By Donovan A.G. Herbert
January 27, 2012
Our Social Security system celebrates its thirty-fourth year of operation this year. In several articles, publications and media presentations we have provided information related to our performance and operations. It is important for all of us to monitor our performance and to ensure that we, the stakeholders are aware of our stewardship. We have informed you of the challenges we face and your role in assisting us to improve the effectiveness and stability of the institution. We have also solicited your ideas and opinions on matters which may affect future policies. At Social Security, we hold Integrity, Transparency and Honesty high on our list of core values.
In light of all of this I thought it necessary to discuss methods that we (our stakeholders, management and staff) can use to track our performance throughout the systems’ existence. Fortunately for us, the Actuary, Mr. Derek Osborne has already summarized the key “Performance Indicators” of Social Security/National Insurance systems in our region. In his 2004 report produced for the CARICOM Secretariat entitled Social Security in the CARICOM Single Market & Economy, Mr. Osborne outlines these performance indicators as follows:
- Active Insured as a percentage of the Employed Population
- Percentage of Self-employed Persons Making National Insurance/Social Security Contributions
- Number of Contributors Per Pensioner
- Benefits and Pensions as a Percentage of GDP
- Reserve as a Percentage of GDP
- Expenditure Rate
- Income Rate (Contributions + Investment Income)
- Surplus Rate(Income Rate – Expenditure Rate)
- Reserve-Expenditure Ratio
- Investments as a Percentage of Reserves
- 5-year Average Nominal Yield on Reserves
- 5-year Average Real Yield on Reserves
- Administrative Expenses as a Percentage of Contributions
- Administrative Expenses as a Percentage of Insurable Wages
- Contribution Rate
- Normal Pension Age
- Early Pension Age
- Number of Contributions required for Age Pension (weeks)
- Age Pension 10-year replacement rate
- Age Pension 30-year replacement rate
- Maximum Retirement Pension replacement rate
- Ratio of Ceiling to Average Insurable Earnings (AIE)
- Minimum Age Pension as a Percentage of AIE
- Average Age Pension as a Percentage of AIE
- Adjustments to pensions and earnings ceiling
All of these indicators and design parameters may seem complicated; however, when we understand the concepts behind them, we will be able to appreciate how they may be used to appraise the scheme’s performance. For me, both the Key Indicators and the Design Parameters can be sub-grouped into three categories, namely, Participation, Benefits and Costs/Funding.
For the Design Parameters, Participation speaks to what is required for an insured person to qualify for benefits. In this case, the insured persons must “Contribute” to the system, they must attain “Pension Age” (whether Early or Normal) and they must accrue a minimum number of “Contribution Weeks” to qualify for the Age Pension benefit.
Once these conditions are satisfied the Benefits speak to what is in store for the person who qualifies. In this case, the beneficiary gets a pension based on accrued Income Replacement Rate (up to the maximum coverage but never below the minimum coverage) and their average weekly earnings.
The Cost/Funding speaks to the relevance/meaningfulness of the coverage to the beneficiary and the reasonableness of the qualifying conditions with regard to the benefit earned. Here we see the utility of different ratios and proportions:
- Ratio of Ceiling to Average Insurable Earnings – Is the maximum coverage too close to the average pension earned? Are persons earning higher incomes receiving fair coverage? Is the minimum pension effective in providing sufficient protection for lower income earners?
- Maximum Retirement Pension Replacement Rate – Is the minimum or maximum coverage close to or far from average earnings, considering the amount paid for the benefit?
- Adjustments to Pensions and Earnings Ceiling – Should adjustments be made to the system with regard to the participation requirements, the benefit amounts and or the meaningfulness of the benefit?
Similarly, each of the Performance Indicators can be grouped under one of the aforementioned headings, Participation, Benefit or Cost/Funding.
The Active Insured’s as a percentage of the Employed Population, the Percentage of Self-employed Persons Making NI/SS Contributions and the Number of Contributors per Pensioner would fall under the Participation section. Here we realise that a large portion of Social Insurance is obtained through contributions from employees, employers and self-employed persons in our country. Thus, the wage levels and the level of participation from these active contributors have a direct impact on our ability to fund the expenses of the system. Also, since these contributors may qualify for pensions in the future, it is important for Social Security to project the number of pensioners and the associated costs to ensure we can meet those obligations, both immediate and in the distant future.
The Benefits and Pensions as a Percentage of GDP and the Number of Contributors per Pensioner are the main indicators directly related to Benefits. The former assesses the benefit and pension costs as a portion of the total value of goods and services produced in the country for a given period. The latter indicator gives an idea of the sustainability of the system with respect to the newly insured, who support the pensions of those who qualified before them. Since the pensions usually represent the highest cost to Social Security systems the significance of these indicators is obvious.
Factors five to fourteen (5-14), are directly related to the Costs of managing and operating such a system, with consideration to the levels of funding available to cover these costs. The Reserve as a Percentage of GDP gives the value of all Social Security assets available to cover the associated costs. The Expenditure Rate indicates the portion of total insurable earnings (for employees and self-employed persons) that would be required to cover the total cost of the Social Security system. This gives a good idea of how effectively the present contribution rate funds a Social Security the system.
The Income Rate expresses total income collected in a given year as percentage of total insurable earnings of contributors. (Here, Total Income = Contributions + Investment Income). The Surplus Rate gives the excess or short-fall of funding total expenses in a given year. It is the difference between total income and total expenditure expressed as a percentage of total insurable earnings.
The Reserve-Expenditure Ratio indicates the asset levels of Social Security available to fund its total expenditure in the given year. That is, it describes the Social Security Year-End Reserves divided by the total expenditure of the given year. For example, if total expenditure in 2010 was $100 and the Social Security Year-End Reserves was $2,000, then the Reserve-Expenditure Ratio would equal 20 (or Social Security assets at the end of 2010 were sufficient to cover total expenditure in the same year 20 times).
The Investments as a Percentage of Reserves, 5-year Average Yield on Reserves (Nominal andReal) describe the investment performance for the given year. Administrative Expenses as a Percentage of Contributions indicate what portion of contribution income is used to cover administrative expenses. While Administrative Expenses as a Percentage of Insurable Wages gives an idea of what portion of insurable earnings would be necessary to fund the administrative expenses of Social Security.
By combining the information from these indicators, we can derive a fair picture of our performance for each given year. These indicators may also inform the Board of potential sensitivity to certain risks with sufficient time for them to seek actuarial advice and to employ appropriate mitigating strategies to manage any negative impact of such risks.