(This essay was published in Hong Kong Economic Journal on 29 June 2016.)

 

There is popular pressure on government to adopt a social pensions scheme. Public opinion polls show that society is divided over this issue with about half the population in favor and half opposed. Public discourse is centered on whether a social pension funded through the public purse should be universal or targeted at those without means.

 

A key issue in this discourse is affordability since Hong Kong’s population will continue to age and its labor force to decline for the rest of this century. The elderly population as a percentage of the working age population will rise from just over 23.4% now to 60.9% around 2061 and remain at that high level until 2100. The size of the working age population will decline from the present 5.0 million to less than 4.3 million by 2061, and is expected to continue its decline until 2100.

 

Hong Kong’s adverse demographic structure is one of the most serious in the world. It is as bad as Japan’s and will last for even longer. Consequently, the introduction of a universal social pensions scheme would have a profound impact on the future of Hong Kong’s economic and social system. The debate cannot be merely about whether society should be compassionate about its elderly or elderly poor. A great deal more is at stake.

 

Life Expectancy Insurance versus Retirement Support

 

What is the purpose of a social pensions scheme if it is to be universal? One argument advanced by advocates of the universal scheme is that it is too costly to administer a means test because most elderly do not have an income. It is further argued that the elderly are unwilling to spend their savings because there is uncertainty about their life expectancy. So unless the threshold qualifying level of assets is set at a very high level, many would not qualify. And if the threshold is set high, then one might as well adopt a universal scheme and let the well-off voluntarily opt out.

 

These arguments confuse two separate issues: social insurance against an unexpectedly long life, and retirement support for the elderly poor. We need to ask, who should be primarily responsible for retirement support from the age of retirement until the expected end date of life? And what happens if one has a long life and runs out of one’s saved resources?

 

A universal pensions scheme does make sense as an insurance scheme against an unexpected long life.

 

This was the logic of Prime Minister Chamberlain’s Widows, Orphans, and Old Age Contributory Pensions Act (1925) in the United Kingdom. It promised a social pension to men reaching the age of 65 and women the age of 60. At that time the average life expectancy was 56 years for men and 60 years for women.

 

The Old Age Allowance or “fruit money” in Hong Kong was introduced in 1973 as a universal payment to all those above the age of 70. The life expectancy at the time was 69.6 years for men and 76.4 years for women.

 

In both these case there is little ambiguity about the logic of a universal social pensions scheme. It is a social insurance payment set at modest levels for those who have an above average life expectancy. Those without means are the intended beneficiaries since the payment was set at modest levels and the well-off were expected to opt out. But I recall a news report more than a decade ago of an elderly person who arrived to collect his payment in a chauffeur-driven Rolls Royce.

 

Big Governments and Big Lies

 

The question of who should be responsible for retirement support has to be answered both philosophically and practically. Should the individual and family be responsible for retirement support or the state?

 

Consider the practical question first. If one wishes the state to provide retirement support, then society by implication chooses big government. The size of the government will be bigger the longer we live, assuming that retirement age does not change by much.

 

Consider the life expectancy of someone born today, who is estimated to have a life expectancy of 105 years. If this person retires at 65 years of age, then retirement support will be for a full 40 years. If we assume this person started working at 20 years of age then she would have to support herself for another 40 years after working for only 45 years. If everyone were supported by the state with a modest level of pensions, then the government would have to raise taxes in order to achieve the necessary social savings to pay for retirement support.

 

What happens if life expectancy continues to rise, as it most likely will? Having socialized retirement support will over time automatically transform Hong Kong into an increasingly social welfare state. Even if we set modest levels of retirement support, the growing number of years of retirement support that will ensue with longer life expectancies will increase the relative share of economic resources that pass through the government.

 

So when we talk of universal social pensions, the choice must be absolutely clear about whether the eligibility age for receiving pensions is tied to life expectancy or retirement age and whether it is affordable by the government. Big democratic governments end up telling big lies about the solvency of their finances because they fail to tie eligibility to life expectancy and instead allow it to become tied to retirement age.

 

Philosophically a universal social pensions scheme is a choice between big versus small government, between a capitalist versus a social welfare economy, between honest and lying governments, and between whether retirement support is primarily an individual and family responsibility or society’s responsibility.

 

Incentives and Responsibilities

 

The history of how universal social pensions started as a social insurance scheme against the uncertainties of life expectancy, and were progressively transformed into a retirement support scheme, is a sad account of irresponsible politics trumping individual responsibility.

 

Over a century ago, the number of years spent in retirement was few because life expectancy was short. Advances in medicine, health and modern living norms extended the gap between retirement age and life expectancy. The failure of politicians to delay the age of pension payment has trapped the governments of industrialized nations in fiscal insolvency.

 

The problem is not difficult to fix. All one has to do is delay the age of pension payment. Unfortunately when this payment is tied to retirement age, politicians everywhere shirk from telling people the truth: you have to work for more years. There is no shortage of demagogues who will tell even bigger lies and promise people what is undeliverable.

 

The mountain of public debt accumulated by government is a true record of the lies told by generations and generations of politicians; some are crazy enough to actually believe in the lies. These lies are a key reason why the institution of government has lost the trust of its people. What’s worse is that by burdening the next generation with debts and taxes, it coaches people to lie to their children and betray their trust.

 

The weakening of the family institution will inevitably weaken society’s ability to face uncertainty and tackle risk. The state is then left to do most of the fighting on its own, but alas the state today has also been weakened and delegitimized.

 

The worst thing about social pensions is the effect on incentives. If payments are tied to retirement, then why should one want to work for a single day more when someone else is going to foot the bill for leisure and pleasure? Incentives are a big influence on human behavior.

 

A longer life expectancy means a more valuable paid retirement benefit. This will produce a significant negative effect on the savings behavior of families. And if children will no longer become an important source of old age protection, it will also reduce the incentives on parents to invest in their children. If society sets up incentives to socialize responsibility, then it encourages people to forsake individual responsibility and become morally irresponsible.

 

A lesson on incentives and behavior can be learned from the decision by the last British Governor in the early 1990s to roll out what became extremely generous social welfare benefits. Per capita government social welfare expenditures increased in real dollars from about $2,000 in 1991 to $7,000 in 2011 (equivalent to an annualized real growth rate of 6.5 percent). At the same time, the percentage of the population that was not in the labor force for no compelling reason rose from below 1.0% in 1991 to above 3.5% in 2011. Incentives have powerful effects on how people behave.

 

The combination of long life expectancies, weak political leadership, and socializing incentives and responsibilities is lethal. It erodes the economic and moral foundations of a functioning society by damaging the inherent incentives behind the intergenerational social contract. It is why ultimately societies cannot afford universal social pensions.

 

Criticisms of universal social pensions do not come from heartless or vicious intentions. There are better solutions to addressing the plight of the elderly poor. In 2011, 48.3 percent of the households headed by an elderly person above 65 years old lived in public rental housing (the corresponding number of households headed by a working age person aged 20 to 65 was 27.4 percent). This means there is a relatively inexpensive way of providing income support for the bulk of elderly poor.

 

If public rental housing units were sold to the sitting tenant, this would in one fell swoop provide a valuable asset for the elderly to safeguard their remaining years. It could be facilitated by using the tools of modern finance and perhaps supported by selling the public rental units at a discount. This would provide more incentives for children to take care of their elderly parents, as they would one day inherit their parents’ property. More than anything else, the elderly want to feel the attention and care of their children.

 

Such an approach would avoid putting extra pressure on public expenditure and would bring in resources to government to fund future government housing supply. Savings in public housing expenditure, and from not introducing a universal social pensions scheme, would provide much needed funding to support future medical expenditure growth due to population ageing.

 

Such an approach would keep government small and avoid socializing too much responsibility. It would preserve the essential freedoms and incentives for a vibrant economy and a robust society. And it would provide true compassion for both the elderly and the elderly poor rather than succumbing to the politics of irresponsibility.

 

 

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