Dialogue: Debate on super far from finished

By BRIAN FALLOW

The New Zealand Superannuation Bill, locking in present entitlements and setting up a partial prefunding scheme, returns to Parliament next week.

It has the numbers to become law, but not the broad partisan support to deliver the stability and consensus people have long desired in this area.

The superannuation debate will continue.

That may be an ineradicable fact of political life, National's finance spokesman Bill English suggested this week, when outlining his party's grounds for opposing the scheme.

Even when there is a net outflow of funds from the scheme, which does not happen until 2025, it will contribute only a small fraction of the cost of the state pension - 14 per cent at the peak, 10 per cent on average - Mr English said.

As long as the taxpayers of the day are funding most of the cost of national superannuation, future Parliaments will have something to say about it.

Certainty, however longed for, is a mirage.

Although National finds fault with the scheme on several scores, the main one seems to be the opportunity cost.

Prefunding would require about $2 billion a year of Government revenue, in today's dollars, and every dollar which goes into the fund is a dollar that is not available for the Government to spend on anything else, or use to reduce its debt or forgo by way of tax cuts or tax breaks.

It will put upward pressure on tax rates and downward pressure on economic growth rates, Mr English contends.

Superannuation policy is not, however, something that everyone else has sorted out except New Zealand.

At a symposium organised by the office of the retirement commissioner last week, keynote speaker John Rust said that for a long time social security in the United States was so popular it was regarded as the "third rail" of politics - a reference to the electrified third rail of a subway system, touch it and you die.

But with an ageing population and an increasing belief among the young that it will not be there for them, it was losing that status and people were talking about alternatives, said Professor Rust, a Yale economist and adviser to the Social Security Administration.

"As the fertility rate has dropped tax rates have had to be raised, so it becomes a worse deal for the young. The internal rate of return [on the taxpayer's contributions] has fallen to 2 per cent for average wage earners and for high earners it is negative."

Adding prefunding to a pay-as-you-go scheme takes you a lot of the way towards a better scheme, Professor Rust said. "It's the simple logic of compound interest."

But he likes the Australian system better, with a basic pension benefit and individual accounts on top.

"With a system of individual accounts it doesn't look like a tax any more. You get less distortion to the labour supply and more individual savings."

That the level of private retirement savings is too low is not seriously in doubt.

The recent survey of living standards of older New Zealanders found a median level of non-housing net worth of only $7500 for single people and $37,500 for couples.

Half of the single retired and 46 per cent of couples reported that their incomes were not enough or barely enough to meet day-to-day living costs.

Individual accounts may be less subject to political risk, Professor Rust said.

"Once individuals have their retirement accounts, with their own funds attached to their own name, it becomes increasingly likely these would be treated legally as the individual's property.

"This is likely to severely limit politicians' ability to renege on promises ... " he said.

"Individual accounts provide a higher level of discretion and control to the individual investor, at least earlier in the life cycle, sufficiently far away from the planned retirement date, and allows all income classes access to the potential benefits of investing in equity markets."

On the other hand, that carries the risk that unsophisticated investors might engage in unprofitable speculation.

An individual accounts scheme would be more complex to administer, Professor Rust said.

"They involve a large number of auxiliary decisions about whether private firms will be allowed to compete to manage individual retirement portfolios.

"There are important decisions to be made about what fractions can be cashed out at various ages, if annuitisation of the remainder should be made mandatory, and whether contributions should be discretionary or mandatory, whether supplementary contributions should be allowed and what the tax treatment of contributions and benefit payments should be."

Mr English said that although National was still months from formulating its own superannuation policy, its thinking was focusing on individual accounts and tax incentives.

One version of what a tax incentive might look like was outlined to last Friday's symposium by Australian actuary David Knox of PricewaterhouseCoopers in Melbourne.

It is a rebate for superannuation contributions, linked to the age of the contributor.

The idea is to target the incentive most on the young, on the twin grounds that theirs is the behaviour most in need of changing, and they have most to gain from the "magic of compound interest."

He suggests a rebate of 21 per cent of the contributions paid by those under the age of 35, 14 per cent for those between 35 and 45 and 7 per cent for those aged 45 to 55.

A further level of targeting, intended to limit the windfall benefit to those who are saving plenty already, would cap the amount of qualifying contributions at say $4000 a year.

Such a scheme would be fiscally positive, Dr Knox argued. He crunched the numbers for a 20-year-old contributing 4 per cent of his income to superannuation, assuming the fund earned 8 per cent and his salary rose 5 per cent a year.

At a discount rate of 6 per cent a year in present value terms the value of the rebate is $4500. But that cost has to be compared with the present value of the tax on the earnings of those savings through to the age of 60, which is around $16,000.

Even if you assume that half of that saving would have occurred anyway, the extra tax on fund earnings would still be $8000.

Dr Knox suggests that such a scheme should require funds to be locked in until at least age 60. Another condition would be that at least half of the payout be taken as a pension rather than a lump sum.

"In addition there could also be an opportunity for some catch-up over a period of years for those who have been out of the workforce.

"For instance one could review the last five-year period and permit people to contribute an extra 50 per cent if they have not been contributing at the maximum rate in recent years."

Ross McEwan, chief executive of AXA New Zealand, was sceptical about such a scheme.

"I'm not sure there aren't human rights issues about having different [rebate] rates based on age."

To target the young was all well and good, but they were often saving for a house, starting a family and paying off student debt.

The rebate could also put a false ceiling on savings. Business Roundtable executive director Roger Kerr was also unenthusiastic.

A string of studies had reached the consistent conclusion that incentives do not increase total savings, just introduce distortions into where those savings go, he said, citing the Todd taskforce, the period reporting group, the super 2000 task force and the McLeod tax review.

The fiscal costs of tax incentives were high, he said. "An average taxpayer on $26,000 contributing 10 per cent of income and getting 14 per cent of that rebated would get $364 a year in rebate.

"But that would still cost a cool $1 billion a year."