliates had a time limit of six months to choose between these two options, starting January 1, 2008
• Those who chose to move to the DC system (14.2%) received a “recognition bond” in their account to acknowledge their contributions in the old DB system
Transitional Workers: Public-Sector
11
MAIN FINDINGS AND RECOMMENDATIONS
THE PUBLIC PENSION SYSTEM
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• Retirement benefits and conditions in the old system are very generous relative to the level of contributions paid:
The Old PAYG DB System Is Heavily Subsidised
0.250.3
75 0.50.6
25 0.750.8
75 11.1
25 1.251.3
75 1.51.6
25 1.751.8
75 22.1
25 2.252.3
75 2.52.6
25 2.752.8
75 30
20
40
60
80
100
120
Replacement rate for various contribution periods, %
45 years 35 years 25 years
reference wage (multiple of average earnings)
13
• Retirement benefits and conditions in the old system are very generous relative to the level of contributions paid.
• Having contributed during 500 weeks at a rate of 6.5% makes you eligible to the minimum pension which is equal to the minimum wage
• Conditions are even more generous in the public sector where it is possible to retire much before 65 with a full pension if you have contributed for 28 / 30 years
The Old PAYG DB System Is Heavily Subsidised
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• Substantial and fast demographic changes• Long transition period of the past reforms, with
the old DB system still impacting on public finances for a long period
• Numerous non-reformed schemes • Deep fragmentation of the pension system
creating inequalities• Little incentives to contribute longer than the
eligibility period for low-income workers• Mexico has one of the lowest non-contributory
safety nets among OECD countries + overlap of state and federal programmes
Challenges Faced by the Public Pension System
• Minimum pension is high relative to the minimum wage, esp. given low contribution rates
• Might create downward pressure on minimum wage increases• Minimum wage is low as a ratio of the median wage in international comparison• Incentive to contribute further once eligibility to the minimum pension is
fulfilled is limited• Old-age safety net level (Pension para Adultos Mayores, PAM) is low
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Nexus Between Minimum Pension and Non-Contributory Safety Nets
0
5
10
15
20
25
30
35
40
45
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Denm
ark
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ance
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Finl
and
Japa
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Italy
Ger
man
ySl
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ates
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aCz
ech
Repu
blic
Hung
ary
Mex
ico*
Kore
aTu
rkey
% of average earnings
Basic (residence) Safety-net Minimum 1973 law
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• Increase the non-contributory pension (PAM)• Drastically improve the coordination of old-age
safety nets between the federal and local governments
• Delink the minimum pension and the minimum wage• Make the minimum pension benefit grow
progressively with the contribution period or the amounts of contribution up to a ceiling
• Make the non-contributory pension subject to a low withdrawal rate against the new progressive minimum pension scheme
Better Linking Non-Contributory and Minimum Pensions
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• Increase contribution rates in old DB schemes• Reduce government subsidy for civil servants (matching
contributions)• Link retirement age to gains in life expectancy• Tighten early-retirement rules: raise the minimum
retirement age (private and public sectors) and the contribution period to get a full pension in the public sector
• Harmonise the rules for all pension plans to reach a truly national pension system equal for all :
- gradually converge IMSS and ISSSTE parameters- eliminate special regimes in public firms and universities- condition part of the transfers to local governments on the adoption of the national scheme
Improving Financial Sustainability and Efficiency
18
MAIN FINDINGS AND RECOMMENDATIONS
ADDRESSING THE PROBLEM OF THE
TRANSITION PERIOD AND LOW CONTRIBUTIONS
19
• This is the result of low contribution rates (6.5% + social quota) and high promises to transitional workers based on the old DB formula
• Drop less dramatic for public-sector workers
Sharp Drop in Pension Benefits Expected After the Transition Period Ends
0.0
20.0
40.0
60.0
80.0
100.0
120.0
140.0
1 minimum wage 2 minimum wages 3 minimum wages
4 minimum wages 5 minimum wages 6 minimum wages
Private-sector workers
% o
f fina
l sa
lary
20
• 60% of working-age population have an individual retirement account but only 30% have an active account (with contributions during last 3 years)
• Density of contributions about 38%, with 48% of workers contributing 10% or less of the time
• Low voluntary savings and pension awareness do not help addressing the issue
Low Coverage Rates and Contribution Densities Compound the Problem
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• Increase mandatory contribution rates– Link it to increase in wages to avoid a
reduction in take-home pay• Earmark for retirement part of the
contributions to INFONAVIT• Introduce automatic voluntary
contributions with an opt-out option• Improve incentives for voluntary
pension savings
Contribution Levels Need to Increase
22
Up to What Level?
8.89.09.510.010.010.010.010.010.310.4
12.013.3
16.016.016.416.716.8
17.918.018.4
19.619.619.820.020.020.0
22.022.0
22.922.9
24.428.028.3
33.034.0
0.0 5.0 10.0 15.0 20.0 25.0 30.0 35.0 40.0
Mexico (IMSS) (2)Korea
AustraliaDominican Republic
CanadaChile
BoliviaPeru
El SalvadorUnited States
IcelandMexico (ISSSTE) (2)
LuxembourgColombia
BelgiumFranceJapan
NetherlandsSlovak Republic
SwedenGermany
PolandSwitzerland (1)
GreeceLatvia
TurkeyIsrael
EstoniaAustriaFinland
SloveniaCzech Republic
SpainItaly
Hungary
Contribution rates in mandatory pension plans
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Up to What Level?
30 40 50 60 70 80 90 10050 5.3 7.0 8.8 10.3 12.0 14.0 15.5 17.375 7.8 10.5 13.0 15.5 18.0 20.8 23.5 26.090 11.0 14.5 18.0 21.8 25.3 28.8 32.3 36.395 12.8 17.3 21.8 25.8 30.5 35.0 39.0 43.399 17.3 23.3 28.5 34.5 39.3 45.8 51.5 57.0
Target replacement rate (RR)
Probability of reaching the
target RR
Contribution rates needed to achieve different target RRs with a given probability
24
• DB component:calculated based on the old DB formula and the number of years spent in the DB system up to today
• DC component: calculated based on new accumulation in the individual retirement accounts from today until retirement
Introduce a Pro-Rata Mechanism to Smooth-Out the Transition Period
0.010.020.030.040.050.060.070.080.090.0
100.0
2015
2017
2019
2021
2023
2025
2027
2029
2031
2033
2035
2037
2039
2041
2043
2045
2047
2049
2051
2053
2055
2057
2059
Today Higher contributions Higher contributions + pro-rata
25
• Consider introducing mandatory contributions for self-employed workers to increase coverage and lengthen contribution periods
• Public understanding and confidence in the pension system could be improved by – better aligning public and private-sector pensions;– improving the information provided in pension
statements; and – organising well-designed National Pension
Communication Campaigns to better promote pension savings and increase financial literacy
Increase Coverage and Densities of Contributions
26
MAIN FINDINGS AND RECOMMENDATIONS
IMPROVING THE DESIGN OF THE ACCUMULATION
PHASE
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• Workers have very limited choices in the multi-fund system
• Despite increased diversification, Mexico’s pension funds are still significantly concentrated in debt relatively to other OECD countries
• The investment limits for equity and foreign securities are binding for most basic SIEFORE and thus prevent diversification and negative correlation between investments
The Current Investment Regime of SIEFORE Is Too Restrictive
28
• Between 2008 and 2015, fees charged by AFORE have declined by 70 basis points (from 1.81% to 1.11% of assets on average)
• However, they remain high in an international context• The current approval process of fees provides little incentive to
further lower fees for AFORE with charges already below the average
Fees Charged Have Declined But Remain High in an International Context
0.00
0.50
1.00
1.50
2.00
2.50
3.00
29
• Only 68% of accounts are registered• Same fees charged to assigned workers
even though they may not be able to make use of all services
• Transfers between AFORE are allowed once a year but more than half of the transfers are to AFORE providing lower net returns
• Workers are convinced to switch by a growing number of sales agents
Incentives in the Registration, Assignment and Transfer Processes Are Not Enough to Foster Competition
30
• Allow more choice between different investment strategies while keeping default life-cycle investment strategies
• Gradually relax regulatory limits for equity and foreign securities
• Consider structural solutions to reduce fees (e.g. extending the assignment process to new entrants using a tender mechanism)
• Lengthen the period during which people cannot switch between AFORE from one to three years
Proposals to Improve the Design of the Accumulation Phase
31
MAIN FINDINGS AND RECOMMENDATIONS
IMPROVING THE DESIGN OF THE PAY-OUT PHASE
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• Large pots of assets can be taken as lump sums instead of being used to finance retirement, affecting negatively retirement income adequacy and public pension liabilities
• Partial early withdrawals from the individual retirement account are allowed in case of unemployment and marriage, diverting money from retirement financing
• The incentive to retire early is strong for low-income workers, increasing public pension liabilities related to the payment of the PMG
Pay-out Options at Retirement Do Not Create Appropriate Incentives
33
• The annuity market is small because there is no demand for annuities (demand will increase as the transition period ends)
• Annuity providers are ring-fenced subsidiaries of insurance companies. They cannot diversify risks and are subjected to a more restrictive investment regime
• Insurance companies can only offer one annuity product, the traditional immediate life annuity
• Disability and survivor pensions are funded by IMSS and ISSSTE, but the choice of the annuity provider is done by the worker
• Mortality tables used by annuity providers sufficiently provision for expected mortality improvements for now
Lack of a Thriving Annuity Market
34
• Early use of retirement savings should be avoided
• All the assets accumulated in the pension system should be combined to finance retirement
• Establish a specific regulatory framework to limit pensioners’ choice of the insurance companies providing disability and survivors’ benefits
Optimise the Resources Used to Finance Retirement
35
• Allow additional annuity products that provide different types of guarantees, aligning reserving and capital requirements with the different levels of risk
• Encourage annuitisation as a protection against longevity risk
• Assess the cost and benefits of having annuity providers ring-fenced from their parent insurance company
Improve Prospects for the Annuity Market
36
• Occupational DB pension funds should be subject to minimum mortality requirements and should use mortality tables accounting for future improvements in mortality
• Update regularly mortality tables to ensure that the ones used by the industry remain adequate
• The Mexican regulatory framework should provide incentive to manage and mitigate longevity risk
Improve the Management of Longevity Risk
THANK YOU VERY MUCH!
OECD work on pensionshttp://www.oecd.org/pensions/