The financial implications of sustainable pension reform
As is the case with other retirement insurance provisions around the globe, the Jordanian Social Security Corporation (JSSC) was established in 1980 to provide its participants with acceptable degrees of certainty regarding their future income after retirement. Without such a provision, workers will...
| Summary: | As is the case with other retirement insurance provisions around the globe, the Jordanian Social Security Corporation (JSSC) was established in 1980 to provide its participants with acceptable degrees of certainty regarding their future income after retirement. Without such a provision, workers will most likely underestimate and disregard the funds needed to finance their needs during old-age. The relative youthfulness of the scheme's members has allowed the accumulation of huge amounts of funds to the extent that they have already exceeded one quarter of the Jordanian national income. Although this is a key requirement from both the financial management and pension insurance perspectives, it has resulted in undesirable financial challenges to the system. The benefits awarded under most of the provisions provided by the JSSC have proved to be neither rationally designed, nor financially viable. These challenges, however, are scarcely recognised by the scheme's sponsors since the low scheme's dependency ratio helps the scheme to achieve financial surpluses and hence accumulate more funds. The moral hazard effect inherent in our argument provides no strong reason why policy makers with a short term perspective should think intensively and seriously about the long term financial viability of pension schemes. Most of the studies done on the JSSC were completely technical and confidential but none of them was even partially theoretical. The main concern of these studies is how to improve the medium-term financial viability of the scheme without giving the requested requisite attention to other insurance aspects. These studies have resulted in incessant recommendations and implementations of only minor changes to the scheme parameters, as a result of which uncertainty became the main character of the scheme. Frankly speaking, the major concern of the JSSC reforms was oriented towards increasing the level of future revenues and/or decreasing the level of expenditures regardless of the consequences on the members of different cohorts. Thus, the present study meets the necessity for a reform strategy based on a theoretical framework. Moreover, to my knowledge, this study is the first of its type for Jordan as well as for other Arabian countries. As regards the thesis’ specific interest, it attempts to answer two main questions: The first one particularly relates to JSSC and asks whether gradual transition to Fully Funded or Quasi Actuarial schemes could result in better insurance and financial conditions. The second question, on the other hand, is more theoretically oriented and has a general perspective. It inquires into whether all reform strategies (in Jordan or elsewhere) that imply a complete transition to a fully funded scheme could result in a better combination of financial viability, efficiency, adequacy of participants and intergenerational equity, or whether each scheme has its own specific criteria that constrain the extent of reform. As regards the first question, the analysis of the scheme’s overall future financial conditions shows that – extrapolating the status quo - long term financial viability is no longer warranted and that the system is likely to collapse 25 years from now. The deterioration of the system can be described as follows: After 2011, the system would start to experience a continuous deficit in its operating balance in which scheme operating (insurance plus administrative) expenditures could not entirely be covered by the insurance revenues. Five years later, the insurance revenues would not only fail to finance the operating expenses but they would even fail to cover the insurance expenditures. However, the deficit in the insurance balance could still be financed via the investment revenues generated by the scheme’s accumulated reserves until 2022. After that, the increase in aggregate deficit could still be financed through the gradual exhaustion of the scheme reserves until they are fully depleted by 2031. In order to deal with such an unwanted scenario, our study suggests a gradual age-based transition mechanism to a Quasi Actuarial system in which the transition cost is smoothly distributed across different cohorts and the principle of solidarity is implemented via an intra-generational distribution policy. Regarding the second question, our simulation finds that in the absence of external sources of finance, a shift towards the Quasi Actuarial system should always be considered in the reform agenda of partially funded pension schemes (JSSC among them). The sensitivity analysis suggests that the extent of disparity between the insurance and financial implications of a gradual transition mechanism to a fully funded system and the implications resulting from a switch to a Quasi Actuarial system depends mainly on the scheme-specific options. For instance, such a disparity diminishes with respect to a higher profitability level of the schemes’ reserves. Generally speaking, the future requirement of implementing structural reform strategies using more funded elements originates mainly from the schemes' specific characteristics. |
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