Demographic transition forces the pace of pensions reform

Australia is enjoying the benefits of being an early adapter of auto-enrolment pensions, a form of which was introduced by legendary 1980s Labour prime minister Bob Hawke

People's retirement years have long been well funded in Australia, since a form of auto-enrolment was first championed in the 1980s by then Prime Minister Bob Hawke.

Governments in advanced economies are restructuring their pensions systems to meet the challenge posed by rapid ageing in society.

Reforms are in train, but is a race against time.

The stakes in terms of financial and political stability could hardly be higher.

There is an old saying that remains popular with economists and historians alike: demography is destiny.

During the 19th century, European populations grew fast and many of the surplus young colonized the Americas, Australasia and southern Africa.

The terrible carnage of two World Wars led to huge changes in national population structures.

During the 1950s and 1960s, Western European countries benefited from a surge in investment and a rapid growth in their labour forces. Family sizes fell, but the ratio of workers to retirees remained high.

The result was widespread prosperity.

In the UK, a system of auto-enrolment has been in place for close to 15 years. Close to 90% of eligible employees are now active participants, up from 55% in 2012.

Today, however, many States are having to face up to the consequences of a decades-long decline in fertility rates and family size combined with a rapid increase in the number of people living past retirement age and surviving into old age.

At one time, statisticians focused on the prevalence of young children in assessing dependency ratios so critical to national solvency.

However, the elderly have outpaced in number the cohort of those aged twenty and under.

Europe and East Asia, in particular, have grown old fast and other world regions are following in their wake. Many are now approaching the point of natural population decline. The average woman in Chile now gives birth to one baby, a decline of over 40% in just a decade. Births have plummeted across Latin America and the Caribbean.

The US has reached the point where it is just replacing its population.

In Africa, populations are still surging, but even here, fertility rates in some regions have been falling.

Birth rates have plummeted across the world, one factor impacting on pensions.  

Europe is at the heart of an emerging problem of retirement provision. This is due in large part to the size of its welfare states and the unsustainability of pension promises made by States operating Pay as You Go State systems.

Efforts to increase the state pension age in France from 62 to 64 have provoked widespread protest. At the same time, the cost of the country’s debt is soaring. Clearly, the chickens are coming home to roost.

The EU’s pension liabilities could start to bankrupt already highly indebted countries if the problem is not addressed – soon.

One country that has shown foresight is Australia, a federation at the forefront of welfare reform since the late 19th century. The 1980s Labour prime minister, Bob Hawke, is credited with the introduction of auto-enrolment, boosting pension provision among the country’s workforce. The core principle is that state pensions must be supplemented by private provision and that incentives are used to spread participation much more widely, with subsidies from both employers and the State.

Governments have come to realise that by stumping up early, much pain can be averted. The ‘auto’ stands for the automatic opting in of workers to a pension fund, with the option, after some months, of opting out if they so desire.

You could argue that this is the financial equivalent of regular workouts at the gym.

In 1992, contributions to a superannuation fund system were made mandatory for all employees aged between 17 and 70. Employees earning under 28,000 Australian dollars receive matching contributions from the State and their employer, the Government contribution being 50% larger than that of the employer.

The tax on contributions is well below that on bank accounts. Gradually, the individual contribution has risen to stand at 12.5% of income. Most contributions are placed in large funds. As of 31 December 2024, $4.2 trillion AUS ($4,200 billion) was invested in superannuation fund assets, making Australia the fifth largest holder of pension fund assets in the world.

Support among the public for the system appears to be widespread.

The system of auto-enrolment is now well entrenched in the OECD countries. The emphasis now is on spreading private pension coverage to the self-employed and to women, in particular.

In the UK, a system of auto-enrolment has been in place for close to 15 years. Close to 90% of eligible UK employees are now active participants, up from 55% in 2012.

The AE project arose as a result of recommendations by the Pensions Commission. The UK Government has announced that the Commission is to be revived to examine the issues of overall coverage. It is estimated that around 15 million have insufficient savings for retirement. Over three million self-employed are not putting money into a pension.

A typical woman can expect to receive half of the pension of her male equivalent, £100 a week versus £200. On current trends, retirees will have 8% less – £800 – in pension income than current pensioners.

Antonio Simoes, the CEO of Legal & General, has accepted that there is a need to make it easier for people to access private market investments. The head of Scottish Widows, Chira Barua, has observed that while AE has been a “game changer”, still 15 million face “poverty in retirement.” 

The UK Chancellor hopes to boost the efficiency of the industry through the creation of pension mega funds worth around £25bn along the lines of those in existence in Canada and Australia. This could bring in extra funding for investment in infrastructure.

Canadian pension funds invest four times as much in infrastructure as those in Britain.

The larger the Scheme the greater the return secured.

Across the EU, there is a real push for reform. A recent survey by life and pensions company, AON, has revealed that just 35% of schemes can predict what the beneficiaries will likely to receive in retirement. The sustainability of schemes is a core theme behind the current reforms.

In Ireland, the push is on to create multi-employer pension funds that are aimed at providing cost-effective governance.

There are benefits from economies of scale with reduced admin costs and better governance, including greater scrutiny than in the case of much smaller schemes.

Italy is further down the ageing curve than Ireland. The State is providing incentives for people to remain working past retirement age. Mandatory retirement ages for public employees are being reviewed in order to allow for the retention of skilled employees.

The Netherlands has banned the establishment of defined benefit schemes under its Future Pensions Act. Poland has introduced a new AE savings scheme to which around half of eligible employees are contributing.

Belgium is now offering bonuses to people working past retirement age.

Some large multinationals now provide for a gradual increase in pension contribution rates based on length of service under a system of auto-escalation.

A separate initiative provides for greater ease of access to pension scheme funds for employees.

A source of concern is that many employers have not reviewed their contribution structures despite growing concern about their sustainability.