Given the projection of a global pension asset shortfall of $400 trillion by 2050, I expect to hear a lot about retirement within the broader agenda of sustainable and inclusive economic development at Davos.
The issue reflects a convergence of multiple global factors: ageing populations, longer life expectancies, lower fertility rates, as well as low interest rates. Combined with high levels of government debt and global business competition, it’s clear why responsibility for financial security continues to shift to individuals. Many call this a retirement security crisis. But in my mind, it’s only a crisis if we – governments, employers, providers, asset managers and individuals – fail to come together and act.
But we aren’t starting from square one: the top 20 retirement systems around the world have more than $36 trillion in assets combined. These systems are in various stages of maturity, but we know of certain things that work based on successes and failures around the world. In my view, there are three major global challenges and three potential solutions to financial security for everyone:
1. Inadequate income in retirement. With an increase in global life expectancy, there are more years of retirement to fund. Public pension systems alone – which are already under pressure – typically replace just a fraction of what’s needed for a secure retirement. In addition, people simply aren’t saving enough, whether on their own or through voluntary retirement plans in countries where they exist.
2. Lack of coverage. More than half of the world’s workforce is employed informally in what’s often referred to as the gig economy – temporary and part-time workers, contingent labour and independent freelancers. Whether workers take these jobs out of necessity or for the autonomy, variety, and mobility they offer, they’re generally not well covered by the mandatory and/or voluntary retirement systems that are available to the formal sector, even in a more mature market like the US. This report suggests 48% percent of US businesses with 50 to 500 employees, and 76% of those with 10 to 50 employees, offer no retirement plan at all.
3. Sustainability issues. Globally, we’re seeing a dramatic increase in the number of people reaching retirement age. In the US, where the retirement age is about 65, one in five (22%) will be of retirement age or older in 2050 — that’s a 47% increase from 2015. But ageing in the US pales in comparison to Brazil, China, Hong Kong and South Korea, where the percentage of the population that is over 65 is projected to more than double. Declining fertility rates magnify this effect.
Dependency ratios (the number of elderly people per 100 working-age adults) in those countries are projected to at least triple between 2015 and 2050 and more than double in a number of other emerging markets.
With fewer workers per retiree, sustainability options are not ideal: pay fewer benefits to retirees, tax the workforce at a higher rate, or some combination of both.
The projected depletion of the US Social Security System’s old-age trust fund illustrates the point. Absent reform, after 2035, revenue from payroll taxes would only be sufficient to pay 77% of benefits to recipients.
1) Further pension reform. While the US is one of the world’s more mature retirement markets, it struggles to create a sustainable system that is capable of producing adequate retirement income. It’s not alone. More than half of the countries within one OECD study had initiated reforms to improve financial sustainability and more than half had initiated income adequacy reforms.
Such reforms provide a good roadmap for future policy actions and common-sense fixes, such as higher contribution rates, longer contribution periods, mandatory or otherwise pension schemes to increase coverage, shorter qualifying periods in which to receive benefits, adding voluntary pension systems to complement public systems, improvements in benefits for low-income groups, and required annuitization to ensure a stream of lifetime income.
2) Replicate what’s working. In this 25-country study, five nations (Australia, Denmark, Netherlands, Singapore, and Sweden) were assigned a ‘B’ grade or better for both the adequacy of retirement income for workers and sustainability of that country’s existing system. The common thread: each of these countries have a mandatory, privately-funded programme.
Using tools like tax incentives and matching employer contributions, the US’ voluntary defined contribution (DC) system has also successfully nudged Americans to save for retirement, to the tune of more than $13 trillion between private DC and Individual Retirement Accounts. For context, that’s more than the retirement assets in the next nine largest retirement systems in the world combined.
We must continue to advocate for higher default savings rates and best-in-class design features to automate enrollment, escalate savings appropriately and sweep non-participating employees into a plan.
3) Share the job of teaching people about personal finance. According to this S&P survey, less than half of the adult population was found to be financially literate in 83% of the 143 participating countries. Whatever retirement reforms countries enact, I believe they must be accompanied by educational campaigns supported by governments and the financial services industry.
Here’s the good news: we now have more ways than ever to educate the world through a smart mix of human interaction and intuitive technology – things like virtual coaches and the gamification of personal finance. We just need to focus on two foundational needs: understandable vocabulary and concepts; and tools that support decision-making and removing barriers to action.
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The next steps
We have a lot to learn from each other as pension systems evolve market by market, but progress is possible. By sharing the lessons we’ve learned globally while encouraging and inspiring people to save more and save earlier for retirement, we will build a stronger financial future, which will ultimately benefit all of humanity.