7.3.3  Compulsion

It can be argued that New Zealand already has one compulsory retirement scheme - NZ Superannuation. Under this scheme pensions are currently paid from taxes, and the payment of taxes is compulsory.

This compulsory scheme is generally regarded as working well, although some have expressed doubts about whether it will remain affordable as the population ages. The principal objective of NZ Superannuation appears to be preventing poverty among the elderly. It is a generous tier 1 scheme by OECD standards, and current settings appear to be effectively achieving this objective, with those aged 65 and over experiencing relatively low hardship rates (Perry 2010).

NZ Superannuation provides the highest gross payment in the OECD for a basic state pension: 39% of average earnings for a single person, compared to 27% across the OECD.[25] However, while the basic retirement pension is generous, the lack of a tier 2 scheme means average total retirement benefits are low by OECD standards.

The SWG canvassed a number of options in terms of mandatory retirement saving schemes (see Box 7) and consider that the most pertinent question in the New Zealand context is whether KiwiSaver, where membership is currently voluntary, should also become a compulsory scheme. This would move KiwiSaver from being a tier 3 scheme to a tier 2 scheme. Such a change would affect household and national saving, and we are interested here in knowing what that impact might be. However, there are clearly other issues that need to be considered. Making KiwiSaver compulsory would be a significant step, and would, in the end, be a political decision.

The sections that follow cover:

• A brief outline of some of the arguments for and against compulsory saving.
• Estimates of the impacts of KiwiSaver, including a compulsory version of KiwiSaver, on household saving and national saving.
• Conclusions of the SWG regarding compulsion.

Arguments for and against compulsory saving

Reasons for mandatory saving schemes

Most people encounter two “saving problems” at some stage of their lives. The first of these problems is to overcome the temptation to spend when they want to save – a problem of self-control that Nobel Prize winning economist Thomas Schelling (1984) described as one of the central problems in most people’s lives. The second problem is working out how much to save, and how to invest these savings. For many people, neither problem is particularly challenging. For others, one problem or other is particularly difficult.

Society provides a variety of means to assist resolving these savings problems. We encourage children to learn and adopt good habits to ensure they save and invest wisely as adults. Banks, pension companies, and saving cooperatives develop products that make regular saving and investment easier.

Yet governments intervene in most developed countries, for three reasons:

1. They believe many people will solve the problems badly if left to their own devices.
2. They provide investment products that are not adequately provided by the private sector, such as annuities.
3. They provide “insurance” protection to ensure people have some resources in retirement even if they suffer catastrophic investment returns.

Internationally, most governments intervene through a combination of: regulating financial providers, providing people with information that can assist them save and invest, subsidising savings, and implementing mandatory schemes. The mix of these four choices depends on the extent that governments believe people can solve the saving problems. The aim is that most people will reach retirement age and not regret either the amount they saved or the way they invested.

New Zealand has smaller mandatory, tax-sheltered, or subsidised saving schemes than most other countries. The relatively limited use of compulsion and subsidised saving schemes seems to reflect a belief that most New Zealanders can adequately solve the saving problems, and a belief that the costs of compulsion and subsidies are very high.

The costs of mandatory saving schemes

Each type of compulsory scheme has various costs and benefits. The three main costs are:

1 The timing cost – people are forced to save at times that may be inconvenient.

2 The portfolio cost – people are forced to invest in assets that they do not wish to purchase.

3 The work-disincentive cost – people have less incentive to participate in the paid workforce if the retirement income received is only weakly related to the funds contributed through mandatory taxes or compulsory superannuation deductions.

The estimated impact of KiwiSaver on national saving

Using a number of scenarios, the SWG Secretariat estimated the impact of KiwiSaver on national saving. Three of these scenarios are presented in Section 9.5. The first of these is a voluntary scenario, under which the membership rate of KiwiSaver would rise from its present level of around 40% of the workforce to around 60%. This was considered to be a realistic estimate under a voluntary approach (prior to the modifications suggested below). The second scenario is a compulsory scenario where the membership rate is 100% of the workforce. The third scenario is another compulsory scenario, although in this one, membership contributions are increased from a level of 2% of an employee's wages to 4%.

The scenarios show that KiwiSaver should result in a rise in national saving and a smaller current account deficit, and should also reduce NFL as a share of GDP. On an annual basis the effects are not likely to be large. For example national saving is estimated to rise by around 0.2% of GDP under the voluntary option, rising to around 0.4% of GDP if the current scheme was made compulsory. However over time, rises of this magnitude can have a significant impact on the level of net foreign assets. For example, a 0.4% of GDP rise in national saving would mean that the annual current account balance was 0.4% of GDP higher than it would have otherwise been, and this would have a similar impact on the level of net foreign assets. Over a 10 year period, net foreign assets as a share of GDP would be around 4% of GDP higher than they would have been without this KiwiSaver scheme. Over a 20 year period they would be around 8% higher.

It should be stressed though that these calculations are indicative only. They depend to a large extent on estimates of how much of the household sector's saving in KiwiSaver is truly additional saving, and is not saving that was previous being done through other means. We have used Treasury estimates which indicate that just under 40% of total household contributions to KiwiSaver are additional saving.

While the scenarios informed the SWG's discussions, they were not the only or main determinant of the SWG's views on KiwiSaver.

Should KiwiSaver be compulsory?

Overall, the SWG is comfortable with the nation's overall choices, made over an extended period of time, about the mix of mandatory and subsidised retirement schemes, although it believes that KiwiSaver could be modified to make it more effective. Even including KiwiSaver, New Zealand still has one of the smallest and least costly retirement savings programmes in the OECD. Nonetheless the Group is keen to see a move towards more of a SAYGO approach to funding retirement incomes. It is also plausible that KiwiSaver could be modified in a way that improves the overall quality of retirement saving portfolios. The SWG is of the view that:

• Membership of KiwiSaver remains voluntary. However, all employees over 18 who are not currently members of KiwiSaver should be automatically enrolled, with the ability to opt out within 2–8 weeks.
• Resumption of pre-funding NZ Superannuation, via the NZ Superannuation Fund, is highly desirable.

KiwiSaver is currently a tier 3 scheme, providing income in retirement that is additional to that provided by the compulsory scheme, NZ Superannuation. KiwiSaver is attractive for employees, and membership of the scheme has risen steadily since it was introduced.

Changing KiwiSaver to a compulsory scheme changes the nature and impact of the scheme. While a compulsory scheme will help some people to solve the two “saving problems” it will also create other problems for some people. It will force some people to invest in superannuation when they would rather invest in something else, like housing. This is the “portfolio cost”, mentioned earlier. It will also force people to save at times that may not be convenient for them (the “timing cost”). Both of these costs are likely to fall on young or low income people who are trying to establish themselves. They may be wanting to buy a car, house, to travel, to engage in further study, or buy/establish a business.

One possible way of trying to solve these problems may be to require only people who are aged say 40 or more to take part in the scheme. However, there are practical difficulties with this. Some people are still working to establish themselves at this age; having to contribute to KiwiSaver just because they have reached a certain age is not going to seem fair.

Keeping the required level of employee contributions at 2% keeps the barriers to entry at a low level. It makes it easier to convince people – especially low income earners – that they should be in the scheme.

KiwiSaver in its present form is a good mechanism for encouraging voluntary saving, instilling good savings habits, and potentially improving the quality of how people invest their savings. Many individuals probably view KiwiSaver as a trusted product, one that it is safe enough to put their voluntary savings into. It can therefore play a significant role in optimising, for individuals, the mix of compulsory and voluntary saving for retirement.

The auto-enrolment process proposed here is likely to result in a rise in KiwiSaver membership, and it will be interesting to see the effects of this. It is to be hoped that it will raise the level of participation to one that is closer to that a compulsory scheme, without imposing the costs on individuals that a compulsory scheme might do. Sticking with a voluntary approach to KiwiSaver right now does not preclude making the scheme compulsory at some time in the future. However, once a change is made to make the scheme compulsory, this change is likely to be irreversible.

Conclusions

The group recommends that membership of KiwiSaver should remain voluntary, but there should be some changes with a view to increasing participation. For example, all employees over 18 who are not currently members of KiwiSaver should be automatically enrolled, with the ability to opt out within 2–8 weeks (see below).