Foreign workers without access to pensions deserve attention

Arab Monetary Fund & World Bank Group

This is the fifth part of Arab Monetary Fund and World Bank Group report on pension systems in the Arab Region: Trends, challenges and options for reforms.

— Editor IV. Options for Reforms IV.1 Systemic: Adapting the Multi-Pillar Pension Design to the Arab Region

Countries worldwide have been moving towards multi-pillar pension systems.

The World Bank classification system proposed in 2005 differentiates pension system components into 5 pillars: 1) a non-contributory “zero pillar”, 2) a mandatory earningsbased “first pillar” (publicly managed), 3) a mandatory savings-based “second pillar” (privately managed), 4) a complementary voluntary “third pillar” (privately managed), and 5) a nonfinancial “fourth pillar,” which includes access to informal support, other formal social programs (e.g., health and housing), and other financial and nonfinancial assets (e.g., home ownership and reverse mortgages where available). Four pillars are shown schematically in figure 20. It is important to note that such classification does not imply that all countries should have all pillars. The recommendations of pillars would depend on the country specific overall development objectives, and country specific institutional and policy environment. However, avoiding a mono-pillar system is a key recommendation.

During the 1980s and 1990s, the number of countries with mandatory privately managed defined contribution schemes (second pillar) increased from one to more than 30 (two countries in Latin America and the Caribbean, although Argentina, and Bolivia closed the second pillar in 2008 and 2010, respectively, and one in the Europe and Central Asia region, Hungary, also closed the second pillar). During the 2000s, the focus on new developments is shifting to the zero (social pensions) and third pillars (DC-voluntary pensions).

The main area where some tailoring of the model is needed for Arab countries is certain distinctive features of the labor market highlighted earlier. The first is the high rate of foreign resident workers in some countries, particularly GCC countries. This was an area of particular focus at the January conference, with a session dedicated to the topic. For these workers, most of whom will retire in their home countries, it may be more effective to link their pension provision to that of their home country. In this case, one could have a mandatory private pension (a second pillar), but the pillar is in the home country, and the GCC employers would need to develop systems only to ensure that workers were making contributions. If the home pension system is not effective, it is important to explore the concept of mobility saving accounts discussed at the conference and below.

The other main area for tailoring is informal sector workers, which is an important consideration for many countries in the world. Here the tailoring is not so much in the pillars themselves but because the concept of mandatory provision is nonbinding when there are no contracts or legal requirements to pay a regular salary. In these cases, the model relies on innovations to make it simpler and more automatic to link informal workers into a pension system and make payments simple and regular, without needing an employer — examples of which are discussed later in this chapter.

Role of Mandatory, Voluntary Private Pensions as Complements to Public Pension Schemes

A central message of this report is the benefit of a multi-pillar or multidimensional pension system to meet and balance the multiple and sometimes conflicting objectives of a pension system. No one pillar or tier can bear all the weight of delivering adequate income with broad coverage in a sustainable, efficient and secure way. There is no example of a country globally that manages to achieve high levels in each of these outcomes with a single pillar.

Overall then mandatory and voluntary private pensions have a strong role to play in helping to diversify a pension system. They can help to improve labor market efficiency, particularly if pensions are portable between the public and private sectors — even if there are some differences in rules.

This diversification also helps to emphasize another important message — which is that delivering decent income in old age is not just a pension issue — it is a retirement income issue. People can and should find multiple ways in which to do this — not only through public and private pensions, but also through continued work if needed, using family ties, using insurance products and the benefits of housing — either to reduce the need for income in old age if a house is owned — or co-residence with relatives is possible — or providing an extra source of income if it is possible to rent out a room or even a separately owned property.

Figure shows how this integrated thinking can help solve the old-age income problem with a combination of policies rather than thinking there is a magic bullet that can solve all problems. The figure also shows how the labor and capital markets are critical influences on the pension system and how the pension system influences them. Proactive policy is needed in both directions to ensure maximum policy returns.

IV.2 Parametric: What Combinations of the Key Parameters (Accrual Rate, Pensionable Age, and Contribution Rate) Deliver Financial Sustainability?

Policy-makers, sometimes view actuarial modeling as a purely technical task and overlook its importance. It is crucial that policy-makers subject the existing scheme — and any proposals for reform — to detailed actuarial modeling and analysis to properly set the individual parameters of the reformed scheme. The long-term nature of public pension schemes makes it impossible to adequately understand the implications of any policy choices in the absence of such modeling. Only on the basis of careful actuarial modeling can the individual parameters of a pension scheme be properly set. Moreover, actuarial models must be maintained as an ongoing priority; no matter how carefully modeling is performed, forecasts will need to be updated. For this reason, models must be maintained, which requires active involvement and support of senior managers, and the parameters of the reformed pension scheme must be periodically updated to safeguard its long-term fiscal balance.

When there is a Defined Contribution system in place or planned, the modelling shifts toward a focus on likely replacement rates — the share of pension income as a proportion of wages — or the size of assets that may be accumulated by a particular age. It is important to set a clear, achievable target; there is no point asserting that everyone will receive two-thirds of their final income as a pension if total contributions are only 5 percent of salary. It is also critical to be clear about the range of potential outcomes. If there are no guaranteed investment returns, there will be a range of likely outcomes depending on investment returns and volatility over the life of each investor.

IV.3 Extending and Financing Coverage: The Role of Employers

The analysis so far has illustrated the heterogeneity of the Arab area, as well as some of the unique features of individual countries, including often-high levels of foreign-born resident workers. It is important to think carefully about how to deliver the pension value chain from start to finish in the most appropriate way in different countries. The key parts of the value chain are shown in figure 22.

However, a common feature in all of the markets is of course the existence of employers. The employer channel is hugely important in terms of helping to improve coverage. However, employers come in many shapes and sizes — and in the case of informal employment workers are either hidden by employers, or the employer may not even formally exist at all. In this case, it is important to have a strategy that tries to map the role of the employer to the type and nature of employment. An example is shown in figure 23.

IV.4 Extending and Financing Coverage: Addressing Informality

Two major challenges to expanding pension coverage in the Arab world are the large number of workers in the informal sector and the large number of foreign-born resident workers in the labor force, especially in the GCC countries.

Informality, Self-Employment, and Casual Work

The traditional approach to extend pension coverage to informal sector workers has focused on formalization through the introduction of specific regimes for self-employed or casual workers, and increased enforcement of regulations. While efforts from both approaches are commendable, they have not produced good enough results. Special regimes for selfemployed or casual workers face difficulties defining the contributory base and have to rely on self-declaration of income. The low levels of benefits which result is socially unacceptable. In addition, regular contributions to a scheme is challenging vis-à-vis the irregularity of incomes among these groups.

A less traditional approach with fairly successful results is the adoption of simplified regimes for low income self-employed workers. The focus of this approach is to reach informal sector workers who have some potential capacity to enroll in a contributory scheme, but who face difficulties to join existing schemes given the high administrative costs and burdensome processes entailed in mainstream contributory schemes. A simplified regime for small contributors consisting of lump sum (in lieu of salary-based) contributions was adopted in Argentina in the 1990s with successful initial results, although the scheme had implementation and compliance shortcomings in the longer term. Similarly, the experience of Morocco with mobile units was a creative initiative of the Moroccan Social Security Fund to reach potential contributors in rural areas.

Once an effective system has been established using employers that are part of the formal system, it is possible to look creatively at ways to focus on incentives to encourage workers in the informal sector to participate in the pension system rather than regulations or enforcement. The organizations that provide routes into the system are unlikely to be those who should be managing pension accounts and investments over the multiple decades required to deliver effective pensions, but if they are, it is important to make the different systems interoperable. This separation though between entry and then delivery can be a natural one and can work effectively because the administration and investments can be done at scale even if the outreach is done at a more local level. The Indian National Pension System is a classic example of this model, with a variety of routes into the system (and they are growing) but two large-scale central records agencies (private companies that have won competitive tenders to deliver the service) managing the accounts. Asset management is then done at scale by large asset managers who again have to bid to be part of the system (as well as be licensed to ensure a credible level of quality). The World Bank has been working in a number of countries to develop systems that can expand coverage to the informal sector and could use similar approaches in Arab markets. Recent pilots in India for example have delivered increases in enrolment of 500% and more by introducing digital and paperless enrolment and linking pension enrolment to the delivery of government programs such as Direct Benefit Transfers.

Developing Pension Schemes for Resident Workers in Home and Host Country

The large number of foreign workers without access to pensions deserves particular attention in the Arab countries. On a reciprocal basis, international agreements for pension provision may exempt expatriate workers from social security contributions in the host country, provided they are covered under and pay contributions to their home country’s social security system. Alternatively, the agreements may grant exportability of pensions for workers who have made social security contributions in the host country. Rules for totalization of services are applicable at the time of retirement of workers who have accumulated contributions in more than one signatory country. These agreements are global among OECD countries, following principles designed on the basis of International Labor Organization conventions, although they remain the exception rather than the rule in most of the world, and their applicability is complex when there are asymmetries in the design of pension schemes.

Some Arab countries allow their citizens to remain enrolled in home pension schemes while working abroad. Beyond the equity consideration of who bears the costs, this is an effective option for Arab workers emigrating to GCC countries, although these countries also receive many expatriates from other parts of the world, and access to such coverage is therefore limited in scope.

Although bilateral agreements are a possible instrument to totalize contributions (and accrue benefits) for workers who have been enrolled in the pension schemes of more than one country during their careers, such agreements do not exist in many cases. In addition, even if there are bilateral agreements, pension benefits are not portable, and procedures to access to them are complex, particularly when records in at least one of the countries are not automated.

One exciting new way in which pension coverage could be expanded in many countries in the region relies simply on setting up a collection and payments channel and does not need any pension infrastructure. This is possible when there is an effective pension system in the home country of a foreign-born resident with clear and effective identification that would allow some of the labor income in the host country to be diverted to the home country pension system in which they could already have an individual pension account or in which an individual account could be opened for them. Foreign workers could also make payments to the pension accounts of family members if they wanted to send a portion of their remittances to a source that would be locked for later to use to make sure that the ‘windfall’ of higher earnings would be transformed into a more-permanent source of better living standards rather than just boosting temporary consumption. This also has macroeconomic benefits for the home country because such flows would reduce a current account deficit or reduce reliance on capital account flows if domestic savings were not sufficient to fund investment.

The mechanics for such an approach already exist for Indian-born workers, for example, and the Indian Pension Regulator has initiated some information campaigns to raise the profile of this option, including visiting some countries in the region, although it is unlikely that this option will be widely adopted on a purely voluntary basis for employers and employees because voluntary pension provisions typically do not achieve broad coverage. The policy debate on improving pension coverage is a timely one because it allows for the possibility of establishing some mandatory requirements for employers to add people to a pension plan but provides some flexibility for this to be a plan in a ‘home’ country for foreign-born workers. Even if they stay for many years in the host country, it is likely that they will retire in their home country. The tenure of many workers will be much shorter than a typical job, and the host country can avoid the complexity and expense of establishing and running many shortterm accounts. This is an option that should be actively explored as part of the AMFWGB planned support for pension system improvement.

Overview of Some International Expatriate Retirement Schemes

In the Philippines, the Overseas Employment Workers’ Pension Fund requires all overseas Filipino workers registered with the Philippine Overseas Employment Administration and the Committee on Filipinos Overseas to remit 5 percent of their gross monthly income to the fund for at least five years. If the overseas employee dies, his or her primary beneficiaries are entitled to a monthly pension and dependents’ pension, provided that the deceased has made at least 36 monthly contributions in the semester before his or her death. In addition to this service, there is a voluntary flexifund for overseas workers that has flexible payment terms. Members who reach the age of 60 are entitled to retirement benefits in the form of a monthly pension or a lump sum payment. The beneficiaries of a pensioner who has died shall receive a lump sum benefit equivalent to the cash value of the remaining pension. An overseas Filipino worker–member may withdraw his or her contributions with interest at any time, especially in times of need (instituted in 2008).

In Kerala (India), there is a welfare fund scheme that the Kerala government runs (Kerala Non-Resident Keralites Welfare Board) to which members contribute Rs 300 per month. Members are nonresident Keralites (living abroad) or those who have lived abroad but returned. Each nonresident Keralite member who has returned and settled permanently must pay the state Rs 100. The board can agree the fund grants, loans, or advances from the government of India, the state government, the local self-governing institutions, or any other institution or organization. The board can attract donations from any individual or any organization in India or abroad, any government agency in India or abroad, or any other sources.

In 2010, Bahrain’s Keralite community was urged to join this government-backed pension fund for expatriates. People must pay a fixed premium every month to the India-based Kerala Non-Resident Keralites Welfare Board to receive a pension from the government when they reach the age of 60. An awareness campaign in Bahrain took place in May 2010. Although the registration fee is fixed (Rs 200), pension amounts vary according to whether the person lives outside Kerala but in India, lives outside India, or has returned after working outside Kerala. In 2010, the monthly premium was Rs 300 for those living outside India and Rs 100 for others. Any member who has paid the premium for five years or longer is eligible to receive a pension when they reach age 60. As proof of their membership, they receive an identity card with their picture on it (instituted in 2009).

In addition to an old-age pension, the fund also provides financial assistance upon the death of a member from illness or accident; financial assistance for medical treatment of members with serious illnesses; financial assistance for marriage of female members and daughters of members; maternity benefits to female members; financial assistance, loans, or advances to members for construction of a house or purchase of land and building or maintenance of a house; financial assistance for education, including higher education, for children of members; and financial assistance to members unable to work because of permanent physical disability. As of April 30, 2011, 67,557 applications had been received to join the fund, 40,102 members had been accepted as members of the welfare fund, and 27,455 applications were being processed.

In Sri Lanka, the Bureau of Foreign Employment and the Sri Lanka Social Security Board introduced a pension scheme for expatriate workers that provides a monthly pension to individuals from the age of 60 until death if the expatriate worker contributed to the scheme regularly. Members pay a minimum monthly premium of SR5 or a lump sum of SR600 to be entitled to a monthly pension of SR250 when they reach 60 years of age. The worker contributes only 40 percent of the costs for the pension scheme, and the state subsidizes the rest (instituted in 2007). Sri Lanka announced in 2015 it would be developing a new system.

In Western countries, because of the lack of quality pension products and investment funds for some expatriates in the country where they work, offshore pension arrangements are becoming increasingly popular. Expatriates increasingly invest in international funds. Offshore providers have moresophisticated administration systems than local markets, including online access to provide investment switching and viewing of account balances. Such plans also promote mobility because expatriates can continue to increase their pension amounts while working in different locations for the same employer.

To be continued tomorrow