Crucial reforms in public pensions are inevitable

Declining fertility and increasing longevity over the coming decades will profoundly change the population age distribution in many countries, albeit at different paces. The fiscal consequences of this demographic transition can be pretty significant. Malta is sure to be one of the most affected in the EU.

The expected demographic shifts and the design of pension systems will influence future national saving. National saving — the sum of public and private saving in a country — is of course the main source of financing for domestic investment, even if one takes into account capital transfers from one country to another. It also plays a crucial shock-absorbing role, with implications for growth and economic stability.

Moreover, in countries with ageing populations, national saving is important to bolster retirement security as well as allow workers to more easily bear the costs of financing pension programmes while maintaining their living standards.

In recent decades, Europeans have generally been having fewer children, and this pattern partly explains the slowdown in the EU’s population growth. In the EU, the total fertility rate, that is the mean number of children born alive to a woman during her lifetime, was 1.53 live births in 2019. This was up from a low of 1.43 in 2001, though down from a relative high of 1.57 in 2010. But, by contrast, Malta’s fertility rate in 2019 was 1.14 live births per woman, down from 1.45 in 2011 but even lower than the 1.48 in 2001. 

Malta’s fertility rate in 2019 was 1.14 live births per woman, down from 1.45 in 2011 and 1.48 in 2001. 

Now, a total fertility rate of around 2.1 live births per woman is considered to be the replacement level in developed countries: in other words, the average number of live births per woman required to keep the population size constant in the absence of migration.

A total fertility rate below 1.3 live births per woman is often referred to as ‘lowest-low fertility’.  So, Malta’s rate is 14%worse than the lowest-low.

The factors that drive a decline in fertility could be various: socio-economic incentives to delay childbearing; a drop in the desired number of children; and institutional factors, such as labour market rigidities, lack of child care, and changing gender roles.  

Though these factors will have played a part in Malta’s decline since 2001, certain reforms undertaken by the Labour Governments since 2013 should in theory now be playing a positive role. The provision of free child care and improvements in children’s allowances are certainly some of them, though some labour market rigidities still exist. But it is too early to say whether they are having a healthy effect on the fertility rate.

To complicate the picture, Malta ─ like many other advanced market economies ─ is facing a rapid, unprecedented ageing of its population, exacerbated by rising life expectancy.

The median age of the population has risen from 36.7 years in 2001 to 39.8 in 2020, though our median is one of the lowest in the EU. Life expectancy has increased from 78.5 years in 2000 to 82.6 years in 2020, the highest in the EU. The old age dependency ratio has grown by 9% to 27.1% in 2020.

As to the future, life expectancy at birth is expected to rise by over six years to reach 86.8 for men and 90.6 years for women in 2070, while life expectancy at 65 years is projected to increase by some 4.5 years for both. Old-age dependency is projected to rise sharply to some 62.4% percent, the effects being compounded by the fact that the share of the population that will bear the financial ‘burden’ of the elderly will fall from 63% to 52% by 2070.

Projections over a long period of time are, of course, susceptible to variations in the factors that come into play, such as changes in participation in the labour force, net migration, labour intensity, and the age at which people exit the labour force. 

The evolution of these factors is very much influenced by government policies, such as changes in the pensionable age, incentives to continue working beyond retirement, and the link between the period of social security contributions and life expectancy.

What does this mean for the sustainability of the system? 

Again, the Commission is projecting that the replacement rate at retirement (i.e. the percentage of a worker’s pre-retirement income that is paid out by the public pension programme after the worker retires) will increase by 8.7 percentage points to 57.1% by 2070, whereas the coverage for old-age earnings (i.e. the percentage of earnings having to be paid out of the public purse) will increase by some 14 percentage points over the same period.

As a result, the dependency of pensioners on the public pension system will double to some 72%.

Malta’s Pensions Working Group, in its latest report in 2020, projected that the current positive balance of some two percentage points between pension spending and revenues will tip into a negative balance in 2052 and increase progressively to a gap of three percentage points by 2070. Although this is an improvement on the previous model in 2015, it is obvious that action needs to be taken.

Unfortunately, previous Nationalist governments lacked the courage to address the shortcomings identified by the technical experts. It made some reforms in 2004, ignoring most of the recommendations.

An even worse outcome was the 2010 review of the pensions system, where the government implemented a mere two out of 50 recommendations.

Unfortunately, previous Nationalist governments lacked the courage to address the shortcomings identified by the technical experts.

The Labour Government of 2013 was much more businesslike. It implemented 17 out of 25 recommendations made in the PWG’s 2015 report, on top of which it also implemented some 35 reforms outside the technical review. These underpin the work of the PWG in its 2020 Report, where the group identified some 20 principles which should guide policy-making on the future of the pensions system in Malta.

The way forward

There is no doubt that population ageing and a dwindling working age population will place significant pressure on the public pension system, eroding public savings. This is because more pensioners will receive benefits while fewer people will work and contribute to the system through taxes. The worst effects of an inadequate system will, inevitably, be felt most by low-income pensioners. Income inequality, especially gender ones, could become more pronounced. So could old-age poverty or social exclusion, especially the depth of poverty.

Some relatively easy remedies, such as automatic enrolment in opt-out private pension savings schemes, which have proven very effective in other countries, could be introduced without delay. Failing the introduction of second-pillar pensions, boosting private saving through third-pillar pensions is crucial. Some progress has already been made here, but it is nowhere near enough.

It is therefore imperative that, immediately after the next general election, the Government, Parliament, and the Social Partners should take up the cudgel and start discussing the future of the pension system in Malta.   

There is a crucial and compelling need to transform the system with long-term vision to ensure its sustainability, balance, efficiency and respect for solidarity between generations.

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