Covid-19 May Destroy Chile’s Iconic Pension System

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If last year’s national convulsion wasn’t enough to break up Chile’s romance with market-friendly technocracy, the spreading civic choler over the miseries brought on by the coronavirus pandemic may finish the job.

Yes, President Sebastian Pinera’s speedy measures to combat the outbreak and pump the economy with emergency funds for the most vulnerable households gave the besieged government a breather. Yet the recent 95 to 36 vote by the Lower House to allow Chileans to raid their private pensions was a rebuke to fiscal parsimony and more broadly to Pinera’s faith in capitalist reformism.

It’s not the statue-toppling moment of which woke Chileans may have dreamed. Even if the bill, a constitutional amendment, clears the Senate by the required 60% supermajority, depositors may withdraw only 10% of their savings (up to around $5,500). But to gauge by the jubilation in the legislative chambers and the street, Chileans might have won the World Cup.

The thrill is unlikely to last. The economy fell by more than 15% in the 12 months to May, and analysts project a 6% to 7% contraction of gross domestic product this year. The burden falls unevenly on one of the region’s most unequal societies, where last year’s wave of outrage nearly brought the Pinera government to its knees.

One of the triggers of last year’s turmoil was pensions, the marquee policy of Latin America’s most business-friendly nation. Chile pioneered enterprise retirement funds, becoming in 1981 the first country to forsake a government backed pay-as-you-go pension system for mandatory private retirement savings.

There was much to admire about the Chilean model. Private pension funds drove investment and turned Chile into Latin America’s economic standout. Thanks largely to the lift from pensions, national income soared and poverty plunged: 8.6% of Chileans were poor in 2017, down from 36% in 2000. With profligate publicly funded social security systems blowing up fiscal accounts throughout the region, Chile shone as a solvent and prospering pension benchmark. No longer.

Even as Chile’s economy took off, Chileans were being left behind in droves. Middle-class workers and top earners with steady wages and proper job contracts retired in relative comfort. However, the overwhelming majority pocketed meager payouts, with around 80% earning under $400 and 44% taking home too little to climb out of poverty. Most part-time workers and those in the informal economy (30% of labor force) are too poor to save and despair of retiring with benefits.

Moreover, Latin America’s outlier nation is a slacker in the Organization for Economic Cooperation and Development, the compact of wealthy democracies to which emerging economies aspire. Chileans typically work past the legal retirement age, punching out a year and nine months older than their OECD peers. Chilean pensioners also die younger than their OECD counterparts, and in 2017 at least one in five Chileans aged 60 and older were poor. Notwithstanding a signature reform in 2008, which created a subsidized benefit, the number of pensioners still at work rose from 8.5% to 14% in a decade.

Even middle-class Chileans struggle to improve their lot. Only 18% of 25-34 year olds have a college diploma, compared with 34% in the OECD. Students rely on private financing to foot a far bigger share of their university bills (76%) than their rich world counterparts (31%), so turning their careers into a race to pay off their debts in time to save enough for a decent pension. “The idea that you graduate from university, get a good job and save for 40-plus years for a comfortable retirement – that model has imploded,” Armando Barrientos, a scholar of poverty and social justice at the University of Manchester, said.

These failings have worsened one of the region’s most scandalous wealth gaps. By 2016, Chile’s richest 1% held one-third of national wealth.

The dismal numbers fed the national funk. In 2017, nearly a million Chileans voted in a plebiscite to overhaul pensions, with more than 96% calling to scrap the so-called AFP private investment system. The call has grown louder during the pandemic. Pinera tried wooing the struggling middle class with soft loans, mortgage deferments and rental subsidies, to no avail. A recent poll showed that 83% of Chileans approved of the constitutional amendment allowing them to dip into their savings.

They do so at their own peril. Chile’s private pension funds, worth about $200 billion today, have been a reliable money pot for growth. Critics fear the projected withdrawals of as much as $19 billion could bleed off the private investment Chile badly needs for an economic recovery.

What’s more, to plug the holes left by depositors cashing out, pension funds will have to liquidate many of their holdings for whatever prices they can fetch during the global economic downturn, according to Shreya Subramaniam, a researcher for the Economist Intelligence Unit. Even if Chile can absorb the blow to its fiscal health, the rule change sends a troubling signal to investors. “When you tamper with the constitution, there’s a risk that markets won’t see that favorably,” said Miguel Ricaurte, Banco Itau’s senior economist for the Andean region.

And never mind the hit to future retirees. “Chileans are struggling to understand what it is they need,” said Felipe Camargo, of Oxford Economics.  “At the same time they protested for higher pension benefits, they don’t seem to get that these withdrawals may compromise their future. The pension they’ll earn tomorrow is a direct result of what they save today.”

More troublingly, perhaps, backers of the new law might be betting that Chileans can have their cash and their nest egg, too. Yet since the legislature also rejected a parallel proposal to create a “solidarity” fund to compensate savers for their shortfalls, the government might be pressured to raise taxes or issue more debt at the worst moment. Either way, Chile is in for a “corrosive impact on an already strained financial system and increasingly stretched public finances,” the EIU reported.

No one denies that Chile’s pension system needs an overhaul. “Chile long ago needed to raise the retirement age, increase the level of contributions and create a viable public option for those who were left behind,” said Juan Nagel, who teaches economics at the University of the Andes. “None of that was implemented. Instead what we have on the table is a total giveaway to the middle class and above.”

The call for a pension overhaul is part of the larger civic cry for a fairer social contract. In a rare truce, the country’s normally polarized political factions have mostly surrendered to the zeitgeist by endorsing a constitutional reform. Pinera is on board but has enjoined Chileans to fix, not bury, the system. If the government coalition’s rout on pensions is any indication, Chileans are in no mood to listen.

This column does not necessarily reflect the opinion of the editorial board or Bloomberg LP and its owners.

Mac Margolis is a Bloomberg Opinion columnist covering Latin and South America. He was a reporter for Newsweek and is the author of “The Last New World: The Conquest of the Amazon Frontier.”

©2020 Bloomberg L.P.

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