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The Australian Mandatory Pensions System

The Australian Mandatory Pensions System. Donald Duval. Agenda. Background What did Australia do? Why? Where is the system now? What worked and what didn’t?. Young country (First fleet 1788, Federation 1901)

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The Australian Mandatory Pensions System

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  1. The Australian Mandatory Pensions System Donald Duval

  2. Agenda • Background • What did Australia do? • Why? • Where is the system now? • What worked and what didn’t?

  3. Young country (First fleet 1788, Federation 1901) Very largely British and Irish migrants up to 1939 (Both transportation and voluntary) Other white migrants after the war (especially Greeks and Italians) !972 White Australia policy ended and subsequently largely Asian migrants History of corruption in Police and State governments Personal relationships trusted more than legal ones Huge landmass but population heavily urban Significant proportion of self-employment Key industries agriculture and mining In 1970s moved from economic dependence on Britain to economic links with Asia and defence links with USA Cultural background

  4. Political and Economic position in 1980s • Low savings rate • High inflation driven by wage inflation • Currency crisis • Stable and successful financial institutions • Strong collective bargaining (National wage cases)

  5. Pensions in 1980s • State Pension • Flat rate • Around 25% average earnings • Fully means tested (50% withdrawal rate) • Two thirds of over 65s got full State Pension

  6. Private superannuation • Occupational schemes (largely DB) covered approx 50% of employees • Concentrated in white collar and certain sectors (eg mining) • Personal pensions sold by insurance companies to self-employed and employed without occupational super • Very little coverage in Retail, Hospitality, Agriculture • Limited coverage in Construction, Ports • Benefits invariably lump sum (as tax rate on lump sums was no more than 2.5% - pensions taxed as income)

  7. Contributions started at 3% and phased up to 9% All employer contributions, but explicit trade off for wage increases Fund chosen by employer subject to collective bargaining Self employed not required to contribute Contribution rates 1988 to 1992 3% 1992 to 1995 5% 1995 to 1998 6% 1998 to 2000 7% 2000 to 2002 8% 2002 onwards 9% The mandatory system

  8. Types of fund • Large industry wide funds established by trade unions (trustees 50% union 50% employers) • Single company funds (trustees 50% employer 50% member) • Retail funds provided by banks, insurance companies, fund managers etc • Self managed funds of less than 5 members

  9. Other changes made to system • Tax bias in favour of lump sums removed • Salary related limits replaced by flat rate limits • Compulsory preservation to age 55 introduced • Allocated pensions introduced • ETT changed to TTT by introducing 15% tax on contributions and investment income (with corresponding reduction in tax on benefits) • Means test tightened (only one third of people reaching age 65 qualify for full Age Pension) • Personal tax charge on higher rate tax payers in respect of value of pension accrual (DB) or contributions (DC)

  10. Key objectives • Investment markets to be used by all Australians • Increase national savings • Reduce inflationary pressures • Efficient allocation of savings • Reduce dependence on age pension • Improve savings incentives • Improve living standards of the retired population

  11. Reasons for using private sector • No wish to increase role of State • Risk of diversion of the additional savings • Private sector better at allocation to investment • Lack of trust in government • Union desire for role in running funds

  12. Asset allocation at June 2005

  13. Membership (000s) and assets (A$bn) at June 2005

  14. Rates of return 2004/2005

  15. Developments since system started • Member choice of investment • Funds offering financial advice • Wider range of services (eg mortgages) • Reductions in charges

  16. Impact of the mandatory system • Increase in private savings • Wider ownership of investments • Voluntary employer contributions reduced • Voluntary individual contributions increased • Age Pension maintained at more than 25% average earnings • Retired women still much poorer than men

  17. Impact on company provision • Defined benefit schemes closed to new members and often closed to future accrual • Most employers contribute only the 9% • Coverage 90% of all employees • Voluntary member contributions now becoming significant

  18. Mistakes to be avoided • Mandatory superannuation separated from other pensions policies • Killing of DB schemes through tax and regulation

  19. Keys to success • Diversity of vehicle • Competition • Large employer and industry sector • Continued development of system • Diversity of investment • Absence of guarantees • Active supervision

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