How to plug the pension fund hole in treasury

If growth in the assets of the Public Investment Commissioners (PIC), which manages public sector pension funds, continues at more than 16,5% a year, it will completely dominate the South African economy in the next 12 years, to the detriment of social spending.

”If growth is to be halted, there are a number of options,” says Gavan Duffy of the Alternative Information and Development Centre. ”The government could stop contributions or forego interest income. Either option would increase government revenue by R20-billion a year.

”Government could save face if the fund is capped and the flow of additional finance is turned to social spending. The taxpayer will be left with a bundle of assets generated from a unique historical accident.”

The other option would be to liquidate the PIC and return to pay-as-you-go. The stock of government bonds could be cancelled and the shares gradually sold off.

PIC assets match around two-thirds of government debt. Liquidation would reduce debt and interest payments by the same proportion. National debt would fall to R200-billion from R500-billion and interest payments would drop to R17-million a year from R50-million.

Eric Potgieter, of Fifth Quadrant actuarial consultants, says the issue of unfunded liabilities is a red herring: ”Why is there a need to focus on an unfunded liability that arises out of a government promise to pay pensioners? Why is there no talk about the unfunded liabilities that arise out of government promises to pay for salaries, education and health care?

”Personally, I can see some merit in moving to a system of partial funding. In principle, there is no reason why this cannot happen.”

Internationally, such debates have been raging over the past 10 years. In the major industrial countries, defined-benefit pay-as-you-go pension systems, which are the norm in most countries, have come under pressure because of demographic shocks. Pensioners are living longer and fertility rates have declined. There are fewer workers and more pensioners. This has resulted in some countries moving towards partially funded pension systems.

It is, however, now accepted that pre-funded pension schemes are not insulated from demographic shocks, as was initially believed. All pension schemes are exposed to economic, demographic and political risks. Pre-funding exposes pensioners to management and investments risks, unlike pay-as-you-go. In an inflationary environment, pre-funding cannot protect pensioners from the erosion of purchasing power. Pay-as-you-go copes better when there is high inflation.

A more fundamental debate questions the rationale for pre-funding, which is believed to be more appropriate in the case of private companies that can go bankrupt.

Nicholas Barr, the author of an International Monetary Fund (IMF) paper entitled Reforming Pensions: Myths, Truths and Policy Choices, points out that a country never dies.

”A country does not have to anticipate a time when production will cease. The fact that countries are immortal is central: from an economic perspective it makes pre-funding unnecessary unless it has a positive impact on output.”

In another IMF paper entitled Should Public Pensions be Funded?, Richard Hemming says it could be argued that a sustainable pay-as-you-go scheme cannot by definition result in an unfunded liability, since the nature of the contract is that future contributions will be set to cover future pension payments. Barr says: ”If there is never any need to repay the debt, the gains from paying it are not obvious. This is the case with a sustainable pay-as-you-go scheme.”

Both authors say an unfunded pay-as-you-go liability is distinct from public debt because it is difficult to measure with precision.

Treating implicit liabilities as if they were explicit may result in their being overestimated because the government can, at any time, change the terms of its promise to pensioners, thus reducing the liabilities.

They point out that there are many ways to fix an unsustainable pay-as-you-go scheme that cost less than a switch to pre-funding.

The most important variable is economic growth, which can even solve an ageing crisis. In the South African context, the lesson is that increasing economic growth now, triggered by releasing assets from the PIC, and therefore the Gepf, would increase the security of the public-sector pensioners by the ratio of pension payments to GDP.

Duma Gqubule is a Johannesburg-based black economic empowerment analyst and journalist

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Duma Gqubule
Duma Gqubule is founding director at the Centre for Economic Development and Transformation

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