A better model: Activation

What if we asked a different question?

As defaults become more widely employed, decisions around employee benefits are tending to fall into the ‘set and forget’ mode of financial engagement. It’s not surprising then that employees are neither invested emotionally in the process nor any more financially savvy because of the process.

But what if we completely reframed the question – and in so doing, reframed the potential answers?

What if we said to employees: “We want you to engage in a long-term savings programme. It’s good for you, your families and the economy. But let’s widen up the opportunity set for you as to how you could use these savings for things that are more relevant to your life at each step in your financial cycle.” We believe individuals would start paying more attention then. A programme like that could help us address the most difficult balancing act of all: How responsible should the government be for its citizens’ well-being, and how much should we hold our citizens accountable for their own well-being?

Shifting our focus to developing higher levels of fiscal responsibility and financial knowledge will surely also have the knock-on effect of alleviating a dependency on government?

In grappling with these questions, we found one other country that has successfully tackled exactly these issues.

Singapore: a case in point

Singaporeans may seem worlds apart from South Africans and the types of trials that have affected us over the last few generations. But there’s one aspect in Singapore’s economic success story that is worth noting. Just before Singapore achieved self-government in 1959, it looked set to introduce a social insurance or public assistance plan similar to a number of other post-colonial government-funded social security systems. But wiser minds prevailed, and the view emerged that these limited government resources could be better applied elsewhere. Retirement savings were simply not the highest priority for an emerging economy fiscus¹.

When it came to determining how to cope with the social consequences of a highly diverse population with deep ethnic divides and a potentially explosive housing problem, Singapore made the conscious decision that it was not in their interests to become a welfare state. As such, the central tenet of their compulsory savings vehicle, the Central Provident Fund (CPF), was that “the individual was responsible for determining how best to secure the future of their financial well-being”². That meant that, although both saving and preservation in the fund were compulsory for citizens of Singapore until the age of 55, there was still an extraordinary amount of latitude given to individuals on how best to apply those funds to secure their financial protections. As the CPF evolved through the years, the fund expanded to the point where individuals could determine whether to use their savings to fund their housing, their (or their children’s) further education, their health (with options for basic medical coverage, additional hospital coverage for emergencies and post-retirement frailcare demands), their investments, their income protections, a top-up of other family members’ retirement or medical coverage, longevity insurance and, of course, their retirement income.

What was particularly bold about the Singapore model is that while it acknowledged that saving for retirement was indeed important, it was not seen as the only important priority for a developing economy or the citizens of that economy who were still battling to acquire the basic necessities to maintain a viable financial existence. It turned out to be the right decision for the country at that particular stage. Where developed countries have used social welfare to promote social rather than economic goals, Singapore was singular in its efforts to employ social security and a housing policy to serve economic development. This transformed Singapore both physically and socially.

As Vasoo and Lee point out, “It also differed from the pooled-risk system of Western welfare states where social security benefits are not directly linked to personal contributions. The CPF has been designed to help people become more self-reliant. The idea is that the financial burden of social security should remain within a generation and not be shifted to the younger generation. The advantage of such a system is that, when a society ages, the increasing burden of care of the elderly will be borne by individuals and families with savings, and not shifted to the state”³.

Singapore’s benefits model provided social protections, but migrated the problem from a more typical tax-based system of funding welfare to a savings-investment model of asset accumulation. The net effect was that Singapore eventually evolved into one of the lowest tax bases in the world, a feature that was particularly attractive to foreign investors.

At the same time, the CPF model also provided the government with an attractive self-generating pool of savings that they could tap into for special development funding.

By underpinning the system with a socio-economic model that promoted “self-reliance, a traditional family support system, thrift and a positive incentive to work, and non-inflationary economic growth”4, the Central Provident Fund provided a powerful impetus for ingraining many of the values around fiscal responsibility that have helped make Singapore the economic powerhouse it is today.

How much of this financial success story can we attribute to the Central Provident Fund model? This is a difficult question to answer with any degree of certainty. The development economists who evaluate the programme would argue that this has been one of its greatest achievements – and we will get to that point shortly⁵.

But pension fund experts have a different assessment. From the perspective of the Melbourne Mercer Global Pension Index, Singapore currently ranks only one grade higher than South Africa at a C+ score⁶.

Importantly, the Melbourne Mercer Global Pension Index bases its assessment on the effectiveness and sustainability of the social protections at retirement. What’s not included in the analysis is whether the programme might have been successful at helping individuals (and the country of Singapore) achieve broader financial goals throughout their lives.

In developed economies with a maturing demographic, retirement savings need to take the centre stage in policy debates around social welfare. In developing economies with limited resources though, it’s all about how a long-term savings programme can provide the greatest bang for buck for all stakeholders.

When retirement fund experts Olivia Mitchell and David McCarthy evaluated the Central Provident Fund, the evaluation was in the context of how well the system addresses the economic challenges of population ageing. Their assessment: because of early, potentially sub-optimal allocation choices (say, towards housing at the expense of retirement savings), members of the CPF might find themselves asset rich but cash poor when they enter retirement. While the real return on that property may be close to 5.8%, the income replacement from the residual retirement savings might typically rise to a replacement ratio of only 28% of final salary.

While this criticism of the potential shortfall is valid, perhaps the measure of real value to the individual needs to cover their and their families’ whole financial journeys, not just the end-game of retirement⁷.

When development economists Amartya Sen and Michael Sherraden weigh in, the assessment has a decidedly different flavour to it. What they see embedded in the CPF model ties more neatly into what they would term asset-based development programmes. Asset-based development is all about formulating an integrated approach to building human, social and economic capital. As development economists describe it: “The theory behind asset-based development or welfare policies suggests that while income facilitates immediate consumption, social development over the long term occurs primarily through asset accumulation and investment. Assets may not only provide individuals with the ability to exert control over resources that can increase their financial security, they might also orient owners to future aspirations and be linked to positive economic, psychological and social effects”⁸.

The rising popularity of asset-based welfare programmes stems from a post-1990 shift in development thinking. What would be the most effective way to leverage an individual’s self-determination around their financial well-being? What Sherradan argued was that “people’s behaviour and attitudes are affected by access to assets, even minor ones. This in turn affects their ability to make choices and their human capability or human capital”9.Where welfare policies for the poor tend to focus on ‘income-for-consumption’, asset acquisition policies change the focus for families and communities from maintenance to capability building.

As Nobel prize winning economist Amartya Sen described it: it facilitates “the substantive freedom of individuals to achieve alternative functioning combinations” where functioning “reflects the various things a person may value doing or being”¹⁰.

Effectively structured, these types of savings programmes are designed to provide people with limited financial and economic resources with opportunities or knowledge to acquire and accumulate long-term productive assets – assets that can produce other assets such as housing, education, financial savings and income-generating opportunities10. These programmes tend to focus on deriving financing access from a savings model, as opposed to a credit model. Their most distinctive feature, though, is that they provide the funding or savings participant with guidance and knowledge on how to most effectively apply their new access to income leverage.

And this is where the concept links around to what we argued in Benefits Barometer 2015: 'The new language' as being an imperative for both policymakers and employers: achieving a level of financial stability and capability in individuals, whether today, tomorrow or the post-retirement future, means we have to start helping individuals solve problems and achieve aspirational goals that have the greatest meaning to them or their families.

The fact that the Singapore model has been put to the test since the early days of their independence in 1965 suggests that there is also something particularly robust about this model. But should the system necessarily be a role model for South Africa? Probably not, given its current form. To begin with, this is a 100% government-administered initiative. At this point in South Africa’s evolution there are too many other priorities on government’s plate to undertake a project this ambitious. Secondly, unemployment differences (2.5% for Singapore, 24%+ for South Africa, averaged over the last 20 years) and geopolitical differences create other challenges. A country can only function without social insurance or tax-financed redistribution when full employment is the effective operating model. South Africa doesn’t have that luxury.

But, if we could all agree that it is the spirit of what this model is trying to address that is powerful and not get caught up in trying to emulate the details of their programme, then we believe there’s much of the essence of their model that we could begin to capture through our private occupational funds.

Let’s consider the salient points about the Singapore solution. What is it that makes it effective? How different are our own circumstances? How likely is it that we would be similarly successful?

• Fifty years ago, when Singapore first started evolving its Central Provident Fund model, Singapore was regarded as an emerging economy of lower to lower-middle income workers with limited prospects in a resource-starved economy. Housing was the number one social issue, with floods of migrants from Malaysia and northwards crowding into informal settlements that ringed the city.
• From the start, though, Singapore was determined not to become a welfare state. The country has yet to develop a proper social security system. Addressing issues of social protections through grants, subsidies or risk pooling would not be an option – not yet at any rate. Rather, Singapore wanted to cultivate entrepreneurship and self-sufficiency.
• Instead of trying to develop a range of social protections that the Singapore government would parcel out to citizens, it identified which aspects of social protection an individual could do a better job of prioritising for themselves. These five, highly personalised savings priorities were: housing, education, health, risk benefits and retirement savings. It then created an enabling environment that ensured that these required protections were adequately controlled and managed.
• Today, long-term savings for all is compulsory. It’s non-negotiable. And the number of contributions (20% for employees, 20% for employers up to certain caps) is also dictated by government – although this can vary in response to broader economic pressures.
• There is only one long-term savings fund for Singapore – full stop. It is administered by the government and unless you elect to prioritise investments with your savings – by investing into unit trusts, individual share or other investment products with a portion of your assets as desired – the government manages your assets. That means there’s no need to switch funds when you switch jobs. Withdrawals are only permitted when you turn 55, if there’s a medical emergency, or if you leave the country. This is a huge bonus for ensuring these long-term savings initiatives deliver what members require.
• By effectively employing a notional defined contribution fund, where a portion of members’ savings were rolled up into an interest-bearing fund, the government could ensure that a minimum retirement income could be almost guaranteed to members without introducing market volatility. But above and beyond funding that minimum sum, employees could choose where to allocate their savings and which savings agendas should take priority in their lives.
• The minimum sum calculation reflects the amount required to buy an annuity that could allow a lower-middle income retired couple to maintain a basic living in Singapore. This contrasts with net replacement ratios typically used in South Africa that calculate how much you would need to save to buy an annuity that would replace some portion of your own personal income at retirement.
• Should a member not be able to meet that minimum sum allocation because, for example, they chose to fund their housing requirements instead, the government could provide home equity release funding to cover the shortfall.
• Importantly, the CPF recognises that it is the financial stability of the extended economic family that is important. Savings options such as the Child Development Accounts (which target child support from birth to six), the Edusave Scheme (for the benefit of school-going children) and Post-Secondary Education Accounts all allow parents to channel savings into the advancement of the next generation. In addition to the Medisave and Medishield options that offer different degrees of medical coverage, the fund also makes provision through Eldershield to address long-term care and frailcare housing requirements for family elders. Finally, there’s a facility that allows a fund member to top up any other family member’s protections or benefits.
• Perhaps the greatest innovation of the CPF is the recognition that for individuals to really engage with a long-term savings plan, they need to be able to leverage their account resources at strategic points along their financial life cycle. These funds could ultimately be used for a select range of asset-building and capital development purposes in the course of an individual’s financial lifecycle – while at the same time ensuring that there are minimum reserves to fund post-retirement income and medical aid needs.

Note the shift in focus as the economy evolved. At the outset in 1965, the most important focus for Singaporeans was on asset acquisition and social mobility. Now, as a fully developed economy, Singaporeans are channelling most of their savings into retirement.

The point here is that an economy constantly evolves. What might have been an appropriate structure at one point in a country’s evolution may not be appropriate in a later era. As such, its pension system needs to evolve to accommodate this constant dynamic of change. This too appears to be part of the DNA of the Central Provident Fund¹¹.

How different is the Singapore situation from South Africa? Demographically, the number one problem in Singapore is immigration. This has been both a bane and a blessing. On the one hand, immigrants have helped fuel the entrepreneurial spirit that has been such an important contributor to Singapore’s growth rate. It also created a housing problem of seemingly insurmountable proportions soon after independence.

South Africa, by contrast, had apartheid. That had a crushing influence on any entrepreneurial drives that might have been in bud. More importantly, it meant that several generations representing the majority of our population were deprived of an opportunity to own and manage assets. This had serious consequences for the general financial capabilities of this population.

Like South Africans, Singaporeans also have a significant sandwich generation problem where newly qualified professionals entering the workforce find they must both care for their ageing parents and for their own children.

While neither country is saddled with a significant old age problem, South Africa has a different burden in the number of children still under age 15. This leaves South Africa with a significantly higher dependency ratio than Singapore, 53% against 37%¹². The dependency ratio is an age-population ratio of those typically not in the labour force (the dependent part – both children under 15 and adults over 64) and those typically in the labour force (the productive part). It is used to measure the pressure on productive population.

Here’s what we’ve learned over the last few years from focusing on the issue of financial well-being in families in South Africa:

• An effective contribution of 40% to a long-term savings programme might seem high, but it’s not actually unrealistic. Consider that in South Africa, the average employed family is contributing 15%+ for retirement savings, 10% for medical aid schemes, 3%+ for risk coverage and a further amount towards educational savings. While there’s some difference in the contribution levels, it’s not unthinkable to imagine that South Africans might increase their allocation to a long-term savings fund that achieved more than just retirement savings.
• Currently South Africans are retiring with 32% replacement ratios. This is a function of the fact that as employees move from one company to the next, only 8% appear to preserve even a portion of their previous savings¹³. Until we sort out the issues around what needs to be mandatory in our long-term savings programme, this will continue to be the norm in South Africa.

We can engage with this reality in the following ways:

• We can challenge whether securing a 75% replacement ratio really is the most critical target when there are any number of ways that individuals can secure a stable retirement environment above and beyond that explicit income.
• We can extend an individual’s commitment to their long-term savings programme by enabling them to solve for other imperatives in addition to retirement income.
• Provision could be made into an emergency savings vehicle that allows them to dip into reserves before being forced to cash in their funds.
• Focus could be concentrated on structuring solutions that allow individuals to continue contributing into an identical programme with identical benefits irrespective of who their employer is.

In Benefits Barometer 2014: 'Key concept for engaging with our members' we talked about ‘just-in-time education’. What we now also know is that individuals only start to engage with their financial well-being when they either have an asset they want to acquire or an asset they risk losing. This suggests that the more we can link an individual’s savings to a tangible asset, the higher the likelihood of getting that individual to engage.

Ask an individual “What matters to you?” and the likelihood is that people will struggle with the answer. On top of that, ‘what matters?’ is likely to change for that individual every nanosecond. That’s where having a circumscribed set of options such as ones provided by a benefit platform can play a vital role. It asks the question: which of these set of circumscribed goals would you prioritise? It then sets up guard rails and rule-sets which govern what you can and cannot do within those parameters. People, for the most part, need this level of guidance, especially in a system they don’t fully understand and they expect to be able to trust the experts.

It’s also not enough to offer people options such as pension-backed housing loans. The real challenge for first-time asset owners is not so much the funding as it is learning how to manage the ongoing financial responsibility of owning an asset. Bottom line: people are looking for products and solutions that actually teach them how to get from point A to point B in their financial journeys.

Concluding thoughts

Armed with these parameters and caveats, let’s ask the really interesting questions: How far could we possibly push our current employee benefits framework and how close could we come to capturing some of this success story? We think further than you might first imagine.

The great irony here is that after 50 years of successfully evolving this model for economic self-sufficiency, Singapore today is re-examining whether this model goes far enough to satisfy the needs of all its citizens. Suddenly unemployment relief is becoming more and more a concern. Recent recommendations from policymakers and the public have also pointed to providing tax-approved corporate pension funds, to incorporating financial counselling and finally to widening the inclusiveness of the system to freelancers and the self-employed. Singapore has reached a crossroad – it is now more ‘developed’ than ‘developing’ and the CPF must evolve to meet new challenges.

But South Africa is in a very different evolutionary space. We might be closer to the Singapore of the early 1970s. The question for us is this: If we want to develop a solution that speaks to our more immediate needs, could the experience of Singapore possibly hold the key?

References

1 Singapore Ministry of Finance, 1964
2 Ng, 2000
3 Vasoo and Lee, 2001
4 Tan, 2004
5 Sherraden, 2009
6 The Mercer Melbourne Global Pension Index, 2015
7 McCarthy, 2002
8 Loke and Cramer, 2009
9 Ibid
10 Ssewamala, Sperber, Zimmerman & Karimli, 201011 Loke and Cramer, 2009
12 Loke and Cramer, 2009
13 Alexander Forbes Research & Product Development, 2015