With a shrinking labour force and a growing class of pensioners, public pension systems are experiencing difficulties in staying afloat. Private pension plans on the other hand show either disappointing returns, insufficient contributions, or a combination of the two. This leads experts to speak of a ‘pensions-time bomb’, set to put the future generation’s pensions in a state of crisis. Michael Drexler, former Member of the Executive Committee at the World Economic Forum, compared the current state of pensions with climate change. Highlighting the similar nature in that we have yet to experience the full culmination of both.
Decreasing fertility rates combined with advances in health and medical sciences are the leading causes behind the ageing global population. This demographic shift has a significant impact on our current public pension systems, as they are commonly funded on a pay-as-you-go basis. Implying that pensioners rely on inter-generational funding, where, the current working generation pays for their pensions. Therefore, if our elderly are growing at a proportionally faster rate than our labour force, each pensioner will have to rely on fewer and fewer workers for their pension.
By measuring a dependency ratio as workers per pensioner, one can clearly see the future impact of an ageing population. By 2050 China’s dependency ratio is projected to have dropped from 7 to 2, whilst Japan will reach a ratio slightly above 1. Globally, the dependency rate is expected to have halved by the same year. The dropping ratios mean that the world’s public pension programs may face terminal collapse. Given the outstanding unfunded government pension liabilities of almost $78tn between 20 OECD nations, further strains on the system might prove fatal, as they will face significant problems in sustaining funding.
The shift towards corporate pension schemes is a good start. However, disappointing returns coupled with low financial contributions and poor engagement of private individuals means that current saving levels are insufficient. Highlighted by the WEF, there is a global underfunding of $400tn which includes all pension classes; public, corporate, and personal. Therefore, simply shifting to private pensions will not be enough - policymakers must step in.
The natural solution to the pending crisis is to increase the retirement age in an attempt to offset the impacts of the ageing population. Reports claim that retirement ages must increase with 8.4 years by 2050. Furthermore, migration is often pointed towards as a way of bringing the dependency ratio up. However, this assumes a potent labour market which can bring these people into work. Changes in the private pension plans might be necessary. By pooling individual contributions where risk spread, and allocations are externally managed; Netherlands and Canada might have built a system for the future. Either way, as Drexler says, just like climate change, we might not realize that change is necessary until our funds dry up and our pensions evaporate.