Michael Cullen’s solution to the superannuation problem

Press, 1 April 1989, Page 20

Michael Cullen’s solution to the superannuation problem

Pattrick Smellie, in Wellington, reports on an urgent dilemma

AN IRONIC full circle of sorts is about to take place in the superannuation arena.

In the 15 years since Mr Roger Douglas’s ill-fated compulsory contribution scheme was introduced, there have been 34 major changes to superannuation policy. The most significant were the almost immediate abolition of the Douglas scheme to be replaced by national superannuation by the incoming Muldoon administration in 1976, and the changes to the tax regime for private superannuation announced in Mr Douglas’s tax package of December 17, 1987. Now the Government appears to be heading back towards a new form of compulsory contributions scheme, albeit with potential for private-sector input this time. Submissions closed yesterday on a discussion document outlining five options for future policy. But the decision has probably already been made. The Minister of Social Welfare, Dr Cullen, has made enough speeches personally backing a compulsory contributions scheme — the so-called “Option 5” — for its introduction to be at very least a strong likelihood. The scheme would provide a pension based on contributions over a person’s working life, with a means-tested top-up for people who made little or no contribution. Employers could also have to contribute. Legislation is planned to be passed before the end of this year, but not implemented till after the 1990 election.

In other words, what the Government may be doing is turning next year’s election into a referendum on superannuation. So what has changed to make Labour more sure now that it can win with such a policy, when the similar Douglas scheme was such a godsend to the National Party in the 1975 election campaign? Chiefly, that apart from a small, diehard bunch of current superannuitants who won’t be affected by the problems of an ageing population next century, almost no-one believes the existing national super scheme can go on as it is. Whichever way you look at it, the cost of the current scheme is enormous now, taking two-thirds of total social welfare spending, and it can only get greater if it remains unchanged.

Moreover, unless there is a huge influx of immigrants, the number of people working to pay for the scheme against the number of superannuitants is going to shrink dramatically. The super issue must finally start to be appreciated more widely than simply by the elderly. It is today’s “babyboomers” whose futures are at stake.

A 30-year-old today will retire in the early 20205. The longer nationwide superannuation issues go unresolved, the more difficult it will become for that person to enjoy a standard of living comparable to today’s superannuitants. That is only reinforced by the recent abolition of tax incentives for retirement saving. By 2030, the numbers of elderly people will have doubled from present levels. And by as early as 2020, the elderly will represent around 23 per cent of the total population against 15 per cent this year.

Meanwhile, the working-age population will have shrunk around 2 per cent to 60.3 per

cent, and the proportion of young people will be down by about as much as old people are up — from 22.3 per cent to 16.5 per cent in the early 20205. The number of people over 80 is also expected to increase substantially, with corresponding increases in the costs of their care and their requirements for long term income.

Clearly the time has long passed for procrastinating about superannuation. It is time to do something long-term and sustainable to produce security of income in old age. Moreover, Dr Cullen appears to believe that he can make his compulsory contributions option into a political winner, as well as a much-needed binding force between the Labour Party and the Government. A historian by trade, he no doubt also sees a place in history for himself if he can get the formula right. In a recent speech, he talked of solving the superannuation riddle as fulfilling a “Labour dream.” Unfortunately, the options are expensive for the current working generation, whatever the Government decides to do. The hard fact is that workers cannot get out of paying for the superannuation of people currently over 60, and they can’t get out of providing for their own retirement incomes as the generation currently receiving national super has effectively been allowed to do. Instead, they will be taxed now both for unaffordable past policies, and taxed again under the compulsory scheme to build up the funds to help support themselves. Making the situation more difficult is the complete removal of tax incentives for people to save

for their old age. It is here that the crucial economic and political issues lie. On the economic front are the arguments involving the effectiveness of tax incentives in individual provision of retirement income, and the effect of not having them on long-term investment. Important also is the effect of Government-directed superannuation funds on investment patterns in New Zealand.

How would it change people’s investment behaviour if they had to put money into Governmentapproved super schemes? Could they afford to save enough, without tax incentives?

The superannuation industry calculates that a 25 year old would need to save 12.8 per cent of their life’s income to have a retirement income equal to 70 per cent of that income. That figure more than doubles when tax incentives are removed, to 27.7 per cent, by industry calculations. The Government says contributions for 40 years at 15 per cent of average income would be needed to provide income equal to current national super payouts — hardly a handsome lifestyle. National Mutual superannuation advisers concluded in a recent publication that “even if people do save, it will be impossible for most to save enough to support themselves with dignity in retirement.” For example, it remains to be seen how the Government would overcome such a huge commitment to any young working family buying a house at current prices and interest rates. Many a household budget could be blown away. And while the new tax regime offers a tax-free income at life’s

end when the pension is paid out, critics argue people need the extra income more when they are younger and have more varied commitments. While the Government’s final proposals are in the melting pot, there is also the short-term issue of the effect removing incentives has had on new and long-term investment in New Zealand.

Long-term productive investment should be the most profitable use of funds over time. But the combination of high interest rates, the collapse of demand for urban commercial property, and unresolved Government policy has stifled new investment over the last 18 months.

Yet super and life insurance funds hold sufficient resources to be major players in any economic upturn. On the political front is the ongoing shadow boxing between the two main parties, with one always seeming to be offering a bipartisan approach while the other is in the mood to reject it. There are civil rights issues too in the concept of a forced contributory scheme, as well as that hardy perennial — whether entitlement to superannuation should be means-tested.

The superannuation industry believes New Zealanders would rebel against a compulsory scheme. They would prefer a return to more tightly regulated tax incentives, arguing every other O.E.C.D. country uses the tax system this way. Abuse in the past was caused not by the incentives, but by the fact that super schemes could be cashed up before retirement for tax advantages. Remove that anomaly, and incentives would work, they say. But the fact

remains that incentives weren't getting enough people to save for their old age, anyway. The Government and the industry bandy a lot over who got the advantage of the benefits. Certainly, the majority of those claiming deductions were earning less than $30,000. But the vast majority of the value of that benefit was going to high income earners. Low-income earners subsidised the wealthy through general taxation under the old incentives. And most low-income earners were not providing for their old age, simply because of its high cost. The effectiveness of tax breaks in generating additional national savings is also arguable in pure economics. But they are missed by the public and the superannuation industry alike, and they remain a key plank in the National Party’s super policy. In fact, about the only things National and Labour agree on is that the age of entitlement should be raised to 65. It seems likely, too, that neither would argue long-term for allowing taxpayer-funded pensions to be paid to people still working after the age of entitlement. And while the surtax on national super will probably be abolished eventually — like land tax it only stays in place because the money is needed for the deficit — the Government appears locked into a commitment to no special tax treatment for super savings. An independent superannuation expert, Ms Susan St John, recently argued that the Government should unshackle itself from that. Her suggested solution to the super dilemma would be closer targeting of national super to those in need, better designed tax incentives, with on-going annual pensions rather than lump sum options, and highly portable schemes. Nonetheless, she acknowledges targeting disadvantages low and middle-income earners by penalising them if they save, by removing equal portions of their State-funded entitlement — a problem which also exists under Option 5. She predicts Option 5 would be very complex to administer, and may not achieve much more than has been achieved already. Most telling is her prognosis for the future, whatever policy is adopted. In a recent radio interview, she said: “The real issue is that workers in the future with a growing aged population have to abstain from consuming, so that the growing retired population can have their current output such as food, hair-cuts, and lawnmowing, and travel and medical expenses, and that extension is the thing that’s important. "If they don’t, then there may end up being far too many claims on diminished output and, traditionally, inflation has been the way that output is shared. “We either levy higher taxes to pay for pensions or we make people pay higher compulsory or voluntary contributions to super schemes,” she said. “That’s where the abstention comes in, but the real issue doesn’t go away because you do one or the other.

"One may be more visible, the other may be more painful.”