NZ Super - continued
Would pre-paying the costs of NZ Super be fairer to different generations?
Currently, we pay for most of NZ Super as we go. Tax is collected, mainly (although not entirely) from working-age people, to pay for NZ Super benefits. An alternative approach would be to prepay for NZ Super. People pay while they are working, then get that money back when they are ready to retire. Once a prefunding system was fully established, each generation would fund its own retirement costs, rather than being funded largely by the generation following it.
A pre-pay approach is not really intended to save costs, just to change the way we pay for them - pre-paying versus our current system of paying as costs arise. But it might well actually save money in the long run, as we could earn a return on our money so that we would not have to contribute as much. Also, pre-paying should build up a large stock of savings, assuming that the savings are actually "new" and not just money that would have been saved anyway. New Zealand's current low national saving rate makes us more vulnerable to economic shocks. So a system that increased national savings would have benefits beyond the immediate fiscal ones.
Another rationale for a pre-paid approach is that some people might see it as fairer, or perhaps more transparent, for each generation to pay for its own NZ Super, rather than relying on generations coming later. However, there is still a fairness issue - transitioning to full prepayment means the current working age generation would pay taxes that would help to pay for NZ Super for the current generation of people aged 65 and over, and pay contributions towards their own NZ Super for the future. These costs could be spread over several generations by slowing the speed of transition, or reduced by introducing only a partial transition.
What are the roles of the NZ Super Fund and KiwiSaver?
The NZ Super Fund
In 2001, the Government created the New Zealand Superannuation Fund. Many people called it the "Cullen Fund", after Michael Cullen, Minister of Finance at the time.
The Super Fund was designed to save up money for the future cost of NZ Super. Current tax dollars are placed in the Fund, where they earn investment returns. The Fund will eventually be used to help cover some of the costs of NZ Super.
If we continue to contribute to the NZ Super Fund at the rate planned, drawdowns from the Fund are expected to cover about 8% of the cost of NZ Super in 2050. We could increase contributions to the Fund, but that would mean either increasing taxes or finding savings from somewhere else.
Our "Resume Historic Cost Growth" scenario assumes that contributions to the NZ Super Fund will resume from the 2020/21 fiscal year. In 2031/32, we stop making contributions and start making drawdowns. These amounts are not reflected in the "NZ Super" line in Table 1, as that line simply shows gross expenses, and not how they are funded. But drawdowns from the NZ Super Fund do affect the "Net government debt" line.
KiwiSaver
KiwiSaver is not directly connected to our NZ Super system. It is a parallel system that helps people save for their retirement beyond what they would get from NZ Super. Individual KiwiSaver accounts are run by banks and other financial institutions, not the Government. Employed KiwiSaver members have a certain amount deducted from their wages each payday and put into their KiwiSaver account. By law, their employers also have to contribute an equivalent amount (up to a set level). The Government also makes some ongoing contributions. Anyone can put as much of their own money as they like into their KiwiSaver account. When people reach age 65, they are able to access the money in their account.
KiwiSaver does not save the Government any money. People are entitled to receive NZ Super regardless of how much they have saved in their KiwiSaver accounts (or anywhere else). In fact, owing to the subsidies paid to KiwiSaver members, KiwiSaver costs the Government money.
We could pre-fund by using the NZ Super Fund
There are a couple of ways we could build up a prefunded scheme. The simplest would be to increase contributions to the NZ Super Fund. This would allow us to preserve most of the current NZ Super architecture and would probably be relatively efficient to run. However, it would require the Government to cut back on government spending or increase taxes (this is the transitional problem described above). Further, there is a risk that the Government may be tempted to spend this money on non-Super related things in the future.
Or we could move to a system of compulsory private retirement savings accounts
A different approach would be to replace our current NZ Super system with a system of mandatory private retirement savings accounts, a kind of compulsory KiwiSaver. Unlike the option of using the general tax system to pre-pay for the future costs of NZ Super, which essentially means keeping our existing system, adopting mandatory private savings accounts would be a major change. It could eventually remove most of the pressure from government costs of the retirement income system, but some of those costs (and risks) would be transferred to individuals.
There are many different design options for compulsory private retirement savings systems, but the core of any system would be mandatory deductions from people's wages, to be placed in personal retirement income accounts. The funds would be locked up, earning returns, until a designated age.
Upon the account holder reaching the designated age, the funds accumulated in the account could be wholly or partly annuitised. NZ Super payments could then be abated against the amount of the annuity. The total amount individuals would receive in annuitised pensions plus NZ Super payments would depend on how much they had managed to save over their working lives.
There would be many details to be worked out, of course. For example, what to do about people whose incomes are so low that requiring them to contribute to a retirement savings scheme would create a real burden. Or what to do about people who have no income at all for periods. Exemptions might need to be made for people in these categories.
Relative to using the NZ Super Fund to pre-pay the costs of retirement income, a mandatory private retirement savings system has some advantages. With retirement savings building up in private accounts, there is less risk of a future government deciding to spend the money on something else.[97] Also, although a mandatory deduction from wages is in effect a tax, it might not feel like a tax if it is directed towards a personal retirement savings account.[98]
Such a system has drawbacks, however. Individual retirement savings accounts expose people to the risk that, at the point they are eligible to receive their funds, the market is going through a downturn. There are also questions about risk to the Government. If something goes wrong, and people lose most or all of their savings, will the Government feel obliged to step in to rectify the situation?
Also, a mandatory contribution system might require some people to save more than they need or force them to save in a way that doesn't suit them. It might, for example, deprive people of money they would otherwise use to start a business, pay down personal debt, or undertake further study. These drawbacks need to be weighed against the benefits.
Could we use KiwiSaver balances to fund the future costs of NZ Super?
Under current policy, KiwiSaver and NZ Super are completely separate. Governments may not use KiwiSaver balances to help fund the costs of NZ Super.
Some have suggested that this could change, however. Hon Dr Sir Michael Cullen, presenting at the Treasury-Victoria University of Wellington Affording Our Future conference in December 2012, suggested two alternatives for how KiwiSaver balances could be used:[99]
- Require people to annuitise half of their accumulated KiwiSaver balances on reaching the age of eligibility. The Government would then top up the annuities of those whose balances were not high enough to receive an annuity of the same value as NZ Super. This option is essentially a version of switching to a private pre-funding model.
- Introduce a withdrawal tax on accumulated KiwiSaver savings when a saver reaches the age of eligibility to receive them. The additional revenue collected could be used to fund the future costs of NZ Super, perhaps even by being explicitly tagged to it.
Both these options would require enrolment in KiwiSaver to be made compulsory.
Notes
- [97]Instances of governments "raiding" earmarked public pension funds are fairly uncommon, but not unheard of. See, for example, "Irish pension fund to be tapped for €12.5bn", Financial Times, 29 November 2010.
- [98]Phillippe Karam, Dirk Muir, Joanna Pereira and Anita Tuladhar (2010). Macroeconomic Effects of Public Pension Reforms. IMF Working Paper 10/297.
- [99]Michael Cullen (2012). The Political Economy of Long-Term Fiscal Planning from a Social Democratic Perspective. Paper presented at the Treasury-Victoria University of Wellington Affording Our Future conference. Available at www.treasury.govt.nz/government/longterm/fiscalposition/2013.
