Interest rates and retirement funds

Saturday, 28 November 2020 00:00 - - {{hitsCtrl.values.hits}}

The Central Bank this week continued its push to reduce interest rates, creating more pressure for senior citizens who depend on interest rate incomes from their savings to live on. The debate over interest rates and their impact on Sri Lanka’s elderly is a long-ranging one, with successive governments giving them preferential interest rates to ease the blow. But with a rapidly-ageing population, it is clear that Sri Lanka’s pension system needs overhaul and new products need to be introduced to the market to reach the most vulnerable.

As much as Rs. 1 trillion is spent annually on pensions, allowances and support payments to senior citizens. This multiplied across decades is a serious cost to bear. Public servants do not contribute for their pensions and this is one reason why public sector jobs are highly sought after but it is also one of the reasons why the public sector is underproductive.

According to World Bank estimates, by 2030, one in every five Sri Lankans will be over the age of 60. This means that each family could well have more than one retired person. With fewer younger people to support a larger ageing population, it is essential to have income security for the elderly to ensure they remain independent and have access to a decent quality of life.

Over the next few years, of the 20 million, the number of working people will shrink to eight million or lower, according to Government data. Of those, only 2.3 million workers were enrolled in a pension scheme. Even then all enrolled were not effectively covered.

Only the public sector pension scheme covers the total eligible population. This is also one reason why State employment is so sought after but whether this pension keeps pace with inflation remains a concern. The estimated coverage for other pension schemes fluctuates between 18% for the self-employed pension schemes to 64% for the farmers’ pension scheme. However, the effective coverage is estimated to be much less, possibly as little as 11% for the self-employed and 38% for farmers due to non-payment of dues in the contributory programs. Only an estimated 1.7 million were effectively covered by some kind of pension scheme

The pension burden becomes even more daunting when the health costs of an ageing population are factored in. Pensions are one area that need urgent reform to allow equitable treatment for public and private sectors so that merit-based systems are created to link pensions to productivity and retirement planning broadened so reliance on tax payer-funded pensions are reduced.

Unfortunately, all informal sector pension programs define benefits in nominal terms. The real value of these benefit amounts will be much less when the pensions are received. This is why whenever interest rates reduce there is pressure on the Government to give preferential interest rates or prevent interest rates falling lower. Unfortunately this creates market anomalies and given the seriousness of COVID-19, lower interest rates are a critical instrument the Government has in its arsenal to help turnaround growth.

It is therefore imperative that reforms are introduced to diversify pension schemes and bring in new products by the financial and insurance sectors, perhaps to even establish separate pension funds that operate transparently, so the reliance of senior citizens on interest rates is reduced.