Mexico will launch a social security system in 1997 whose pension program will be advance funded and whose assets will be privately managed.
The new thrust should spur savings and aid economic growth. But its future pension benefits should be lower than the current system provides, some experts say.
In its structure, the new retirement program - which will apply only to current workers and not to retirees - will be defined contribution in nature. It will supplant the existing pay-as-you-go defined benefit system that is headed toward bankruptcy.
Legislation creating the new social security system passed in December. The law broadly modifies the delivery and financing of benefits that include workers' compensation, disability, survivors and old age pensions, according to a report by Mercer C&B, S.A. de C.V. in Mexico City. For pensions, the government adopted the defined contribution arrangement in which new privately owned retirement fund administrators will manage individuals' accounts under the supervision of government bodies.
A bill spelling out rules for setting up and operating retirement fund administrators, known as AFOREs, was submitted to Congress last month; the bill is expected to pass in the near future, most likely this month.
Experts said that AFOREs will have to be newly created corporations that are legally separate from any parent company. While it's expected that many financial institutions would seek to create an AFORE, entities that fulfill ownership requirements would not have to be financial firms. According to proposed legislation, foreigners would be allowed to own up to 49% of an AFORE.
AFOREs themselves will not be allowed to invest outside of Mexico.
Many observers agree the new funded system will increase overall savings in Mexico, and that, in turn, should enhance growth in gross domestic product. By some estimates, the program will add roughly two percentage points to GDP growth five years into its operation.
The retirement program will start with an estimated $7 billion, which represents assets collected since the start of the mandatory funded pension program in 1992. (At that time, employers were required to contribute 2% of workers' salaries to the pension portion of the overall social security program. That money, which has been accumulating in private accounts, will be transferred into individuals' new social security accounts.)
On top of those start-up funds, Oscar Vera, chief economist with ING Barings Mexico in Mexico City, estimates the new system "might easily" bring in $2 billion to $3 billion of new assets in the first year. "We think in 10 years, the program's assets could easily" top $20 billion, Mr. Vera said.
But the overall cost of the program will not come cheap, especially for employers. "Compared with other Latin American countries' systems, employers' contribution rate is higher in Mexico," said Eduardo Jauregui, actuarial consultant with Mercer in Mexico. By comparison, he cited Chile's system, which is largely funded by employee contributions.
Mexico's complex funding scheme involves contributions from employers, employees and the government. Although in the new social security program contribution rates don't differ significantly from those in the current one, the notable change is the government is putting in more money for lower wage earners. Overall, employers' contributions for the basic programs will range from 9.6% to 24.6% of salary (with much of the differential hinging on how much companies have to pay for workers' compensation benefits); employees will pay an average of 2.3% of salary (except for those paying more than three times the minimum wage of 604 pesos per month); the government will pay 0.5% of salaries plus 5.5% of minimum wage per employee (which equates to about a peso a day). For workers earning more than three times the minimum wage, companies contribute an extra 6% of their salary in excess of the amount that is three times the minimum wage, and employees will contribute an extra 2% on the same basis.
In addition, employers and the government will each pay 13.9% of one minimum wage per employee for medical benefits.
Of all contributions to the new social security system, an average of 6.5% will be earmarked for retirement funds. And of that, Mercer calculates 79% will come from companies, 17% from employees and the rest from the government. These contribution rates are similar to those paid into the current retirement plan.
The cap on contributions will increase to 15 times the minimum wage next year, from 10 times the minimum wage in the current system, and then increasing gradually to 25 times minimum wage in 2007. But even that higher level won't make the system more viable, some experts maintain; and some think benefits will be lower.
"Since the pension delivery is influenced by investment earnings and the length of time of contributions, the benefit is unpredictable over the long run," said a Mercer report. "Projections using reasonable long-term assumptions - no more than three points difference between interest rate and salary increase - show that employees earning less than 10 times the minimum wage will obtain a lower retirement benefit with the new law," the report said.
Reasons for concern center on market unpredictability and the fact that AFOREs will charge management fees. Mr. Jauregui figures fees will lower the contribution rate about 20%. But even 6.5% "is not enough for (adequate) pension delivery," he said. By comparison, he pointed out Mexico's 6.5% contribution rate is only two-thirds of Chile's "and in Chile, at the end of 35 years of service, the employee gets about 70% of final salary."
Sigundo Tascon, manager with Watson Wyatt Worldwide in Mexico City, echoed the sentiment. "The great majority of the population makes less than 10 times the minimum wage," he said. "It doesn't matter for them if the (contribution) cap is increased. For that group, the same level of contributions will produce a lower benefit than they are getting in the present system."
How can this perceived problem be corrected? Eventually, employees' contribution rate will have to rise, Mercer's Mr. Jauregui believes. He also recommends employers supplement the system by creating their own pension plans, which are still uncommon in Mexico. As of now, private corporate plans mainly just exist at local units of multinational companies or in large Mexican firms, Mr. Jauregui said.
