Singapore, Hong Kong and Inadequate Pension Plans

As Asians’
lifespans increase dramatically, governments are unprepared to care
for them

Photo by Derrick Chang

retirementSingapore’s
latest adjustments to its Central Provident Fund (CPF) scheme,
announced on August 9, the island republic’s National Day, make
for dire reading on two accounts.

First, having been
forced to save so much for so long, so many Singaporeans are as yet
ill-prepared for rapidly approaching retirement. Second, other
rapidly aging places in Asia, particularly Hong Kong, are even less
equipped to face the twin challenges of aging and longer life spans.
The lower income groups in both Singapore and Hong Kong societies are
in the worst situation and will continue to get an especially raw
deal.

The changes outlined
for Singapore’s CPF were:

  • A 1 percent rise
    to 3.5 percent in the interest rate paid on CPF balances up to
    S$60,000.

  • A scheme –
    details to follow – to force members to take out insurance
    against living beyond the age when their CPF funds would be
    exhausted.

  • Phased increases
    to the Draw Down Age at which money can be withdrawn from the CPF
    (other than for approved investments). The draw-down age was once
    only 55, is now 62 and will rise to 65.

  • Various measures,
    including income supplements, to encourage employment to age 67 or
    above.

The interest supplement
is tacit acknowledgement of how far the forced savers have been
subsidizing the borrowers – the Singapore government and
ultimately US and other consumers who are being financed by
Singapore’s savings excess. The current normal interest rate on
CPF balances is 2.5 percent -- barely above the rate of inflation.
Indeed, for years, the interest rate has been about nil in real
terms. It is noteworthy that while the giant state investment
corporation Temasek boasts double-digit returns on investments,
Singapore’s forced savers have been receiving a quarter of that
amount.

The first consequence
of this is that savings have not in practice earned anything, so
balances are now far from adequate to sustain a reasonable standard
of life for low-income retirees despite the fact that contributions
to the CPF are 36 percent of income and were once as high as 40
percent.

Middle-income earners
have been able to take advantage of their ability to place some of
their CPF savings directly into stocks and mutual funds, which have
earned much higher rates of return. But that has not applied to
lower-income earners who must first accumulate enough in the CPF’s
own fund before investing elsewhere.

The CPF has of course
enabled most people to buy their own homes – albeit mostly in
the

government-built and
controlled Housing Development Board flats in which 88 percent of the
population live. But it has left a situation where many are
relatively asset-rich but will in future lack sufficient income,
requiring them either to borrow against their flats, or sell them.
Indeed, of those nearing the age in 2006 (55) when they were supposed
to reach the Minimum Sum in their ordinary CPF accounts, nearly half
had to pledge the value of their HDB flats.

Even the Minimum Sum,
currently at S$99,000 is a modest amount given that the median wage
in Singapore is around S$27,000 a year (before CPF deductions) and
even the lowest paid 20% earn about S$14,000 in a year. Although the
minimum sum earns interest of 4% a year, its provision is very basic
even assuming people own their flats and have medical coverage under
the CPF or otherwise. Based on the minimum amount, the CPF provides
S$610 a month for 22 years so for someone retiring at 62 would last
only till 85.

Officials now admit
that “with rising life expectancy, a significant proportion of
members will outlive their CPF monthly payouts,” so the
government is to devise a scheme for insurance against living longer.
It would provide for a monthly income of S$250-300 when their CPF
annuity – assuming they start withdrawing at 62 – runs
out.

 

People will have to buy
such insurance either from the CPF or an annuity, payable till death,
from a private sector insurance company. But even the latter yield
only about S$550 a month assuming that the minimum sum is invested in
them at 55 and payment begins at 62.

Most people have more
than the minimum balance – but not so much more that they can
look forward to a comfortable retirement. Which explains why the
retirement age is being raised, eventually to 67, and even the
government recognizes the inadequacy of CPF returns.

While the CPF has also
given an enormous boost to home ownership, it is clear that an
excessive percentage of most households’ wealth (particularly
those of lower and middle incomes ones) is tied up an illiquid asset
whose value may well stagnate as the population ages and the birth
rate remains very low.

In many ways the
government policy is realistic. Demographics have changed
dramatically since the CPF was devised. The percentage of the
population over 65 will double to 20 percent in 20 years and the
average life expectancy from birth, now 79.6 is still rising. Those
who reach 65 can already expect on average another 20 years of life
and half, mostly women, will exceed that.

The need for an
exceptionally high savings rate to develop the infrastructure and
accommodate the once fast growing population has changed too. But it
is disingenuous of government to suggest that the changes now to be
made will reward the older groups with higher interest rates and work
supplements. They are merely partial compensation for the past.

The government is
entirely responsible for the abysmal return on forced savings.
Fairness suggests that at the very least all past savers should be
back-dated with accrued compound interest of a real (inflation
adjusted) rate of 2.25-2.50 percent and that should become the
standard for the future. That figure is line with average yields in
developed countries of inflation-linked government bonds and over
time is roughly in line with the historical post-inflation yield on
Singapore government bonds. The government can readily afford this.
Indeed it would be a very much better investment in Singapore’s
future than its investments in US instruments that it failed to
understand.

Meanwhile in Hong Kong
the demographics are almost exactly the same and the end results will
be too, but the path has been different. Everyone except civil
servants (with generous inflation-linked pensions) is largely
expected to fend for themselves beyond a very basic old age
allowance, almost free health care and subsidized rental housing for
about 35 percent of the population. A Mandatory Provident Fund (MPF)
to which employer and employee contribute was introduced seven years
ago but at a much lower contribution rate and it will be more than a
generation before it has a significant role in retirement income.
Potentially it should offer much higher returns but its high cost
structure benefits select private sector providers rather than the
savers themselves.

But for the next two
decades the rapidly aging population will have to live with the
consequences of the past, plus whatever the bureaucracy is willing to
commit from abundant public taxpayer funds.

Like Singapore, Hong
Kong, with the world’s longest average life expectancy of 81.6
years overall, has a serious problem with widening income
distribution which can only get worse as the numbers of old people
increase unless there is a major commitment to changes which help the
latter. However, so far the tendency has been the reverse, with
welfare spending lagging numbers of recipients and charges being
threatened for health services.

While Hong Kong
residents have not been subject to forced savings with a low-return
government agency, they have in practice been only slightly better
off. Middle and higher income groups have been able to invest and
stocks, mutual and insurance funds and buy their own (albeit very
expensive) properties. However lower-income groups have mostly been
able to save only through bank deposits, and particularly savings
bank accounts, which have struggled even to keep up with inflation
(which due to monetary and exchange policies dating back 35 years has
been consistently higher than in Singapore).

While lower-income
groups have been subsidized by public rental housing (and to a lesser
degree by the partly subsidized Home Ownership Scheme) unlike their
Singapore counterparts, they do not have an asset against which they
can borrow to finance their later years.

Despite the rapid aging
of the population, which will inevitably require increased health and
welfare spending, the government is still aiming to cut back its
overall recurrent spending. Yet its focus on “self-reliance”
and private sector insurance would ring rather more true were the
government to distribute part of its HK$300 billion accumulated
fiscal reserves (excluding those of the Exchange Fund) to the
population at large based on a formula combining the number of years
resident in Hong Kong prior to the establishment of the MPF and
current age.

The objective would be
to enable those approaching retirement age to purchase a small
annuity for their remaining years and, for younger ones, a small
capital sum which could be added to their MPF savings accounts.

The largest amounts
would go to those approaching retirement age who had been in Hong
Kong all their working lives, with amounts tapering to very small
amounts for the very elderly and those whose working lives began
before the year 2,000 when the MPF commenced.

Such a scheme would be
a proper distribution of surpluses which belong to Hong Kong people
as a community, and make it possible for the government to retreat
from a large area of welfare provision to concentrate on health and
care for the handicapped and for children (costs of whom go a long
way to explain the abnormally low births rates in both Hong Kong and
Singapore). It would enable the government to cut recurrent spending
and reduce reliance on unstable revenue sources such as land sales
and stamp duties.

The government may also
help itself by looking into helping the development of a
reverse-mortgage business. Its own Mortgage Corporation, which buys
ordinary mortgages from banks, is redundant. Hong Kong has not
shortage of banks eager to lend so the Mortgage Corporation’s
main function is to create more highly paid jobs for civil servants.
But it might have role in devising products which would help provide
annuities linked to home values.

By any measure,
creativity is needed to address the fiscal and economic consequences
of aging societies. Singapore’s nanny state does seem to be
making some effort partially to rectify some of the consequences of
the way the CPF has been managed in the past. The leadership has
recognized that a huge problem lies ahead – by 2025, 22 percent
of the population will be over 65. But Hong Kong’s ruling
plutocracy appears not to have begun to understand the nature and
depth of the problem or think about imaginative, market-based
approaches.

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