"We need to think of workers 55 or over as our productivity drivers, rather than people we want to retire…"
Dr David Knox, Partner, Mercer Worldwide
In less than two years, the first of Australia's baby boomers will reach retirement age. This milestone marks the onset of profound challenges for Australia as an economy, and as a society.
In the next decade, and beyond, there will be many more older Australians placing increasing demands on the provision of health services, aged care and social security. At the same time, there will be proportionally many fewer Australians of working age contributing to the tax base. This equation will impose unprecedented stresses on government finances.
The Commonwealth Treasury has projected budget surpluses through the period of the forward estimates, and most economists predict rising levels of affluence for the nation well into this century. But as the retiring baby boomers enter their 70s, budget pressures will mount. As outlays climb and revenue-raising capacity declines, how will the shortfall be met? Higher taxes? Piling debt onto future generations? Cuts to services? Will Australians have to modify their expectations of what governments can and cannot do?
An exodus of baby boomers from the workforce will also compound the shortage of skills and experience across many industries, potentially with far-reaching impact on the nation’s productivity, competitiveness, economic growth and living standards. Warns leading actuary, David Knox, a partner at Mercer, "It's like a tsunami. It's coming, and we have to be ready for it."
As part of CEDA's annual State of the Nation conference, leading thinkers came together to discuss the implications of this major public policy challenge. They debated a range of responses, including improved labor force participation, higher skilled migration, raising the pension age, better structured superannuation – and encouraging the boomers to stay on at work.
According to Dr Knox, an effective policy response will require first and foremost a change in mindset, not only among policymakers but also for senior corporate managers.
"We need to think of workers 55 or over as our productivity drivers, rather than people we want to retire…every employer will need to be thinking about how they can keep people longer. It requires quite a different attitude from what we had 15 or 20 years ago."
The age bubble
In economic terms, next year will be about as good as it gets in Australia's demographic evolution. From the late 1960s, courtesy of the arrival of the baby boomers in the workplace, Australia's working-age population had been growing faster than the population as a whole, yielding more taxpayers to cover proportionally fewer dependents over 65 or under 15. Next year, this age dependency ratio will reach an historic low.
"We have really had very favourable demographics, with that huge baby boomer cohort in their prime working age years, and propping up the strong rate of economic growth" said Professor Ann Harding, director of the National Centre for Social and Economic Modelling (NATSEM).
Yet over the next 10 to 15 years, the trend will turn, and turn sharply. "In 1960, there were one million Australians aged 65 and over," said Professor Harding. "For every single one of those people, having a happy retirement, there were about 7.3 people of working age. Going forward to 2040, we are expecting there will be about 6.6 million people aged 65 and over, and for every one of them, there will only be 2.4 working age taxpayers."
This is explained by the boom and bust cycles of population growth in postwar Australia. High and rising fertility rates in Australia in the 15 years after the Second World War produced the baby boom, when there were an average 3.5 births per woman by the early 1960s. By the early 1980s, however, fertility had fallen rapidly to just under two children per woman. Since then, the decline has been more gradual and remains at about 1.8 children per woman today.
"At the same time as the baby bust has been occurring, life expectancy has been increasing," said Professor Harding. "Someone born at the beginning of the last century could expect to live less than 60 years on average."
"From a social policy perspective, the problem of funding decades of retirement on the age pension did not really exist as, on average, Australians died before they reached pensionable age. The picture is very different today. An Australian woman born today can expect to live about 83 years, representing almost two decades on average on the age pension, with men living about five years less on average."
While higher life expectancy is one measure of the success of a society, it also brings additional costs. People aged 65 and over are four times more likely to require hospitalisation. The health costs of the average 75-year-old are about three times those of the average 25-year-old. Combine the greater needs of an ageing population, with rising public demand for the latest and best medicines and treatment, and the impact on health budgets is obvious.
The federal Treasury's latest Intergenerational Report assessed the impact, assuming death rates, fertility rates, migration and spending programs stay constant. Professor Harding said, "They expect health costs to double as a proportion of GDP, and aged care to more than double. Government is going to be under tremendous pressure on the outlays side. It is also going to be under strong pressure on the revenue side. They are expecting the economy’s growth rate to be much slower in the next couple of decades."
Professor Harding said that when you put both sides of the Commonwealth Budget together, both the revenues and the outlays, and assume current policy settings remain unchanged, the projected shortfall would equate to 3.5 per cent of GDP (in today’s terms, almost $40 billion a year).
She said this prospect was untenable. "Obviously, no-one is going to let this happen."
Fiscal policy options would include running up debt, increasing taxes, or dramatically winding back spending. Although the GST rate of 10 per cent was not included for reappraisal in the Rudd Government’s taxation review, Professor Harding said it might well have to be revisited in future.
But as a CEDA information paper on raising the pension age revealed last year, the notion of increasing of progressively increasing the size and cost of government entails considerable risk, quite apart from the political difficulty of proposing higher taxes.
What if working-age Australians find levels of tax so punitive that they become a disincentive to live or work here? There are a range of professionals - nurses, engineers, lawyers, teachers, to name a few - whose skills are highly mobile in a global economy. Would younger workers consider emigrating if they came to believe they were being asked to carry a disproportionate burden in providing for the boomers in retirement?
If governments are facing pressing challenges, so too are older workers. Entrenched attitudes about the entitlements accompanying retirement are hard to shake. For this reason, many baby boomers may have organized their finances on the presumption that they would be cared for in their older age, just as they had contributed to the costs of services for their parents’ generation. They may expect the future taxes paid by their children to meet the costs of services they require as they age.
"Baby boomers are not as well prepared for retirement as people might assume," said Professor Harding. "Latest ABS data shows baby boomers have a lot of their wealth tied up in their homes and too little in superannuation. Average equity in their home is $160,000, which is 42 per cent of their total wealth, and not able to be tapped into readily as a funding stream for retirement. There is only $65,000 on average in superannuation."
Professor Harding said the problem was more acute for older baby boomers, especially women, who may have spent much of their working lives not making superannuation contributions.
"The richest one-quarter of baby bombers have net wealth approaching $1 million. They will be okay. But the poorest one-quarter have only $68,000 on average of net wealth, so they have very meagre nest eggs to get them through."
Although Australia's retirement incomes system was good compared to many other OECD countries, reforms such as compulsory superannuation had arrived too late for some of the older baby boomers. Professor Harding said Treasury estimates indicated most baby-boomers would not have sufficient retirement income to sustain them through their older years.
"Most older Australians in retirement are still going to be dependent on the aged pension, or getting a part-pension. Most of the seniors are going to have a very austere standard of living. Of course, many countries in Europe face much more severe population ageing problems than we will."
Professor Harding briefed State of the Nation delegates on sophisticated modelling now under development by the Commonwealth Government, based on "dynamic microsimulation".
This would allow policymakers to explore in far greater depth questions about the likely retirement outcomes for particular groups, the fiscal implications for government, and the distributional impact of possible changes in superannuation policy or labour force behaviour. The model would take a population sample of 200,000 individuals and project forward through the work-life cycle, feeding in different scenarios to test the economic and social impact of particular policy or taxation measures.
"We're interested in answering questions like if all the baby boomers could be persuaded to work an extra three or four years, then what is the knock-on impact to their retirement incomes and how much lower is the tax burden of Generation Y?"
Governments in Europe, the United Kingdom, Canada and the US were using similar models to help inform and plan policy responses. "We are not alone in this," Professor Harding said. Yet the challenges are formidable.
Growing the economy faster, by removing structural impediments to growth and encouraging greater labour force participation, had to be at the forefront of any reform agenda. "Stronger growth is one way out of this," she said.
Higher levels of migration were often cited as another policy lever to rebalance the ageing demographic, but, according to Professor Harding, no level of migration will be sufficient to do that job. Although contributing to the overall size of the population, high levels of migration tended not to bolster the age profile of the population at the younger end.
David Knox agreed. "Even though migration is higher, it's not going to stop the ageing...it will ameliorate it marginally, but it’s very much at the margin."
Building up the national nest egg
All the speakers in the State of the Nation ageing session stressed that improving the nation's superannuation savings effort would be a critical policy response.
"Our years in retirement are getting longer and, importantly, our expectations for our standards of living in retirement are increasing," said Dr Knox.
"Many of the baby boomers are not expecting just the age pension for their 20 years of retirement. They want a little bit more than that. So what can we do in the super space to actually improve that environment?"
Pauline Vamos, chief executive of the Association of Superannuation Funds of Australia Limited, said Australia currently had a superannuation pool of $1.1 trillion, which was expected to rise to $3 trillion by 2017. As an example of the impact of this accumulation of funds and assets, the superannuation industry currently owned 21 per cent of listed shares on the stock exchange.
However, as many more Australians grew older, retired and began to draw on their superannuation, Ms Vamos said the focus would shift progressively to the "de-cumulating" of savings and whether Australians would have sufficient funds to see them through.
"People are living a lot longer, and their money will run out, around the 85-86," she said.
The self-employed were particularly vulnerable. "The majority of self-employed will retire with little or no super and little or no other assets and they make up 10 per cent of our workforce."
The major distinction between overseas trends and Australia's approach to retirement incomes was the provision here for lump sum payments. "They have mandatory income streams," she said. "You don’t get lump sums. They are shocked every time I tell people we don't have mandatory income streams. They see that as the one deficiency in our system."
Another trend overseas was a growing market in insurance cover to pay for ongoing costs and health care when people reach advanced ages of 85 and over. "Post-retirement is a key issue for our industry," she said.
But they key to resolving the challenge of an ageing population long term was to ensure people contributed adequately to superannuation. A key platform of the superannuation industry was its '15 by 15' goal. "We want every employee to have 15 per cent of their income contributed into super by 2015…through that approach, the fear surrounding ageing will diminish."
Dr Knox agreed, arguing the public sector rate of employer contribution at 15.4 per cent should be an aspiration for the entire workforce. And there had to be a greater focus on providing people with income streams throughout their retirement years, rather than lump sums.
"I think we have to try to cap that drawdown phase," he said. "And throughout this whole period, we need to improve financial literacy…if people understand the possible problems, they're more likely to respond by saving, and by contributing to super. In the long term, if you've got more super, you'll be less of a drain on the government."
Raising the pension age
Another major policy consideration for government is whether to raise the pensionable age. The age at which men qualify for the pension has been fixed at 65 since the pension was introduced in Australia 100 years ago, yet Australians are living much longer than they were a century ago.
David Knox first advocated the notion of establishing a link between the pension and life expectancy in a CEDA information paper in October last year. Revisiting that theme at the State of the Nation event, he said governments around the world, including the US, UK, Germany, Denmark, Japan and Ireland, had foreshadowed plans to lift the pensionable age, announcing the policy well in advance so people had time to plan.
Australia should adopt the same approach into the future, and move its pension age up to 67.
Dr Knox said the Keating Government took the first step down this path in the early 1990s when it announced the age at which women could draw pensions would increase gradually from 60 until it eventually matched the male pension age.
"We've now reached 63.5 for the female age but the male age hasn't increased in 100 years. Let's do something about it. My suggestion is twofold. First, we've got a natural increase of the female pension age. Let's keep it going and let the men move at the same time until we reach 67. Give people a few years' notice but, basically let's move it up to 67.
"Secondly, let's put an automatic adjustment in it so that as we continue to live longer, we move it up gradually…it would change our mindset. It would mean people would have in their mind a more dynamic approach to retirement."
Dr Knox said this gradual approach would encourage greater flexibility of thinking about retirement, encourage people to work longer, and improve the sustainability of Australia's retirement income system.
A move on the pension age could also provide an opportunity for government to look at the same time at raising from 60 the age at which people can draw on their superannuation tax-free.
"You would still allow people to access some of their super at 60, the preservation age, which is needed for blue collar workers and people whose body, if you like, is worn out," he said. "But in terms of the tax-free age, if we incremented that gradually, with appropriate phasing-in periods and increased the pension age at the same time, I think you've got a pattern there that starts to say, 'let's all work longer'."
Keeping the boomers at work
Dr Knox said there was also a need for a fundamental reappraisal of the value of older Australians in the workplace. Employers had to change their attitude to workers aged 55 or over.
"We have to find the right package for them as individuals, if we are to get them to work for another three or four years," he said. "That might be in terms of job description, it might be in terms of the way you remunerate them, it might be in terms of how often they work. Do they take two days a week off to look after aged parents? Do they take the winter off because they want to play golf up in Noosa or Port Douglas. You have to be flexible as to how you employ them."
Dr Knox cited as an example a recent innovative campaign by Bunning's to recruit older tradesmen to provide expert advice to customers at their hardware outlets. "They have recruited plumbers and other blue collar workers who are sick and tired of crawling under houses. Their body will no longer handle it. So they're now in the Bunning's stores, giving us do-it-yourselfers advice as to how we do the piece of plumbing, what equipment we need. A very clever piece of recruiting."
Dr Knox said older workers were more likely to be healthier and fitter than in the past, and reliable. He said he knew of major employers like Myer and Shell that were working to bring about a shift in thinking, but part of the problem in corporate Australia was that "a lot of the senior management now grew up in the last 15 to 20 years where you actually started to retrench people when they hit 50, 55," he said. To move beyond this "1980s behaviour" required a change in mindset that would have to "come down from the top".
The key would be a new ethos that made workers over 55 feel welcome and valued. "This needs to be on the strategic agenda of employers as well as on the strategic agenda of governments," he said. "The baby boomers will be in the driver's seat. If you don't offer them what they want they will leave. If you offer them what they want, the package they are interested in, I think some of them are going to stay around and work a little a bit longer."