Chile’s President Announces Reform to Fix Pension Crisis

Eduardo Thomson
·4 min read
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(Bloomberg) -- President Gabriel Boric unveiled plans for a major overhaul of Chile’s pension system, introducing the state as co-administrator of private savings and drastically changing the program that has underpinned the nation’s capitals markets for four decades.

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The new plan would force employers to pay an additional 6% of their employees’ wages to a publicly-run social security system to improve current and future retirement payments for the poor. That will be on top of the 10% people already pay into individual savings accounts.

The bill still needs to pass congress, where the government doesn’t have a majority and can expect a lengthy debate.

“The current pension system is in crisis,” Boric said in a televised speech late Wednesday, announcing the bill. “Today’s pensions are not enough for our fathers, mothers, grandfathers, grandmothers to have a decent life in their old age, regardless of how much they worked.”

Read More: Chicago Boys’ Free-Market Pension Model Is Unraveling in Chile

The reform follows years of complaints that the private pension system created under the dictatorship of Augusto Pinochet. While the system was praised as the free-market model to follow, it has failed to deliver on its promise of decent retirement payments once a sizable number of Chileans became pensioners.

The private pension funds, known as AFPs, have accumulated more than $150 billion in savings, yet those savings are heavily skewed to the wealthy, often leaving the poor who didn’t contribute long enough with little to tide them over in old age. That created a backlash against the system, with two other reform attempts that failed to pass congress since 2017.

Boric said the new initiative wouldn’t impact the funds currently in people’s private savings accounts. Chilean assets fell Thursday in early trading, trimming part of the losses later in the day. The peso dropped 0.5% at 12:55 p.m. after falling as much as 1.7% in the morning, the biggest intra-day decline in almost three weeks. The country’s government notes due in 2032 fell 0.9% to the lowest level in a week.

Ending AFPs

In his speech, Boric said that 72% of pensions paid by the current system are below minimum wage and that one in four Chileans receive a pension worth less than needed to stay above the poverty line. The new social security system will begin to pay out pensions as soon as the law is approved, the president said.

The AFPs, which have become a target of protesters, “are finished,” Boric said.

The management of the new system will be handed over to a state-run company, while the role of the pension funds is reduced to slimmed-down money managers, known as Private Pension Investors, or IPPs, according to a separate statement from the Finance Ministry.

AFPs will have the option to turn into IPPs, and that will help boost competition for people savings, Finance Minister Mario Marcel said in an interview with Cooperativa radio on Thursday.

“Many more private pension investors should emerge because the bulk of spending is account management and that creates a barrier to entry into the system,” Marcel said.

The reform so far looks better than expected as private managers will be able to hold on to the funds in their accounts, according to Felipe Alarcon, an economist at insurer Euroamerica. “We do not foresee important changes to the investment regime so it shouldn’t have a major effect on local capital markets,” Alarcon said. “It gives some certainty to the system.”

The question mark will be how efficient the state will be managing the revenue obtained with the 6% levy and if it will allow political reasons to influence on that, Alarcon said.

The law will also increase the state-funded guaranteed universal pension to 250,000 pesos ($262) from 194.000, according to the Finance Ministry’s statement.

The new 6% social security levy will be introduced gradually, Boric said, without disclosing a timetable. The Boric administration is also separately pushing ahead with a tax reform bill to help pay for this pension bill.

During the pandemic, Chileans took out more than $50 billion from their pension savings in three rounds of early withdrawals approved by congress. While the decision helped tame the economic contraction and boosted consumption, it also stoked inflation and left many with little to no money in their accounts.

A plan for a fourth withdrawal failed to garner enough support in congress.

Read More: Chile Congress Kills Rival Bills for New Pension Withdrawals

(Updates with analyst quote in 13th paragraph.)

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