Retirement Security: Taking the Risk Out of Living Longer
Advances in medicine and public health have extended our lifespans. But as people live longer, retirement income adequacy becomes paramount. Assuring income sufficiency requires collective accountability among employers, plan sponsors, governments and individuals. It also requires we take steps now. Fortunately, we can learn from successful models in both public and private sectors worldwide in order to create positive future outcomes.
The risks in not addressing the retirement adequacy challenge are compelling, most notably greater numbers of people simply not having enough money to retire securely or even at all. Additionally, delayed retirement and mandatory retirement-age increases create blockages in workforce talent pipelines, fostering talent management challenges.
First and foremost, plan sponsors and national pension systems globally must encourage appropriate savings levels to ensure that employees can retire comfortably, and address their plans’ risk profiles to avoid unforeseen costs. Policy that facilitates the right levels of participation is also a critical component of successful outcomes, and understanding global pension systems that are getting it right can be instructive.
The annual Melbourne Mercer Global Pension Index (MMGPI)— produced in collaboration with the Australian Centre for Financial Studies (ACFS) — has become a key tool in managing pension risk. It examines the pension systems of 25 countries and ranks them in terms of their adequacy, sustainability, and integrity.
The MMGPI acknowledges that pension systems around the world, whether social security systems or private sector arrangements, are now under more pressure than ever before, including pressure from rising life expectancies, increased government debt, uncertain economic conditions, and a global shift to defined contribution plans. The Index also notes that many retirees underestimate their life expectancy.
There is no one-size-fits-all prescription for how to improve retirement systems
While there is no one-size-fits-all prescription for how to improve retirement systems, the MMGPI identified solutions that are common to successful outcomes:
- Increase the retirement age to reflect increasing life expectancy.
- Promote higher labor force participation at older ages.
- Encourage higher levels of private savings.
- Reduce the leakage from the system prior to retirement.
- Increase coverage of the private pension system with an element of compulsion or automatic enrollment.
- Improve the governance of private pension plans and require improved transparency.
Since the MMGPI was launched in 2009, the sustainability of several pension systems has improved in two key areas: increased retirement age and the increased labor-force participation rate of 55- to 64-year-olds. The most successful countries in ensuring retirement income adequacy have mandatory retirement savings programs. In the UK, auto-enrollment in retirement schemes has become a reality and Australia has increased contribution rates to superannuation funds.
A major report from the International Monetary Fund (IMF) urged governments to “acknowledge the significant longevity risk they face through defined-benefit plans… and through old-age security schemes.” As an essential measure, the IMF encouraged nations to allow retirement ages to increase along with longevity, and stressed better longevity education to promote preparedness amongst individuals.
Employers also have accountability to reduce the risks to the balance sheets and income statement associated with their plans. In the U.S., research from our sister company, Oliver Wyman, shows that most companies in the S&P 500 with defined-benefit pension plans have taken steps to reduce these risks. Examples include closing the plans to new hires or even freezing the accrual of benefits for existing employees. Some have gone further and implemented voluntary lump-sum offers and annuity purchases.
Alternative Company Strategies
Most notably, some of the largest companies are moving toward a new era of pension plan de-risking through buyouts and annuities. Coupled with strong communication and education programs to help employees with their retirement adequacy goals, such risk transfer strategies can increase individual accountability in managing retirement funds.
The most significant example to date was General Motors’ 2012 announcement to transfer the pension risk for most of the company’s salaried retirees through a combination of voluntary lump-sum offers and an annuity purchase by Prudential. (Oliver Wyman and Mercer were appointed by State Street, the Independent Fiduciary for the General Motors plan, to act as its insurance advisor on the transaction).
Only a month earlier, Ford Motor Co. announced it would offer lump-sum pension payout offers to 98,000 white-collar retirees and former employees. Other U.S. organizations have instituted such retirement-adequacy strategies as embedding insured annuity withdrawal benefits in 401(k) plans.
The ability to assure adequate income in retirement, as we are all living longer and often healthier lives, is a good problem to have. However, we must take steps today in order to achieve the right outcomes for tomorrow. The issues are complex and can only be addressed if we understand and balance the unique accountabilities for employers, plan sponsors, policy makers, and individuals.
The growing determination by nations, companies, and people around the world to proactively manage the risk and adopt effective new models provides us with a growing body of successful cases. There is no one-size-fits-all, however we can see with clarity those elements that drive successful outcomes. By drawing on that knowledge, and encouraging, educating, and empowering all the stakeholders involved, we will fulfill our commercial and moral imperative to meeting one of society’s most complex global challenges: Making a positive difference in people’s lives by assuring that the wealth of our citizens extends with their lifespans.