Given the precarious situation of Iranian pension funds and widespread anxiety among retirees, a detailed review of the factors and players involved is crucial.
Mohammad Reza Maleki, a board member of Majlis Research Center, the research arm of Iranian Parliament, examines the causes of the imbalance between the resources and expenditures of pension funds in an article for the Persian economic daily Donya-e-Eqtesad.
A translation of the text follows:
Social security in general and the financial crisis of pension funds in particular have challenged many economies in recent decades.
In Iran, the dependence of some pension funds on government budgets has become alarming; alarming for both the management of the funds and the government, which is responsible for financing their deficit.
The crisis of pension funds is now lumped with water and environment crises. International and national institutions provide several reasons for the imbalance between resources and expenditures of pension funds in Iran, the most important of which are as follows:
Life Expectancy, Effective Age of Retirement
Studies show that over a 20-year period from 1995 to 2015, 50 countries increased the retirement age to reduce financial costs.
Most member states of the Organization for Economic Cooperation and Development will have a minimum retirement age of 67 by the middle of this century. Several countries will go beyond this age by saying there is direct correlation between raising the retirement age and life expectancy.
In Iran, however, reforms have not taken place. Laws have widened the gap between the effective retirement age and life expectancy and fueled the pension fund crisis. Thus far, efforts made to overhaul retirement laws have been unsuccessful and the dominant paradigm is to reduce retirement age or to maintain the status quo, perhaps to solve youth unemployment.
Studies show that life expectancy in Iran has increased from 46 in 1951-52 to 76 at present. During these years, the average retirement age has dropped from 57 to 51.
Support Ratio
The potential support ratio, which represents the ratio of the number of insurers to pensioners, is optimally between six and seven; the minimum ratio to prevent the bankruptcy of the funds is three.
Although this ratio is sufficient only to pay the funds’ current liabilities using current premiums, it is necessary to have a higher support ratio for the funds to remain financially stable in the long run.
For instance, the support ratio for the Social Security Organization, the largest pension fund in the country, is 4.51, which is close to the minimum support ratio. This ratio is 0.65 for the Civil Servants Pension Organization and 0.83 for the Social Security Organization of the Armed Forces, which indicate their dismal conditions.
Replacement Rate, Pension Adequacy
The replacement rate is one of the key indicators of the generosity of pension systems.
[The net replacement rate is defined as the individual net pension entitlement divided by net pre-retirement earnings, taking into account personal income taxes and social security contributions paid by workers and pensioners.]
Compared with other countries in the world, Iran has one of the highest replacement rates. One of the main reasons for the high replacement rate in Iran is the formula based on which the level of pension is calculated. While in most pension systems of the world, the basis of calculation is the average of the best five years of a person’s service or all years of their insurance, in Iran, the last two years of service is the basis of calculation. The average net replacement rate is 63.5% in the EU and 58.6% in OECD countries, while it is 83% in our country.
Despite the high replacement rate, pensions are unfortunately low and inadequate in Iran. This has made pension funds very sensitive to macroeconomic fluctuations; pensioners’ demands are like irreparable shocks to funds, increasing funds’ spending dramatically and jeopardizing their stability.
Liabilities to Assets Ratio
Studies show that the current value of the Civil Servants Pension Organization liabilities is 224% of gross domestic product, the value of its assets is 37% of GDP and the total deficit is 187% of GDP. Therefore, the fund needs public budget; 1.8 times of the GDP should be spent to make up for the deficit.
The 2016 report by McKinsey & Company (the trusted advisor and counselor to many of the world's most influential businesses and institutions) notes that the present value of the next 75 years of the Civil Servants Pension Organization’s commitments equal 9,250 trillion rials ($28.86 billion) whereas the total insurance premium paid by the employed members will be only 450 trillion rials ($1.4 billion). Assuming that the assets of the fund are worth 250 trillion rials ($780.03 million), the deficit of this fund will be very large in the future (in other words, there will be a 92% deficit).
Since 2018, SSO has been forced to withdraw from its reserves or borrow from the banking system to finance its expenses. The organization’s reserves are expected to be depleted by 2027 and consequently it will need the financial support of the government.
The government’s failure to pay SSO’s debts will accelerate the dependence of this fund on government assistance. At the same time, the organization will have a commitment equal to 220% of GDP at today’s value in the next 60 years.
Its annual cost-benefit ratio will increase from 24.2% in 2016 to 72.6% in 2050 (meaning that in 2050, 72.6% of each employee and employer’s share must be deducted in order to pay for pensions). This rate will reach about 110% in 2080.
Aging, Fertility Rates
Demographic changes in Iran show that in the last half century, i.e., between 1966 and 2016, the population of people over 65, who account for the lion’s share of pension funds commitments, has increased fivefold. This is while during the same period, the total population of the country increased 3.23 times.
According to statistics, the elderly population is estimated to quadruple from 4.87 million people in 2016-17 to 19 million people in 2051-52. The fertility rate in Iran, according to the United Nations, has increased from 6.28 in 1979-80 to 1.62 in 2019-20. The rate will remain unchanged from 2019-20 to 2049-50.
All countries are facing a crisis in pension systems, thanks to demographic changes and aging; Iran is no exception. The expenditures of pension funds increase with the number of elderly.
The decline in fertility rate will reduce the number of insurers and consequently resources will also decrease. In other words, the rise in life expectancy and decline in reproduction will increase the potential dependency ratio (the ratio of population of those over 65 years) and decrease support ratio (ratio of insurers to pensioners in an insurance organization). This will be a big challenge for pension funds.
On top of the above issues, structural problems, including the failure of the multi-tier social security system, the mismanagement of funds, high unemployment and inflation, non-insurance protections, exemptions and subsidies imposed on funds by laws, the imposition of responsibilities, the establishment of trade union and occupational pension funds and finally the imposition of unforeseen short- and long-term obligations have imposed significant costs on the funds.
The government’s encroachment on funds to cover budget deficits, individual and collective insurance evasions and the government’s failure to honor its obligations regarding subsidies and exemptions have all exacerbated the imbalance of funds. The persistence of the current situation and lack of structural and parametric reforms regarding rules and regulations will worsen the crisis of pension funds.
The government’s fulfillment of its obligations toward pension funds, realization of a multi-tier system of social security (social assistance, basic insurance and supplementary insurance) and implementation of structural reforms in pension funds, introduction of parametric reforms such as fixing effective retirement age and the formula for calculating premium rates and salaries, elimination of unreasonable insurance subsidies and exemptions, good governance of pension funds, promotion of transparency and accountability, combating corruption and making funds independent of political processes will improve the stability of funds.
