How Changing Demographics Impact Pensions

Changing demographics mean that without pension reform, the retirement benefits of current workers may not be guaranteed.

This is according to Moises Schwartz, Manager of the Institutions for Development Sector at the InterAmerican Development Bank (IDB) and co-editor of the recent publication, Economic Institutions for a Resilient Caribbean. He was speaking during the April edition of the Central Bank of Barbados’ Caribbean Economic Forum (CEF).

Schwartz explained that countries in the Caribbean use a pay-as-you go pension model, where the contributions of current workers are used to pay the pensions of retired people. As such, each generation is dependent on the other to pay it forward. He warned that this approach is only viable under certain circumstances. “Pay-as-you-go pension systems…are sustainable in countries with a high proportion of working people in the total population.”

However, Schwartz’s research with fellow IDB economist, Diether Beuermann, who was also on the CEF panel, revealed that people 65 and older will constitute 20 percent of the population of Caribbean countries by 2050, which will make the current model difficult to maintain.

A complicating factor is the shifting trends in how the current working-age population makes a living. “In Latin America, 50 percent of the economy is informal in the sense that they are not workers in a company where they are contributing to insurance schemes or NIS each month.”

The result is that as more people exit the workforce, pay-outs will increase, and with fewer workers contributing to insurance schemes, pension funds will be depleted.

Brian Wynter, former Governor of the Bank of Jamaica agreed that there is need for pension reform in the region, and shared some advice based on his experience. A key component of reform should be to encourage greater active participation from workers. “Very few employees in the workforce have a pension scheme in Jamaica, so I think creating the space and incentive for them to start to save for a pension is an important set of reforms.”

Wynter asserted, however, that in his opinion, the current lack of participation is not as a result of unwillingness but rather that financial constraints that can make it challenging for low income workers to participate. He believes this can be countered through flexible pension plans in approved retirement schemes. He also advocated for instruments that encourage pension investment and more education, as well as incentives to encourage employers to offer pension arrangements.

Beuermann suggested that policymakers draw from behavioural economics, which shows that people tend to defer to the default setting, to get workers to save more for retirement. If, for example, $500 is automatically deducted from a worker’s salary each month to go to a pension plan but he also has the option to increase that figure by $100, he is likely to keep saving the $500. But if the automatic deduction is $600 and the worker has the option to reduce it by $100, he is likely to keep saving $600. By using an opt-out instead of opt-in approach to retirement savings, Beuermann believes governments can get people to save more.

Other approaches to maintaining the viability of pension schemes such as increasing workers and employer’s contributions, delaying the age of retirement, and adjusting pension benefits for civil servants have been implemented the world over, and many are familiar to people in the region.

The pension conversation is relevant to Barbados, which like other countries in the region relies on the pay-as-you-go model and as such will need to look at pension reform. Indeed, following the International Monetary Fund’s (IMF) most recent visit to Barbados, team leader Bert Van Selm confirmed such discussions are already in progress: “An actuarial review of the civil service pension system was completed in November 2020, providing the basis for upcoming public pension reform.”