News and happenings from the Office of Hon Dr Michael Cullen July 2001 (2)

News and happenings from the Office of Hon Dr Michael Cullen

July 2001

The New Zealand Superannuation Bill

The New Zealand Superannuation Bill should be passed through all its
stages soon.

Part 1 of the Bill enshrines existing entitlements to provide universal
superannuation from 65 years of age at 65% of the average weekly wage for a
married couple.

Part 2 of the Bill deals with financing arrangements for the Fund which will
build up for around the next 25 years in order to smooth over the cost of
superannuation in the future. It will finally give superannuitants some
certainty about what the government will be able to provide for them and will
allow us to maintain a universal pension that guarantees a basic minimum
standard of living.

By requiring the government to set aside funds, it will ensure that these
long term cost pressures are taken into account in annual fiscal decisions.

Both National and the Greens have promised to retain the existing pension but
without saying how they will pay for it. That is irresponsible and utterly
lacking in credibility.

Labour and the Alliance believe that in order to secure New Zealand Super
during the transition to an older population structure, without placing an
unfair burden on the workers of the future, we have to begin putting money aside
now.

Today the net cost of NZ Super is 4 percent of GDP. By 2050, it will be 9
percent. We cannot afford to ignore the reality of this problem.

A window of opportunity
The baby-boom generation (people
born between World War II and 1965) are now in their 40s and 50s and are at the
peak of their earning power. This is the time to start putting money away for
their retirement.

New Zealand is now in a pattern of rising structural fiscal surpluses. This
means we are in the black, with spending being relatively low compared to the
tax take. This gives us a window of opportunity to start saving now to help pay
for the baby-boomers when they retire.

In recent decades New Zealand has not been able to run large surpluses. This
is mainly because past National governments ate into any surpluses as they
emerged with things like Think Big projects, SMPs and tax cuts.

How will the Fund work?

Right now we have a "pay as you go system", where NZS is paid out of the
government's current tax receipts.

The proposed Super Fund is similar to schemes used in Ireland and Canada and
is known as "smoothed pay as you go".

It is about creating an investment fund that will accumulate and invest
funds. These funds will be drawn on to add to the "pay as you go" system to help
pay NZS in the future.

Contributions to the Fund will be paid from general taxes. The amount put
aside each year will vary but will be sufficient to meet current NZS
payments and to make provision for future increases in NZS costs.

Between 2005 and 2010, it is estimated that the portion of the required
contribution rate associated with pre-funding costs will be 1.7- 1.8% of GDP and
surpluses are estimated to be greater than this.

The Fund's assets are projected to peak at around 50% of GDP sometime
between 2023 and 2029. The Fund balance would then fall gradually and approach
zero sometime late in the 21st Century.

Why not just pay off debt?
There are two reasons. One is
that a diversified fund will, over the timescale we are talking about, earn more
than the government will save by paying off debt. The second is that a dedicated
fund is both more demanding on contributions and easier to defend. Under the
scheme we have in front of Parliament, there is a formal calculation made about
what needs to be paid in each year to meet the costs of NZS over the next forty
years. If the government does not put that money in, it has to do two things:
explain why, and explain how it is going to get back on track.

Isn't this borrowing to save?
No. The Fund is built up from
transfers out of operating surpluses. Capital financing is driven by a range of
other, unrelated considerations. For example; the Crown takes on hospital
borrowing rather than having our hospitals borrow directly from the market, the
defence acquisition programme and the need to build new prisons.

The real question is whether the government is meeting its target of bringing
net crown debt to below 20% of GDP.

We are within that target with crown net debt at around 18 % and projected to
remain around that level in future years.

Why not just cut taxes and let Kiwis look after themselves in
retirement?
Tax cuts have not stimulated the economy in the past. Nor
have tax cuts encouraged New Zealanders to save for their own retirement.
Instead tax cuts have made New Zealanders more confident about taking on new
debt, pushing up private borrowing and the balance of payments deficit.

The Fund, on the other hand, will be available as a potential source of
investment in the productive sector through the New Zealand stock market. It
will also invest overseas and so the profits from those investments will be
returned to New Zealand. This will take pressure off the balance of payments.

What is National offering?

National promised the people of New Zealand a policy on superannuation if
they were not going to back the government's scheme.

Instead, all they have managed to deliver is yet another committee.

National wants to set up a 10 member NZ Superannuation Authority to be
responsible for overseeing the delivery of New Zealand Super.

This proposal is a cop-out to hide National's lack of a credible alternative
to the government's partial pre-payment scheme.

As well it exposes National's real agenda as the authority's primary task
would be to review all pension entitlements at least once every six years to
ensure the continuing medium-term sustainability and affordability of New
Zealand Superannuation.

This is fancy language for cuts to the pension.

What's the alternative to a Super Fund?
Like other developed
countries, New Zealand faces an ageing population. In the future there will be
fewer working age people for each retired person. More people than today will be
receiving NZS, which will lead to a significant increase in the costs,
associated with the pension.

If nothing is done, future governments will face four options:

• Cut retirement income entitlements dramatically.
• Raise taxes.
• Introduce harsh asset and income testings.
• Cut other spending programmes like health and education.

Who will look after the Super Fund?
We are now in the
process of appointing the nominating committee that will be responsible for
short-listing candidates for appointment to the Board of Guardians who will, in
turn, appoint the CEO and the fund managers.

The Board will be responsible for determining the investment strategy of the
Fund, allocating portfolios to fund managers to invest and monitoring the
performance of these portfolios.

If the Board makes investments that are not in the best interest of the Fund
or if members behave inappropriately with the Fund's assets, the Governor
General will be able to dismiss members of the Board.

Does the Super Fund mean that I do not need to save for my
retirement?
It is important that all New Zealanders save as much as
they can for their own comfort in retirement. New Zealand Superannuation is not
meant to replace personal savings. We will continue to consider policies on
other aspects of retirement provision, such as private saving, once the Bill has
been passed. The more you have saved yourself, the easier your retirement will
be.

How can we trust future governments not to raid the
Fund?
Similar schemes in the USA and Australia work and are protected
by the 'law of political gravity'. This means that as the funds grow, people can
clearly see where their pension for their old age will be coming from. This
expectation, along with the fund itself, becomes too strong a force to deny or
remove. In other words, no political party will be able to tamper with it once
it begins to build because it would be political suicide.

So it will be with the Super Fund.

The rule
of 7
Compound interest follows the rule of seven. A dollar invested today
will double in ten years time if it earns 7% a year. In 30 years that dollar
will be worth $8. That is $8 a future government will not have to find from
somewhere else.