The Pensions That Ate Latin America

(Bloomberg View) -- Long hailed for its youth and vigor, Latin America is graying fast, raising the specter of fiscal crisis as retirees outnumber the able-bodied workers required to support them. Yet even as a new generation of national leaders seeks to shore up a shaky pillar of the social contract, a rebellion against pension reform is in full cry.

Chileans poured into the streets ahead of this year’s election to roll back free-market-inspired reforms conceived under former dictator Augusto Pinochet. Thousands of Argentines banged pots and pans against President Mauricio Macri’s overhaul of the loss-making pension system that passed congress last month.  It’s no better in Brasilia, where a political insurrection is in bloom over pension fixes designed to rescue the country’s fraught finances, and maybe the mandate of beleaguered President Michel Temer in the bargain.

Just two generations ago, caring for granny seemed to promise no major headache. Cue the defenders of the elderly, who heralded the “longevity revolution” founded on “a culture of care that is sustainable, affordable, compassionate and universal.”

Belying that triumphalism was a demographic earthquake. Plunging birth rates, better nutrition and improved public health have sent Latin America’s longevity soaring. Since the early 1950s, the region’s average life expectancy for both men and women has risen nearly a quarter-century, from just over 51 years to almost 76 years in the five-year period from 2015 to 2020.

The population aged 60 and over in Central and South America and the Caribbean is set to overtake those aged 15 and under by 2036. By mid-century, the elderly will account for 26 percent of Latin America’s population, about the same share of grayheads as in the most developed countries today. The fastest growing segment of the population? Those over 80.

Those numbers may represent miracles of public medicine and urbanization, but they’re also a potential fiscal and economic menace, as regional governments race to make their societies wealthy before they grow old.

In an effort to avert fiscal collapse, Chile privatized pensions starting in 1981. Thirteen nations followed Chile’s lead over the next three decades by requiring workers to pay for their own retirement insurance through their career (the minimum number of years varied with each country). But Chile and its disciples discovered that instead of healthy competition, the Pinochet-inspired, market-based systems delivered pension monopolists who served up mediocre returns, charged steep fees, and left many uninsured, Carmelo Mesa Lago, a pension expert at the University of Pittsburgh, told me.

Enter the counter-reform, starting in 2008, whereby 14 Latin American and Caribbean countries rolled back private-sector insurance programs and deepened government involvement. Each side has its arguments, but pension hawks and doves both miss how flawed design, willful politicians and inflated expectations sank good intentions, and numbed nations to the coming crunch.

Whether in privately managed or government systems, payouts to retirees were typically more generous than the contributions workers paid into the system. As birth rates fell and lifespans increased, that proved a trap. The drama grew acute during economic busts, when pink-slipped workers drifted into the informal economy, where employment and wages were precarious, and contributions to the pension system irregular.

Throw in the flourish of generosity by an earlier generation of lawmakers who had celebrated the return to democracy by stretching social safety nets to rural laborers and other neglected groups, and then enshrined the perks in the law, and even the constitution. That well-meaning gesture obliged governments to cover the gathering shortfalls, a sure recipe for deficits.

Consider Brazil, where retirement insurance, old-age health care and a suite of other entitlements in the pension law gobble up 10 percent of gross domestic product -- nearly as much as public spending on health and education combined, according to a finance ministry report. Just the yearly deficit -- the difference between retirement contributions and benefits -- comes to 3.7 percent of national wealth. Similar deficits plague Colombia (3.5 percent), Mexico (2.1 percent), El Salvador (2 percent), and Peru (1.7 percent), according to Santiago Levy of the Inter-American Development Bank.

What’s worse, the region’s pension systems are as perverse as they are profligate, hoovering up money to disproportionately benefit the most privileged groups. Once again, Brazil sticks out: The richest 20 percent of retirees pull in 53 percent of total pensions -- or 10 times the amount pocketed by the bottom fifth -- according to the finance ministry. No wonder Catholic University economist Jose Marcio Camargo branded Brazil’s trickle-up social security system one of the largest income transfer schemes from poor to rich on record.

The big winners of the current pension system are higher-earning, better-educated employees, especially males, who are more likely to hold steady jobs under contract, and serve long enough to secure a decent retirement.

Public-sector employees are a caste apart. Honors to Brazil’s 980,000 federal pensioners: They not only punched out early, but cost taxpayers as much as 32 million private-sector retirees -- and yet they fiercely oppose even the government’s modest proposal to set a minimum retirement age. “In Brazil, only the poor work until age 65,” University of Sao Paulo economist Paulo Tafner told me.

It’s much the same story across the hemisphere, where middle- and high-income wage earners claim the lion’s share of pensions. The imbalance starts in the workplace, where millions of Latin Americans scrap for modest returns without a proper work contract. However, since policy architects inhabit a perfect world, pension systems were designed under the assumption that contributors punched in at regular jobs or would eventually do so when the blessings of economic development kicked in.

In fact, because 130 million Latin American jobs -- and half of all non-farming employment -- still fall under the legal radar, contributions to social security are irregular, by employees and employers alike. Levy reckons that up to one in five workers move back and forth between formal and informal jobs every year.  

Informality condemns many workers to mediocre pensions or none at all, as those without contracts often can’t prove they’ve worked the minimum number of years to qualify for a pension. Nearly two-thirds of workers in Peru are unlikely to qualify for pensions, according to data collected by Mesa Lago for a forthcoming study of nine pension systems. The same is true for three-quarters of Colombians and at least two-thirds of Mexicans. “Why is it that policymakers didn’t see this coming?” Mesa Lago said.

Instead of wishing away informality, Latin America needs to factor in off-book jobs and businesses into their reformists’ playbook. Until that happens, pension systems will remain not just fiscal sinkholes, but wellsprings of inequality in Latin America -- not coincidentally, home to some of the most lopsided societies. That dismal reality ought to be enough to bring rebels into the streets. Unfortunately, no one marches for a disaster deferred.

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

Mac Margolis writes about Latin America for Bloomberg View. He was a reporter for Newsweek and is the author of “The Last New World: The Conquest of the Amazon Frontier.”

To contact the author of this story: Mac Margolis at mmargolis14@bloomberg.net.

To contact the editor responsible for this story: James Gibney at jgibney5@bloomberg.net.

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