Like a ride on the roads in Malta, the journey towards reforming pensions is slow and bumpy. Following wide-ranging proposals in the 2004 Pensions white paper, Malta has taken its first steps towards reforming the pay-as-you-go (PAYG) system, with assurances that occupational pensions and third pillar schemes will be tackled in the future.

Changes were made to the Social Security Act last November, which, in addition to re-organising the PAYG system, have also placed legislative responsibility on the minister of family and social solidarity to carry out a strategic review every five years and to submit the outcomes of these reviews to the social affairs committee of the House of Representatives.

"The parametric shifting for first pillar pensions, as proposed in the white paper, have all been taken on board," says David Spiteri Gingell, former chairman of the pensions working group, a government-commissioned group that put together the pensions white paper.

"The pension reform is designed sensitively. A big bang approach has been avoided and measures have been sensitised towards different groups. Existing pensioners - over 55 years - are exempt. Transitional pensioners are those who were 46-54 years of age on 1 January 2007, and switchers are those who were 45 and under; thereby we established a balanced approach towards transition and change.

"The pension age is extended to 65 years of age for switchers, but people can retire at 61 years if they meet a 40-year contributions history, this way securing a balance between the ability to opt-out for those who may have had a life-time of onerous employment - manual workers and so on - and continued participation in the labour market.

"To secure adequacy for persons who are 45 years and under, the maximum pensionable income ceiling will be established at MTL9,000 (€20,977) as at 1 January 2014. Thereafter it will increase on the basis of a formula that includes not only inflation, representing 30%, but primarily earnings, representing 70%. This will secure greater parity between pensions and earnings.

"The reforms have also established a minimum pensions guarantee that is pegged to 60% of the median income; that is, not just the basic wage, which is what the two-thirds pension is based on, but also including overtime, allowances, bonuses, and so on. This aims to assure and secure adequacy."

Like the rest of Europe, Malta's pension system is under considerable pressure because of life expectancy increases and a decline in the birth rate.

According to the national statistics, the proportion of the population aged 61 or older is projected to grow from roughly 16% in 2003 to 19% in 2010, reaching nearly 30% in 2050. Official statistics note that the 2005 public pension expenditure of MTL58m was 51% above the level recorded in 2000. The public pension deficit in 2003 represented a deficit of 0.6% of gross domestic product (GDP). Without reform, the shortfall is projected to reach 2.6% of GDP by 2010 and increase to 4.9% of GDP by 2020, before declining to 3.9% of GDP by 2050.

Included in these changes, are incentives to encourage child rearing (up to six years) and caring for a child with a severe disability (up to 10 years), and subsequent re-entry into the labour market for parents by providing pension credits for two years for each child taken out for such responsibilities.

 

The Social Security Act now also sets out the legal parameters allowing for the introduction of second pillar pensions - which will be mandatory - and third pillar pensions, which will be voluntary.

"The government is tackling reform of first tier pensions first. The retirement age has changed and social security contributions will be increased from the 10% that they are now," says Lino Delia, chairman of APS Bank.

"Nothing is really definite except for the retirement age. In 20 years from now, 65-year-old pensioners will feel the first impact. You need to bear in mind this reform coincides with the increase in surcharges in fuel and water, and the effect these have had on the inflation rate.

"For second pillar pensions, the government will probably act in the next year or two, after the introduction of the euro, by which time inflation should decrease. Introducing pension reform for second pillar pensions is not easy for any country. If you look at any country that has come up with schemes, you will see they have had to review their positions after a number years."

And for the conservative Nationalist government, the introduction of pension reforms could not have come at a more testing time: apart from fuel and water surcharges, this government is also contending with the controversial, and substantially delayed, relocation of the National Health Service to new high-tech facilities, easily regarded as one of the most expensive facilities in the world. It is also dealing with the country's dismay, following euphoria four years ago, that EU membership has not delivered on all the promises that were made.

Nonetheless, second pillar pensions will be mandatory, and the government is obliged to address the issue by no later than 2010.

"The process of change for which my ministry is responsible does not start and stop with working groups and reviews and the submissions of their findings and recommendations. The process of change has not stopped with the promulgation of the legislative changes made last November," says Dolores Cristina, minister for the family and social solidarity.

"In essence we are moving on a number of fronts in a parallel fashion. The first relates to establishing a competent critical mass within my ministry that will hold ownership for strategic thinking on pensions. Over the coming weeks we will issue calls for applications in order to staff the pensions strategic unit which is in the making."

 

Cristina also notes the need to bring about "a shift in mentality and cultural trends that will lead to establishing a ‘tradition' of saving for ones retirement".

The ministry will review the consultancy Hewitt's recommendations on establishing a hybrid defined benefit/defined contribution scheme as the best option for introducing occupational schemes to Malta.

In a supplementary paper to the final report of the pensions working group, Hewitt recommend a hybrid scheme that is "specifically designed to avoid allocating the whole investment risk onto each individual member - a major drawback of the standard DC design - and providing for smoothed investment returns through the use of control levers by the scheme management.

This does not involve any guaranteed benefits as found in DB schemes which can create residual liabilities - a major issue with DB design - and in turn requiring additional costs (such as payment of extra contributions) which undermine the DC design feature.

"The aim of this proposed form of hybrid scheme is to enable strategic management of pensions, with gradual adjustments as necessary over time, with the aim of ensuring a desired level of adequate pension benefits within acceptable and sustainable contribution levels."

Observers note that while the introduction of occupational schemes is never easy, particularly as they are mandatory, there really should be little delay in the introduction on the market of products of voluntary third pillar schemes.

"The government must consider second pillar pensions by the end of 2010, at the latest. But there is no reason to wait for third pillar. We can go straight into it by 2008," says Spiteri Gingell.

"Obviously there will need to be an education and communication campaign, especially to address a very low saving rate in Malta. However, there are other solutions. Some bonds, for example, pay up to 5.7% return."

Gingell continues: "Also, you need to bear in mind, Maltese people tend to put all their money into their homes. They are mortgaged up to their ears, yet there is approximately 70% home ownership, of which around 57% is mortgaged. Perhaps what might work for Malta is access to home release plans, whereby on reaching 65 years, and the kids have grown and left the home, homeowners can enjoy an annuity from their home while still living in it."