Introduction

Thank you for the invitation to speak to you today at this luncheon event hosted by the Hong Kong Retirement Schemes Association on Best Practice and Issues with a Compulsory Superannuation System Including Default Funds.

This is my 4th visit to Hong Kong in the past year. I addressed the Asia Pacific Pensions Forum and 3rd Cross Straits Pension Systems Forum in September and October 2011 respectively. Copies are available on my website.

On each of my visits I have taken the opportunity to update my knowledge of the Hong Kong system and proposed developments including extensive briefing on proposed choice provisions planned for mid 2012 as well as meet many participants in your system.

In addition to my over 25 years involvement in the development of the Australian system, I have also studied, visited and presented in Switzerland, UK, Ireland, US and South Africa.

Hong Kong and Australia

Before turning in detail to the specific topics that I will comment on today it would be useful to provide a summary comparison of the key features of both jurisdictions. A detailed list is attached.

Australia introduced a compulsory defined contribution (dc) system in 1986. The initial 3 % employer minimum contribution was added to by the Superannuation Guarantee (SG) in 1992 further increasing the employer contributions to 9% over 10 years by July 1 2002. This will again increase to 12% by 2020. On average a 3-3.5 % voluntary contribution is also made.

All employees are covered subject to A$ 450 minimum monthly earnings paid to an approximate maximum of A$ 225,000 a year. 92% coverage results.

There is still a significant largely closed defined benefit legacy in the system.

Current asset valuation is A$1.4 T.

There are 381 funds (99 default and 143 retail) and 452,000 self managed. Governance is via trustees who have the legal responsibility to determine investment, including default, subject to a prudent person diversification principle and reporting their investment strategies to the regulator - the Australian Prudential Regulatory Authority (APRA).

Fund Choice the legal right of the member to place all their contributions with a fund was introduced from July 1 2005.

Investment Choice within a fund has existed since 1986 and rapidly evolved well beyond an initial menu of default plus guaranteed options with some 14,000 investment options today.

Fees average 1.25% with no identified reduction over the past 10 to 15 years.

The Hong Kong MPF is somewhat similar to Australias. Established 10 years ago with 5% - 5% employer/employee contribution with an average additional 1.7% employee voluntary contribution.
All employees are covered including the self employed (unlike Australia) however minimum and maximum thresholds are considerably lower than Australia at US$ 800 versus US$ 5400 a year and US$ 2500 versus US$ 225,000 a year respectively.

Current asset valuation at US$ 80b versus US$ 1.4 T in Australia reflects both a less mature system as well as the much lower maximum contribution threshold.

Governance is via the life insurance entity with a close supervision of investments by the Mandatory Provident Fund Schemes Authority (MPFA).

Scheme Choice but only the employee contribution, is scheduled to start this year.

Investment choice is provided with a more limited range of options than Australia.

Hong Kong has less schemes than funds in Australia but more schemes in the ORSO somewhat similar to corporate equivalent in Australia, 6118 versus 168 (however there are thousands of corporate arrangements classified as retail with little data available). Default funds in the private sector 60 and in the public sector -39 are far more significant than Hong Kong. Self managed does not exist in Hong Kong.

Australias system is far more complex in terms of electable options that can be made by individuals at 14 versus 2. Number of intermediaries, planners/sellers appears roughly equivalent.

Fees average higher in Hong Kong at 1.8% versus 1.25% in Australia probably because of a less mature system (lower average account balances), a more limited default system (default has lower distribution costs) the far lower contribution cap, and the MPFs schemes fees represent a part of the system not the whole system.

Eight topics for specific focus

Retirement Age

Australias state pension age was 65 for men and 60 for women for much of the period following its introduction in 1910. In 1995 the age for women was gradually increased up to 65. From July 1 2017 qualifying age will be increased to 67 by 2023.

Super, by contrast had no preservation of employer contributions until 1984 when a minimum age of 55 was introduced. In 1996 employee preservation was added and this was then increased to age 60 for those born between 1 July 1965 to1970. The Henry Tax Review recommended an increase overtime with the age pension, however this was ruled out by the Rudd Government in 2008. Hong Kong has the same access age of 60 if no longer employed or 65.

Given improvements in longevity it is rational that pension access ages will be increased otherwise the fiscal cost will increase beyond that which society is willing to pay. The longer this reform is left the more difficult it becomes politically as evidenced by the challenges faced by many European countries. In Australias case an eventual conveyance of super access age with state pension age is inevitable otherwise an increasing number of individuals will access their super at 60 use it, then utilize their state pension at age 67.

Lump Sum Payments

Australia, in the now predominate dc system, is lump sum. On retirement there is a actuarial calculated minimum draw down based on average life expectancy but no maximum.

This issue was not significantly examined by either the Henry or Cooper Reviews however a specific review of Post Retirement provisions was announced at the Tax Summit in October 2011. There are no details as yet.
Default fund/trustee responsibility and accountability

Australias default funds cover the majority of employees in both public (federal, state and local government) and private sectors. They are not for profit or profit for members. Fund choice/selection is permitted however inertia means most remain in their default fund and default investment option.

Trustees provide governance in all sectors. There must be an equal number of employee/employers in the default fund and corporate sectors with a two thirds voting rule. Retail and Self Managed also are required to operate with trustees. All are subject to a statutory prudent person best interest of the member principle, oversighted by APRA except for Self Managed where a much lower level of supervision is exercised by the Australian Tax Office (ATO).

Accountability by trustees to members including in self managed, is in reality limited given the complex and compulsory nature of the systems. At least 6 monthly reporting is required to members and trustee education and skills as well as diversity has increased significantly over the past decade. Nevertheless this was a major area of examination by the Cooper Review and APRA are currently completing a review of trustee governance with a view to upgrade probably to at least the requirements of a company director.

Preserved Accounts

Preserve, multiple and lost (unclaimed accounts) are widespread in both Hong Kong and Australia at 3.8m and 20m (5.8m lost) respectively. This represents a major operation inefficiency in both jurisdictions. The Cooper Review examined this closely and recommended a system of auto-consolidation after a period of time. The government is to introduce this for accounts with a balance of less than A$ 1000. This is a default solution which reverses inertia, if the member fails to take any action in a given time it will be taken for them unless they opt out. Interestingly in the UK the Department of Work and Pensions (DWE) has released a consultation paper on the same topic.

Choice of Fund

Choice of Fund was introduced in Australia on 1 July 2005 other than for db funds. It did not result in an average fee reduction in the system. This topic is covered in detail in my speech of 26 October 2011 to the 3rd Cross Straits Pension System Forum.

Fees and Benchmarking

Key fee data published together with long term returns not just to members, but also on an aggregated system wide and fund basis is critical both to expose greater transparency for effective price competition and inform policy debate in identifying system inefficiency. Surprisingly, given the compulsory nature of systems this is lacking in many jurisdictions. In Australia funds publish to members as well as report to the regulator APRA which in turn publish good aggregated system wide data but not fund data. Data on the Self Managed sector it is far more limited. In Hong Kong there is good overall data on each fund however it lacks a detailed segmentation of type of fees and costs across the entire system. This is an area where governments and regulators need to be more pro-active in compulsory systems. It adds to more effective policy design and improves international comparison between systems which is currently difficult.

Experience with modern IT and Cost Effective Education

When compulsion was introduced in Australia both existing funds and those newly created made the most effective use of IT then available, in the main contracting out to a small number of specialised providers. These systems were then adapted to a rapidly evolving far more complex system. For example the increased range of investment options and added member electable options such as contribution splitting, account splitting on divorce, childrens accounts, insurance options etc posed formidable IT challenges. In the main IT providers were able to adapt and update existing systems. Increasingly, however due to the limitations on updating original systems new IT systems have been designed to a point where most providers have amongst the most advanced DC, IT in the world.

There are a number of limitations on a system wide basis however that individual funds can not address. For example, whilst wanting transfers in from other funds they are sometimes reluctant to see transfers out. Fund admin systems often lack mutual recognition. The majority of employers particularly small businesses still make paper based contributions. In addition much advice and education is still face to face which is costly and inefficient. These were all issues examined by the Cooper Review and a set of major reforms Stronger Super and My Super are scheduled for consideration by the parliament in the next few months.

Basic State Provision

There are many in society who either are not employed or employed for limited periods of their adult life. The state, particularly as societies have developed economically and family support structures evolve therefore provides support. Compulsory, employment related, pension systems are a large part of the solution however a first pillar basic support is very necessary. In Australias case it is the basic state pension of A$ 1378 (single) per month, indexed to movement in the Male Total Average Weekly Earnings (MTAWE) and paid from budget. Australia has one of the lowest state pension of advanced economies and one of the very few that is means tested.

Given the rapid economic development and social change occurring in most Asian countries this is an area where many still need to do more.

Conclusion

Pension Policy design and implementation is a major public policy issue in most countries of the world. In many advanced economies, perversely, they struggle with overprovision systems designed when life expectancy was far lower but today are a major cause of the fiscal crisis many are experiencing. In many developing countries it is the reverse they need to develop an appropriate mix of public private provision rapidly that is sustainable. In this regard there are many lessons to be learnt from other countries experience. Australia with the most sustainable, funded system of advance economies, with its extensive experience in IT administration, regulation, governance and investment can provide many useful lessons.

Australia/Hong Kong
Retirement Systems Key Comparisons