Current issues related to economy, (responsible) investment, pension and income: every week an APG expert gives a clear answer to the question of the week. This time: Alwin Oerlemans (Head of Product Management at APG Asset Management), on whether it is a good idea to temporarily give employees the option to reduce their pension contributions, so that in these times when everything has become more expensive, they can use that money to pay their bills.
Many Dutch people are really feeling the skyrocketing inflation, due in particular to increased energy prices, in their wallets. While the government has now allocated billions to mitigate the effects for citizens, it is not possible to fully compensate for the decline in purchasing power. This is a huge problem especially for low- and moderate-income households with less sustainable homes. Unions would therefore like to see wages rise to the point where there is full compensation. Because this risks sending the Netherlands into a wage-price spiral, - as it did in the 1970s - there are calls here and there to temporarily allow workers to put a reduced pension contribution - so they can use that money to pay their bills. Is that a good idea?
No, says Oerlemans. First of all, because doing that could get people into financial trouble in the future.
“From the perspective of behavioral economics, we know that people value money now more highly than money later. If you give employees the option of a reduced pension contribution temporarily, it will be at the expense of their pension accrual. To see that this is a shortsighted idea, you need only look at Chile, for example. When the economy there stalled during the Covid crisis, Chileans were given the option to withdraw an advance on their pension money. As a result, Chile's pension pots seriously shrank. The government would have been better off helping the vulnerable instead, because it was mainly the small pension pots that were depleted by one-time withdrawals. It is not without reason that the recently released Mercer CFA Institute Global Pension Index 2022 warns against premature withdrawal of pension money.”
Cigar from your own box
According to Oerlemans, the option to temporarily reduce premiums is also not a good idea because for employees it is just a cigar from their own box. And now is not the time for that.
“Because reduced premium contributions result in a reduced pension accrual, - and thus less pension - employees end up paying for the purchasing power compensation themselves. Only they’re not paying now, but in the future. People should get a higher wage now, not a cigar from their own box. Because big companies’ profits did rise in recent years, and that is much less the case for employees’ wages. Unions are rightly making the case for higher wages. This gives workers a fair share of added value. This is how the ratio of wages to profits can shift.”
The Netherlands: an export country
Those higher wages are no luxury, because high inflation is here to stay for a while, Oerlemans expects.
“Even before the war in Ukraine, inflation was rising, due to disruptions in production chains caused by Covid. The Russian invasion then led to a sharp rise in commodity prices and energy prices in particular. So, inflation will persist for now, especially with a continuing war.”
Oerlemans does not want an exporting country like the Netherlands to price itself out of the market with higher wages.
“This fear seems exaggerated to me. Because of the tightness in the labor market, there is room for higher wages. That is also good for the labor supply, because it makes more worthwhile to work. In Australia, when there was an impending wage-price spiral, that was when pension accrual increased. There, the pension system started in the 1990s, when there was an overheated economy and inflation. Employers then started pouring some of the extra pay into the new mandatory pension system.”
All in all, then, it is not a good idea to temporarily allow employees to reduce their pension contributions, even if it is, say, up to 50% of the contribution?
“No. There is nothing wrong with a little flexibility in the premium as part of the benefits package, but not to that extent. If you give employees the option to remove such a significant portion of their pension contributions, even if only temporarily, that’s still a cigar out of their own box.”