MAY THE COUNTRIES BE OF THE ELDERLY, RATHER THAN THE POOR

Imagine a world in which the majority of the population is old. Not only are they old, but also they are poor. Similarly, people have very few children and the population under 60 years old makes up less than half of the global population, consequently they cannot support their family elders who outnumber them. Certainly, the world is now experiencing the burden of development, which after all this time has caused the worlds demographic pyramid to change. Nowadays, life expectancy is higher thanks to the advancements in technology, medicine, and sanitation, death rates on older population have dropped as well, which means the top of the demographic pyramid is getting wider. The bottom of this pyramid, however, is getting narrow: people are having fewer children. This change in the pyramid is causing an aging of the global population, which has begun to create a huge problem for social services: the pension schemes on which they are based are no longer sustainable. Additionally, people have not changed their ways of living; they spend the same number of years working as their ancestors did, but live longer, which means the proportion of their lives spent as pensioners increases. Thus, the way things were made years ago is not working anymore. All in all, social services are based on two different types of pension schemes: definedcontribution and definedbenefit. The former are based on specific contributions by the employer and employee to a personal account for the employee. The problem with it is that the employees benefits are invested and the outcome may be big, small or even negative, depending on the amount of contributions and how good the investment is, therefore, the benefits are not guaranteed. The latter are linked to the employees salary. They promise an exact monthly benefit when the employee retires. Besides that, there are monthly contributions of a percentage of the employees salary, which go into a collective fund, which is exactly the problem. More importantly, social services use the contributions made by the economically

active population to pay the retired peoples pensions. Using the current contributions to pay pensions will be no longer possible because the elders will outnumber the young, thus, making the schemes no longer sustainable. Working hard for entire decades will not guarantee anyone a comfortable retirement anymore, unless something is changed. If this problem is not addressed correctly the results might be highly risky, for the aging population of the world will spend their elder years in poverty. At this level, countries must increase the retirement age in order to prevent an economic disaster because the demographic changes are reversing the pyramid, work expectancies have decreased and pension schemes will soon not be able to support the pensioners. The global demography is constantly changing. Davis (1945) states that demographers have come up with an idea of the general progression of changes in fertility, mortality, and population composition through which populations have typically passed; they have named it the Demographic Transition Theory (Davis, 1945, p. 1-11). It is divided in 3 stages (see Appendix 1 Figure 1). Stage one begins with the most developed societies at one time, which had high levels of both, fertility and mortality rates. Therefore they had a greater young population with a relatively small population of ages 65 and over. The second stage shows a significant drop in levels of mortality, while fertility rates stay high. The result is a rapid increase in the population, especially at the younger ages. The final stage presents a decline in the fertility rate; this causes a slowing of the rate of population growth and eventually a more even distribution across age groups. Thus, the older age groups are much weightier (Kinsella & He, 2009). If global population today had to be placed in one of these three stages, it would find its place on stage three. These changes are due to the fact that there has been a raise in life expectancy. People live longer than their ancestors did and probably less than their grandchildren will. This is creating an imbalance in the population pyramid; there soon will be more elders than young people. Whereas the aging of the global population signifies a triumph of medical, social, and economic advances, it is also creating a huge problem for social securities, pension schemes, health care systems, and existing

models of social support (Kinsella & He, 2009). Undoubtedly it is extremely difficult to estimate the cost of pension provision. Furthermore, people have consistently lived longer than the actuaries have expected (Coggan et al., 2011). To illustrate, consider the following case. Around 1956 a 60 year-old woman retiring from a job in Britains National Health Service had a life expectancy of just less than 20 years; by 2010 she could expect to live another 32 years (Coggan et al., 2011). There now exist medicines that reduce the probability of having heart diseases, vaccines against diseases that were once big killers, and so many other things that humanity did not have in the past; factors that contribute to extending life expectancy. The decreasing death rates of some countries over the years are graphed in the appendix 1 figure 2. Although objectively speaking, increased life expectancy is an achievement for the world, the problem with it is that pension schemes are based on a population that did not live as long as the current one. Paying for a longer pension is certainly much more expensive. Additionally, there has been an increase in the elderly percentage of the global population as well. This increase results from high fertility levels after World War II. In the post World War II period the GFR1 in the U.S. rose from what had been an all-time low in 1936 of 75.8 children per 100 women of child-bearing age to a high of 122.7 in 1957 (Macunovich, 2000). A lot of women got married and had children. The marriage age

dropped substantially as well; young people rushed into marriage, and a larger percent of people married than ever before. The problem was not that people began having large families, but that everybody, at all society levels, was having children (Tyler, 1997). In short, all those people known as baby boomers are now elders who are either retiring or already retired. Besides that, fertility rates have dropped substantially, creating an imbalance in the way pension schemes work hence; there are not enough contributors to support all the pensioners. If the population is now living longer and having fewer children, then the elder population ought to increase. The aging of the population of the globe is nearly a universal

phenomenon (U.S. Census Bureau, 2004). When comparing the globes population in 2002 to a forecast of the population in 2050 (See Appendix 2, figure 1), it can be noted that the elderly population will grow drastically. While the younger population will still seem to be large enough globally, in most developed countries it will not (Appendix 3 figure 1). In the light of some projections, it is easy to see that by 2018, for the first time in history, people aged 65 and over will outnumber children under the age of 5 (Kinsella & He, 2009). This is a worrying fact. The number of countries with an 11%, or more, population aged 65 and over will increase greatly (See appendix 4 figure 1 and appendix 5 figure 1). In fact, since the end of 2010, the numbers and proportions of older people, especially the oldest old, have begun to rise rapidly in most developed and many developing countries, and the death rates at older ages have been reduced (Kinsella & He, 2009). Furthermore, the worlds population aged 80 and over is projected to increase 233 percent between now and 2040, compared to 160 percent for the population 65 and over, and 33 percent for the total population of all ages (Kinsella & He, 2009). Also the way many insurance companies calculated the pension schemes used nowadays was based only on the ratio of cash benefits to contributions, without the least care for the future. Nevertheless, the way pension schemes should be calculated is based on the support ratio, also called dependency ratio (Coggan et al., 2011). This measures the proportion of population economically dependent working population, in simple words, the number of people on their working age or contributors that support each pensioner Despite the fact that life expectancy has changed, the working life expectancy has not. In fact, people work around the same time, as their ancestors did. Thus, their lives as pensioners are extended. This means that social services will have to pay pensioners a longer period of time while the lifetime employment of contributors is still the same. Along the same line, if pensioners live longer, while workers keep on contributing to Social Security the same number of years, there will come a moment in which the Social Services will not have enough funds to pay the respective pensions.

Simultaneously, while the global population is aging, the total population size in some countries is declining, and this list is projected to expand. Furthermore, low fertility rates will make it impossible to support pensioners and businesses will become insolvent. Appendix 6 figure 1 shows how the support ratios of the most developed countries have and will decrease substantially. For instance, the most drastic change in the support ratio between now and 2050 is found in Mexico. In 2010 the number of people of working age compared with the number of people beyond retirement age was of 8.6; by 2050, this number will decrease to only 2.5 if no measures are taken. Along the same lines there has been a reduction in the proportion of life spent working. People are retiring relatively earlier than they were 40 years ago (Kinsella & He, 2009). To exemplify, life expectancy for males aged 65 in France has increased from 9.9 years to 18.15 and retirement age has been barely reduced from 60 years old to 59.1 (See Appendix 1 figure 1). The average retirement age in the most developed countries, which are facing a crisis right now, is of 64.2 years. The years of contribution are approximately 45. Thus, people are living a higher proportion of their lives in retirement, there are less years of contribution relative to the years spent in retirement, and there is less people contributing as well. All in all, the way pension schemes were made years ago is not working anymore. It is not logical to expect that more pensioners will be able to be supported by fewer contributors. Certainly, employers who promised higher pensions in the past knew they would not be in their posts when the bill became due (Coggan et al., 2011). That made it tempting for them to offer higher pensions rather than better pay. So now countries are faced with this issue: how to change the pension schemes in order for them to be sustainable and for the population to accept them? As they are now, working hard for years will not guarantee a comfortable retirement. Taking matters into action, in Spain, the retirement age has been raised to 67 from 65 (Minder, 2011). In order to provide an adequate solution, currently used pension schemes and their

flaws must be analyzed first. In the first place, some employees are promised pensions linked to their salaries; these are known as defined-benefit schemes. A definedbenefit plan promises a specified monthly benefit at retirement. It may state this promised benefit as an exact dollar amount, such as $100 per month; or, more commonly, it may calculate a benefit through a plan formula that considers such factors as salary and service, for example 1% of average salary for the last 5 years of employment for every year of service with an employer. Usually, the formula used to calculate the benefits is a combination of years of service multiplied by a percentage of the average salary over the last several years of service. Back in the 1980s and the 1990s a long bull market in equities hid the true cost of the promises made to the employees. Those funds have been depleted, hence, privatesector employers have majorly ceased making these promises to new employees; the public sector is beginning to face the same issues (Coggan, et al., 2011). Therefore, this pension scheme is not working so well anymore. The funds to pay the pensioners are depleted, and there are not enough contributors to support them. Namely, countries such as Sweden, Germany and Japan use a defined-benefit contribution. They have an automatic balancing system to deal with deteriorating pension finances, largely by making the inflationlinking benefits less generous. The Netherlands, another country with defined-benefit pension scheme, also limits inflation linking benefits but delivers pensions that are very close to average earnings (Coggan, et al., 2011). The United States has also taken certain measures, the actual retirement age ranges from 65 to 67 years, depending on the year the person was born (U.S. Social Security Administration, n.d.). The other type of pension scheme has to do with private-sector employers providing pensions in which the payouts are linked to the investment performance of the funds concerned. These are called defined-contribution schemes; they transfer nearly all the risk to the employees, a defined contribution plan, does not promise a specific amount of benefits at retirement. In these plans, the employee, the employer, or both, contribute to the employee's individual account under the plan sometimes at a set rate, such as 5% of earnings annually.

These contributions are generally invested on the employee's behalf. The employee will ultimately receive the balance in his account, which is based on contributions plus or minus investment gains or losses. The value of the account will fluctuate due to the changes in the value of the investments. In theory, these plans can provide an adequate retirement income as long as enough money is paid in, but employees and employers are contributing too little (Coggan, et al., 2011). For example France is a country with a defined-contribution pension scheme. As mentioned before, the retirement age in France was increased; this was accompanied by a phased increase in the minimum level of contribution from 40.5 to 41.5 years. Italy, which also has a defined-contribution pension scheme, increased the retirement age but has gone further: from 2015 on, future changes in the retirement age will be indexed to the rise of life expectancy (Coggan, et al., 2011). Moreover, both pension schemes, defined-benefit and -contribution, essentially face the same problem: the aggregate amount of pension savings is inadequate (as cited in Towers Watsons, 2011). Additionally, the contributions are not insured in either pension scheme. That is, the contributions of the economically active population are used to pay the pensions of the retired people. This would signify no problem if new generations were providing enough contributors to continue sustaining this. Since the demographic pyramid is changing, as it was mentioned before, Social Services are faced with a problem, because they are retiring more money from the common fund than they are receiving, and, when current economically active generations begin to retire, they will not have money to pay their promised pensions.

As of now, retirement age must be delayed in order to prevent an economical chaos. People live longer than they did 40 years ago; additionally the fertility rates have dropped. Consequently, the pyramid is in the process of reversing itself. That is, there are not enough people in the economically active population, while the percentage of elders or pensioners is

increasing rapidly. This has caused an economical imbalance, which has led to the crisis of social services. In final analysis, the circumstances under which the pension schemes used today were created were very different to the ones today, ergo they are not as effective. Increasing the retirement age is the best immediate solution to the problem. People should work for a longer period of their lives; one that equals the proportion of life spent working from people years ago. Then, the economically active population would increase automatically as well. Also, social services would have higher incomes enabling them to pay for the pensions they promised. Indeed, global population is constantly changing; it is an erratic characteristic of the world that depends on a lot of different factors, many of which cannot be inferred. Population projections can and will always be made, but they are limited by unpredictable factors that define population, such as human preferences; thus, these projections are not infallible. To conclude, the investigation made for the development of this thesis makes it clear that there is no perfect formula for the measurement of benefits and contributions in a pension scheme, no one could have predicted the changes the world population is currently undergoing, nor can someone today predict that of the future global population. Social services worldwide must take these changes as they come, making adjustments accordingly to the time and place, hoping they make the right choices.

APPENDIX 1

Appendix 1 - Figure 1: Demographic Transitions (Kinsella & He, 2009)

Appendix 1 - Figure 2: Decreasing Death Rates (Global Change, 2006)

APPENDIX 2

Appendix 1 - Figure 1: Global Population Pyramid (2002 and 2050) (U.S. Census Bureau, 2004)

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APPENDIX 3

Appendix 3 - Figure 1: Developed World Population Pyramid (2001 & 2050) (U.S. Census Bureau, 2004)

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APPENDIX 4

Appendix 4 - Figure 1: Percent Population Aged 65 and Over (2008)

(Kinsella & He, 2009)

APPENDIX 5

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Appendix 5 - Figure 1: Percent Population Aged 65 and Over (2040) (Kinsella & He, 2009) APPENDIX 6

Appendix 6 - Figure 1: Some Countries Support Ratios (Coggan, et al., 2011)

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APPENDIX 7

Appendix 7 - Figure 1: Participation Rates of 50-64-year-olds and Life Expectancy at 65

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(Coggan, et al., 2011)

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