Retirement Adequacy – Use those Reserves!

Turning off the lights in the office for the last time, the writer joins the ranks of the early retired. Here is his solution to retirement inadequacy to complete the series on SG reserves. First, a recap.

“Temple of Doom, Raiding the Lost Ark”, argued the financial burdens of the nation’s social obligations were passed from the government to citizens predominantly through the sale of land and public housing at elevated prices, the excess returns generated from CPF, and poor social spending. The SG reserves come at the expense of retirement adequacy, risks in household finances and social inequity.

“SG Reserves: Follow the Money” (http://www.tremeritus.com/2014/12/08/raiding-the-lost-ark-2-the-money-trail/) is an educated conjecture on the size of the reserves, particularly the Net Assets from which returns can be used for spending.

This article calls for a part of the returns earned from the reserves to fund a simple solution to the current retirement malaise faced by many citizens. The solution requires an increase in government expenditure by only 1.5% of GDP equal to $5.6b, a 13% increase over 2014 budget projections.

1^st Pillar – Basic State Pension

Since CPF LIFE is not inflation-adjusted, retired citizens faced substantial risks which they could not mitigate themselves unless wealthy. The first pillar must then be an inflation-adjusted basic state pension that covers and accounts for increased prices over basic living expenditures.

Hence, the writer proposes a payment of $700 per month by the government to Singapore citizens aged 65 and above, subject to the following criteria

-  All male citizens must serve National Service or SAFVC

-  Payment is pro-rated by the number of years a citizen has contributed to CPF over a base period of 35 years. E.g. if a citizen contributed 20 years, then the monthly BSP should be (700 x 20 / 35) = $400. The maximum payment is $700.

-  The pension is adjusted by cumulative inflation every 3 years.

Currently, there are 350,000 citizens aged 65 and above but approximately 50,000 are Permanent Residents, therefore ineligible. It can be estimated the average payout for the citizens is around 75% of the BSP. For the current fiscal year, this would cost $1.9b.

2^nd Pillar – Healthcare

Healthcare has a significant impact on retirement adequacy. Total healthcare expenditure in Singapore equals 4.7% of GDP or $17.5b. The government spent only 38% of the total or $6.6b, leaving the rest to citizens’ state mandated medical insurance and out of pocket expenses. The writer proposes to reverse the ratio by the government raising its share by 1% of GDP or $3.7b. This reduces citizens’ share to 40%, thus lessen healthcare expenses on their retirement budget.

3^rd Pillar – CPF, redundant Minimum Sum

The Basic State Pension pillar effectively reduces the most significant financial risk faced by retired citizens. CPF retirement income then becomes a pillar that augments the BSP, providing dignity and flexibility on how retirement income is used.

The 3 pillars have 3 positive results

-  CPF Minimum Sum is redundant since there is a guaranteed source of basic income.

-  The burden on children to support retired parents is reduced or eliminated, thus giving relief to the household finances of the younger generations.

-  The need for downgrades or LBS to extract income for retirement is reduced or eliminated. Use of such schemes would not be forced by circumstances.

Is the solution sustainable?

The price tag is $5.6b. The following shows the expenditures using the Net Investment Returns Contribution are sustainable despite worsening demographics. The NIRC of $8.1b in the 2014 budget paid for Pioneer Generation Package. From 2015 onwards, the NIRC can fund the expenditures proposed by this article. Please note

-  NIRC comprise 50% of the net income of Temasek and 50% of the expected long term real return earned by GIC and MAS. The NIRC draw less than 33% of the returns earned because the real rate of return is lower than the actual rate of return (e.g. GIC’s respective 20 year returns are 4% versus 6.5%). The majority are re-invested.

-  $3.7b can be made available if defence spending is reduced from 3.3% of GDP to 2.3%. Singapore will still have one of the highest defence spending.

The above chart plot the expected rise in the expenditures (in grey) due to demographics and a long run inflation rate of 2.5% against the increase in NIRC. 3 scenarios are provided

1.  spending the amount required, re-investing the remainder of the returns (red)

2.  cash surplus equal to 1% of GDP  is generated (green)

3.  1% of GDP from re-allocated from defence to pension and healthcare (blue).

The chart above plots the total amount of net assets in GIC and MAS and the assets in Temasek which generates the returns for the NIRC under the same 3 scenarios. Please note the starting point is estimated by IMF data going back to 1990. The net assets are very likely much higher.