Pension Funds in Distress

Iran just weathered its worst economic crisis in contemporary history, but the legacy of the crisis and eight years of mismanagement under the previous administration is affecting everything, from unemployment and living standards to pensions.

Disentangling the Gordian knot of problems lingering from the crisis of 2012-13 has been so complex and costly, it will take years to fix. Pension funds are one of the worst afflicted.

Their costs are climbing, their coffers are empty and President Hassan Rouhani’s cash-strapped government is the only retreat for them. This year, the administration is reportedly paying 40 trillion rials ($1 billion at market exchange rate) to various pension funds to cover the shortfall in revenues. That is almost half the cost of the government’s cash handout program—another costly blunder the government cannot get rid of soon enough.

Next year, pension funds will need 50 trillion rials ($1.3 billion) in state assistance. The BBC estimates government aid to pension funds may rise by 15-20% each year.

Pension funds are creating a severe drain on government finances. Rouhani has already scrapped most investment spending just to cover ballooning operational expenses, and has come short.

Last year, the administration ran a $13 billion deficit, according to government spokesman, Mohammad Baqer Nobakht.

Running a deficit is not inherently problematic, but for a government that is out of options, how it is financed is.

  Trouble All Round

Nearly all of the 18 pension funds operating in Iran are troubled. Years of recession, instability and mismanagement have eroded their investment returns, while their pension payments have climbed due to inflation and growing number of pensioners.

Three of Iran’s major pension funds, the Civil Servants Pension Fund, Armed Forces Pension Fund and Steel Pension Fund of Iran are in essence bankrupt. The CSPF, for example, receives 12 trillion rials ($315 million) of the 17 trillion rials ($447 million) it pays out as pension every month from the government. AFPF pays nothing from its own money and the government shoulders the whole burden.

The Social Security Organization, the largest pension fund in Iran, which pays 50 trillion rials in pensions monthly, is in better shape, but it is headed the same direction due to its swelling number of retirees, and faltering returns from its investments. It has resorted to asset sales to keep up with its surging pension payout.

  Bulging Pensions, Shrinking Contributions

One reason behind the money shortage is the swelling number of pensioners versus pension contributors. Hordes of government employees were sent into early retirement during the previous administration, to make room for new hires. SSO’s retirees doubled during its eight years in office.

According to Labor Minister Ali Rabiei, 1.3 million people retired between 1974-5 and 2004-5, but during 2004-13, another 1.3 million retired through intervention in pension fund regulations.

“This means the country retired the same number of people in those eight years as it did in the prior three decades,” he said.

Ideally, a pension fund should have seven contributors for every pensioner. For balancing out payments, a pension fund needs at least five contributors. But in Iran, the average is an alarming 3.6 contributors for every retiree, and most small funds have more pensioners than contributors.

The SSO has 13.7 million pension contributors versus 3 million pensioners, in other words 4.5 contributors for each retiree.

Other funds are in far worse shape. CSPF has 1.2 million contributors and 1.28 million pensioners. Steel Pension Fund of Iran tragically has 11,600 contributors versus 74,000 pensioners.

 Mismanagement and Corruption

The previous administration also ruined the financial state of pension funds by giving the funds stakes in state-owned companies in lieu of its debt to them.

The companies, already poorly run, were forced on pension funds that had no experience running them, at arbitrary prices. Both companies and pension funds suffered as a result of the policy called “Radd-e Doyoun” or debt settlement.

As Hossein Abdoh-Tabrizi, a high-profile Iranian finance professor, says, investments of pension funds were managed by people who did not have an inkling of financial training and knowledge, “which is reflected in their handling of funds, types of investment and portfolio management practices”.

Furthermore, despite the transfer of companies to pension funds, government debt to them surged, as it did with most of its contractors. The Rouhani administration is assessing the amount of debt, mostly well overdue, left for it, but an exact figure is unavailable, even to the economy minister.

As an example of the rising government debt to pension funds, debt to SSO has surged from 60 trillion rials to 1,000 trillion rials in the past decade.

There has also been the odd bit of embezzlement from the funds and their subsidiary companies, to make matters worse. As an example, a former prosecutor general of Tehran, Saeed Mortazavi, was sentenced to 135 lashes for financial corruption in November. He was found guilty of “seizing and wasting public funds” while he ran SSO under the previous administration.

Moreover, due to policies enacted by the government and parliament, retirement age rests at 52 years, compared to the world average of 65 years. This pressure on the coffers is heightened by the rising life expectancy, which is around 75 years in Iran right now. This means a retiree would receive a pension for nearly half a century, creating a large financial burden for any fund.

The Arduous Way Out

To fix things, the government needs to raise retirement age, people need to contribute more and take out less, especially given the rising life expectancy.

Pension funds require a change in their management and staff, autonomy from government interference and real competition.

Currently, pension funds are completely unregulated. Accountability and transparency are prerequisites for good governance, which good regulation and competition can bring about.

The government should take the backseat and only regulate them, Abdoh-Tabrizi wrote in our sister publication Tejarat-e Farda magazine. He calls for an overhaul of the entire pension system.

Also, a switch from defined benefit plans, which fix payable retirement benefits, to defined contribution plans, in which future benefits fluctuate on the basis of investment earnings, will greatly lower the burden on pension funds, says Reza Qahremani, Maskan Investment Company’s head of R&D.

In general, a defined contribution plan provides much less security for the employee, and much less obligation for the employer, than a defined benefit plan—meaning the load on pension funds will decline.

A turnaround in economic conditions would go a long way. More jobs mean more pension contributions. The poor conditions of the labor market and economy are acting as dead weight for the funds.

Nearly half of Iran’s under 30 population, which are the largest group of populace, are out of jobs. Adding them to the labor force and the country’s return to economic growth will be great aid.

Even with all these changes, many funds may need bailouts. That would be very costly for taxpayers who always pay the ultimate price for political blunders.

With the current status quo, the future of pension funds is shrouded in doubt. An overhaul and a move to proper independent governance, coupled with good regulation, can reduce the pain and avert further disaster.