Dutch people are living an average of 3 ½ months longer. How does that affect pensions?

Current issues related to economics, (responsible) investment, pensions and income: every week, an APG expert gives a clear answer to the question of the week. This time: actuary Caroline Bruls talks about how higher life expectancy affects pensions.

Due to improved air quality, Dutch people will live an average of 3 ½ months longer in 2030 than in 2016. This is evident from a report by the RIVM. Does this mean that pension premium will go up? “If life expectancy increases, it does have consequences for pensions,” says Bruls. But it does not mean that the premium will also be increased immediately. “We don’t actually do anything with this kind of news, because we already assume that life expectancy will continue to rise. So, you could say that the 3 ½ months has already been factored into our expectations. Perhaps the improved air quality will make life expectancy a little higher. If that is the case, it will automatically find its way into the data that we base our prognosis for the future on. That forecast of life expectancy is updated every one or two years, and thus remains fairly current. It has to be, because there are constant developments that influence life expectancy, of course.”

Impact
Bruls emphasizes that it is very difficult to determine for a relatively small development, such as improvements in air quality, the extent to which it will affect the long term. “There are so many big and small factors that can affect life expectancy. Even with the Covid pandemic, it remains to be seen whether it has a major impact on mortality projections. Is that a one-time event with no long-term impact? Or do we expect such an epidemic to occur more frequently so that it has a lasting impact on life expectancy? The Royal Actuarial Society will issue a new mortality forecast this year. This will include the latest data, including mortality rates related to Covid.” 

That an increase in life expectancy has consequences for pensions, is because pensions have to be paid out for longer. “In the current pension system, if life expectancy increases, the coverage ratio falls. The financial position of pension funds will therefore worsen. The premiums will also have to be increased for future pensions. Or we may have to retire at a later age. This will change under the new system, which will no longer have a coverage ratio. The people who are not yet retired may put in a bit more premium for themselves in the new system. And for those who are already retired, the shortfall can be supplemented from a collective reserve, for example.”

Eligibility age for government pension
Although we are still getting older, life expectancy is no longer rising as fast as it has in the past 100 years. “The biggest gains in terms of improving living conditions and health have been achieved by now.” The main consequence of increased life expectancy for the Dutch pension system is the increase in the eligibility age for the government pension. In order to keep pensions affordable, the eligibility age for the government pension keeps moving up a bit. “At the time that it was set at 65, our life expectancy was a lot less than it is now. Currently, pensions have to be paid out over a longer period of time. In order to keep the ratio between the period that people work and pay pension contributions and the period that they receive a pension in balance, it has been determined that the eligibility age for the government pension will increase in line with life expectancy.”

In short, the fact that life expectancy has increased by 3 ½ months in 2030 because of better air quality has little to no impact on pensions. It is still rare for an event to have a major impact on life expectancy, and thus on pensions. “It used to happen more often, because the models and computers we used to make our forecasts back then were not as good as they are now. Now we can make predictions with increasing accuracy, although there will always be some degree of uncertainty. But the impact of any adjustment in life expectancy on pensions is still manageable. Particularly if you compare it to the impact of stock market fluctuations or interest rate shocks. The influence of life expectancy is dwarfed by that.”