State will face €324bn shortfall over pensions

THE GAP between the State’s future pension and social welfare liabilities and revenues to fund them stands at €324 billion, according to an unpublished report commissioned by the Government, which has been seen by The Irish Times. That figure is almost twice the size of the national debt as it currently stands.

The review of the Social Insurance Fund – the pot into which about €8 billion in pay-related social insurance contributions (PRSI) go to fund a range of benefits – was commissioned by the Department of Social Protection. Last year the fund’s annual shortfall stood at €1.5 billion, or 1.1 per cent of gross national product.

The study estimates that without policy changes, the shortfall will rise to more than 6 per cent annually by the middle of the century. These accumulated deficits up to 2066 amount to €324 billion in 2012 prices.

The report was drafted by audit firm KPMG and was completed in June but has yet to be published.

In the short term, the fund’s deficit is likely to increase pressure for measures to close it in the forthcoming budget. Options include reducing outlays by curbing entitlements and/or an increase in PRSI rates. The former has been mooted by the International Monetary Fund and the latter by Minister for Social Protection Joan Burton.

The Social Insurance Fund’s annual shortfalls are made up by general taxation revenues from the exchequer. The report says that the size of the exchequer subvention will treble by 2030 and increase eight-fold by 2040.

One third of the State’s annual social transfer payments of €28 billion are paid out from the Social Insurance Fund.

Not included are non-contributory benefits, such as children’s allowance and most unemployment benefits, as well as social transfers paid from sources other than the Department of Social Protection, such as health and education benefits.

According to the study, rapidly rising pension liabilities are the main cause of the fund’s exploding deficit in the future.

Demographic changes, particularly increased longevity, mean the population is ageing rapidly. Currently, for every one person over 65 there are 5.3 people of working age. That will fall to 3.9 workers per person over 65 in 2020 and to just 2.1 by 2060, according to the report’s baseline projections.

The size of the projected shortfalls take into account the legislated for raising of the retirement age from 65 currently to 68 by 2028.

Other factors that have widened the fund’s deficit now and in the future are higher pension payments granted over the past decade. In the decade to 2010, the contributory pension rose by 90 per cent, according to the report. When adjusted for inflation over the same period, the increase in real terms was 62 per cent.

A third factor that has widened the shortfall in the Social Insurance Fund in recent years is the decline in PRSI contributions owing to a weak economy.

A possible solution to restoring the sustainability of the Social Insurance Fund’s position, the report says, is to link future benefit increases to inflation rather than average earnings in the economy. This would “dramatically impact the fund finances and alleviate the projected shortfalls”, the report states.

Since the late 1990s it has been government policy to peg the State pension at one-third of average earnings. Pegging the rate to inflation would mean it would gradually fall as a percentage of earnings. That would leave future retirees facing an ever larger fall in their incomes upon retirement.

The study finds that PRSI contributors who get best value for money are “those on the lower part of the income distribution, those with shorter contribution histories, and the self-employed”.

It adds “those on the higher end of the income distribution generally get back less than they pay in”.

The projections are based on a range of assumptions, including demographic changes and less predictable factors such as the rate of economic growth, unemployment and inflation over the next half century.

The report stresses the high level of uncertainty surrounding multi-variable forecasts over the very long term. If, for instance, economic growth is lower than predicted, the size of future pension liabilities will be even higher than the report’s baseline assumption. The report has been prepared to adhere to an obligation on the Department of Social Protection to conduct an evaluation of the fund every five years and covers expected receipts and outgoings over the next 55 years.