Australia’s retirement savings system ranked world number three

Strategies

David Barrett
Friday 23 October 2015

The Australian Centre for Financial Studies (ACFS) and Mercer released the 2015 edition of the Melbourne Mercer Global Pension Index (MMGPI) on 19 October 2015. In the overall ranking, which includes measures of adequacy, sustainability and integrity, the Australian retirement saving system was awarded a score of 79.6, which is third worldwide behind Denmark (81.7) and Netherlands (80.5).

Although the Australian system is much maligned locally for a number of reasons, this world ranking puts some objective perspective on how our system compares globally

Although the Australian system is much maligned locally for a number of reasons, this world ranking puts some objective perspective on how our system compares globally, and paints a very positive picture. The MMGPI grades 25 retirement income systems into categories ranging from A to E. The Australian score of 79.6 results in a B+ categorisation, slightly outside the A grade rating associated with a score of 80 or more – only the Danish and Dutch systems have been rated A grade in the seven year history of the index.

Australians can be proud of their retirement income system, without being complacent. There are many very positive aspects, including that it was rated number one worldwide in terms of adequacy (see below), but there are also a number of areas for possible improvement.

Australia number one for adequacy

The Australian retirement income system was ranked number one in the 2015 MMGPI adequacy sub-index with a score of 81.2. Adequacy encompasses the level of base retirement income provided (e.g. in the Australian context, the age pension safety net) and the level of replacement income in retirement for median-income earners. More specifically with regard to replacement income, the following six factors of a country’s private pension system are assessed:

  1. The level of tax incentives for making voluntary contributions and on investment earnings, compared to savings in a bank account
  2. The minimum access age (preservation age)
  3. Vesting and portability issues upon change of employment
  4. Compulsion to take a specified percentage of retirement benefits as an income stream
  5. The ability to account for retirement savings in divorce/separation arrangements
  6. Continuity of contributions when temporarily out of the workforce

In addition, the long term investment return is considered, by reference to the level of exposure to growth assets, as well as non-retirement savings schemes and non-financial support generally for the elderly.

The Australian system scored the maximum (10) for the net replacement rate for median-income earners, vesting and portability upon change of employment and divorce/separation arrangements. It scored more than eight for the minimum access age and the proportion of total assets invested in growth assets.

However, the system scored poorly on the proportion of retirement benefits required to be taken as an income stream (2.0) and the continuity of contributions when temporarily out of the workforce (5.0).

Sustainability

The sustainability of retirement income systems globally is of particular concern given ageing population issues and the level of government debt in some countries. The sustainability sub-index of the MMGPI is based on the following indicators:

  1. The proportion of the working age population with membership of a private pension plan
  2. Level of total pension assets as a percentage of GDP
  3. Number of years in retirement, based on life expectancy (now and in 2035), the state pension age, the projected dependency ratio in 2035 and fertility rates
  4. Level of mandatory contributions to retirement savings, as a percentage of wages
  5. Labour force participation rate in 55-64 age range
  6. Level of adjusted government debt as a percentage of GDP
  7. Transition to retirement benefit access and flexibility to continue to contribute

The Australian system scored 72.1, and ranked fourth overall. It scored the maximum (10) in the transition to retirement and flexibility to continue to contribute category, and more than 7.5 for indicators 1 (8.9), 4 (7.9) and 6 (7.7) above.

Its poorest result (5.7) in this sub-index was for indicator 3 above (number of years in retirement, etc), which would be improved by regular increases in the age pension age as life expectancy increases.

Integrity

The integrity of a retirement income system is crucial in gaining individuals’ confidence, which is especially important for the success of the private pension sector within that retirement income system. The MMGPI integrity sub-index measures three broad areas: regulation and governance, protection and communication, and costs, with particular focus on the private pension sector.

Overall the Australian system scored 87.6, which ranked third world-wide. It was awarded the maximum score (10) in the following categories:

  • Regulatory approval and supervision of private pension plans, and a separate legal entity requirement
  • Requirement of private pension trustees to prepare policies for investment, risk management and conflicts of interest
  • Personal requirements of private pension trustees set by the regulator and professional auditing of financial accounts
  • Minimum funding, deficit funding and asset backing of defined benefit schemes
  • Limits on in-house assets of private pension plans
  • Information requirements for new members
  • Members’ access to a complaints tribunal

The Australian system scored poorly on:

  • protection/reimbursement due to fraud/mismanagement and credit ranking of unpaid employer contributions upon insolvency/bankruptcy (5.0)
  • costs, as measured by the concentration of pension fund providers (5.7)

Summary

Many financial services professionals will have encountered clients who are cynical about Australia’s superannuation system. The Melbourne Mercer Global Index demonstrates that our retirement income system is very good on a world scale, almost ‘A grade’. However, the MMGPI also demonstrates there are still areas worthy of improvement, and lays down some challenges for the country’s legislators.

..our retirement income system is very good on a world scale, almost ‘A grade’

Financial services professionals can use this index to create a sense of pride in their clients – the MMGPI demonstrates that there is much to be proud of in the Australian superannuation system!

References:

Melbourne Mercer Global Index 2015

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