Chile’s hot pensions model for Britain
By Bill Jamieson
(The Sunday Telegraph, January 28, 1996)
“A great failure haunts the world. It is the failure of state run pensions systems. They are rooted in a fundamental flaw: a false conception of how human beings behave”. The words are those of a man who knows more than any about this flaw and, more important, about how to correct it: Dr. José Piñera, former minister of Labour and Social Welfare in Chile and the founder of the country’s privatised pension system.
Piñera is one of the hottest properties in global economics. To meet him in his office here in Santiago was an experience equivalent to having a dynamite charge through notions of the electoral untouchability of pensions reform.
The “Chilean model”, now entering its sixteenth year, has proved a huge popular success. Nine out of 10 of Chile’s working population have individual pension accounts –complete with an account book that is computer updated every month.
The Chilean model is more relevant to Britain than that of Singapore, first because the pension fund money is free of state control and second, because workers can choose from more than 21 competing fund management groups. In the Santiago subway huge posters display the investment performance of the Administradoras de Fondos de Pensiones or AFPs. Some are trade union run or sponsored.
“This, says Piñera, waving his personal passbook in the air, “is what 21st. century socialism should advocate. In Britain, I believe only Tony Blair or John Redwood would have the courage to introduce it. It is the ultimate empowerment of workers. You give people control of their money in old age. It is the system that will spread round the world –replacing the failed Bismarkian welfare”.
Chile introduce radical pension reform in 1980 to replace a state run pension system that was bust. Workers now pay no social security tax to the state. Instead, 10 per cent of pay is deducted automatically each month and credited to an individual investment account. The AFPs are subject to strict regulation to guarantee a diversified and low-risk portfolio.
After 15 years, pensions are already between 50 and 100 per cent higher than they were in the old system. The mandatory savings levels provide a pension equivalent to 70 per cent of final salary. Additional voluntary contributions can be made into the account, taking the total up to 20 per cent of salary. This personal account is free of all taxes –income, capital gains and inheritance—and benefits paid out are tax free.
For supporters of liberal economics, the Chilean model is a showcase for freedom of choice and individual responsibility –people save more in their individual accounts than they would ever agree to paying in social security or income tax.
But for Blair’s New Labour, the macro-economic benefits will have enormous appeal. The total now saved in individual accounts is more than $25bn. equivalent to 40 per cent of Chile’s gross national product. This has liberated the economy here from dependence on capital influence –hot money—and helped Chile to ride out the “Tequila Wave” last year.
The Chilean savings rate has shot to 26 per cent of GDP, providing a huge domestic pool of capital for long-term investment and infrastructure spending on a scale Gordon Brown could only dream of. Pension reform has been a key contributor to a growth rate here that has averaged 6-4 per cent during the past 12 years and pushed unemployment down to 5-5 per cent.
The system is not without its flaws. The head of supervision, Julio Bustamante, tells me of his continuing battles to bear down on charges and commissions –a theme familiar to regulators in Britain.
More serious is the excited expectation that early success has brought. Last year fund values, reflecting the downturn in the local stockmarket fell by 2-5 per cent, compared with an average annual 15 year grain of 13 per cent. Chile is no longer an emerging market –it is maturing fast and asset values are more likely to perform in line with those of mature economies. It is likely that the fund management groups will be allowed to increase the amount they can invest in overseas markets.
Piñera, one of the most engaging economists it has been my privilege to meet, is advising Spain on how to adopt this model, and will visit London in the spring.
He is the pension world’s equivalent of José Carreras or Plácido Domingo. Grab, beg, borrow or steal a ticket to hear him speak.
From this man, and this scheme Britain has much to learn.