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The series of massive demonstrations that erupted in Chile in early 2019—which would be followed by surprising escalations of violence across the country—marked the beginning of a social crisis that the global community continues to watch unfold. The protests, which began as peaceful, student-led demonstrations against new transport fares, quickly evolved into a broader public outcry against new economic measures instituted by the administration of President Sebastián Piñera. However, these demonstrations also reflected frustrations regarding Chile’s deeply entrenched inequality, low wages, and the inadequate provision of public services, including healthcare, education, and social security. One of the various demands made by the protesters was a reformation of Chile’s privatized pension system. Public support for the system has been slowly crumbling for years as problems with its model have become more apparent, leaving many Chileans to deem it inadequate and to accuse the AFPs (pension fund managers) of enriching themselves while most pensioners are left without sufficient funds to support themselves during retirement. According to a 2015 report from the Presidential Advisory Commission on the Pension System, nearly 80 percent of Chilean retirees receive a pension lower than the national minimum wage (currently equivalent to USD $414 per month). In the past year, protestors have further demanded the right to tap into their own pension savings without penalty during the COVID-19 pandemic.
Meet the policies
President Piñera, the AFPs, and the president of Chile’s Central Bank, Mario Marcel, have argued that their opposition to early pension withdrawals is based on fears of enabling the possible misuse of funds intended for the long-term support of the country’s elderly. However, as President Piñera watched Peru’s political and institutional crisis unfold—with three different presidents occupying Peru’s presidential palace in a week—he recognized the destabilizing potential represented by public discontent toward a government they deem inefficient. He acknowledged the severe political consequences of opposing early pension withdrawals when 83 percent of the Chilean population supported the measure.
Facing congressional and popular pressure, President Piñera reluctantly signed two bills loosening restrictions on early pension withdrawals, allowing citizens of all ages to withdraw up to ten percent of the value of their retirement accounts. By late 2020, 92 percent of Chileans with pensions had made requests to withdraw funds from their accounts. With this measure, the total withdrawal of funds reached USD $17.4 billion, which represents more than eight percent of the pension system’s total assets.
Opponents of these two bills argue that they are a blow to an already shaky Chilean pension system, degrading the institutional credibility of the country and creating long-term challenges for the Chilean economy and the country at large. These issues have been addressed at length in the International Federation of Pension Fund Administrator’s (FIAP) Pension Notes, among other publications, which are summarized below:
Withdrawing money now, while global markets remain vulnerable due to the impacts of COVID-19, violates the basic investment principle of “sell high, buy low,” making these early withdrawals “ill-timed.” Marcel has cautioned that the second withdrawal bill will be more harmful to the country’s economy than the first, further debilitating the economy and potentially risking the pool of savings that has driven the growth of Chile’s capital markets. Fears of mass withdrawals may become the norm, jeopardizing future returns to the country’s economy and making market players wary of the future stability of the Chilean pension system.
Regressive policies miss the mark
The existing pension system in Chile is already regressive, in the sense that it largely fails to assist the poorest of Chileans, many of whom barely earn the national minimum wage and receive non-contributory basic social pensions. However, when it comes to early withdrawals, since low-income individuals tend not to have private pension accounts, they do not have a source from which they can draw emergency funds.
While the first bill signed by President Piñera allows Chileans to withdraw a maximum of ten percent of their pension contributions, it also stipulates a minimum withdrawal amount. In practice, this means that those who have small savings may end up withdrawing more than ten percent of their account balances in order to reach the required threshold (see graph below). Moreover, the total assets in the pension system could also decrease by much more than ten percent by the time the first policy expires; a second round of withdrawals will only further aggravate this situation.
A poor precedent
Organizations like the FIAP have argued that Chile’s pension withdrawal policies set a bad precedent for both legislators and civilians alike, claiming that permitting early pension withdrawals sends the message that pension savings are eligible to use for other purposes if the need arises. If Chile is willing to repeatedly compromise the integrity of its pension system, it will effectively render pensions obsolete and turn such funds into government-run savings accounts. This raises significant questions: will early withdrawals from pension funds become the new norm in Chile? Is the Economic and Social Stabilization Fund (the internationally respected, “hands-off” rainy day fund to cope with copper price shocks) next?
However, let us not so quickly extend these same arguments to all Latin American countries—particularly Uruguay, the only country in the region that has yet to consider tapping into its retirement savings. Just as Chile had unique issues making early withdrawals particularly undesirable, other economies’ characteristics and/or limitations make it less problematic.
Other financing options?
Among the nations of Latin America, Chile possesses unique macro-economic privileges: access to international capital at favorable terms, relatively low public debt (an estimated 32 percent of GDP), and the safety net of a USD $23.93 billion IMF credit. The Piñera administration and the Chilean Congress, therefore, have the option to support Chileans with cheap external financing rather than relying on Chileans to support themselves.
Other countries in the region lack many of the benefits of the Chilean economic model. Uruguay’s public debt (as a percentage of their GDP), for example, is about double that of Chile. Costa Rica’s debt is about 70 percent of their GDP, while Argentina owes nearly 100 percent of its national output. This doesn’t mean that raiding pensions is automatically the preferred option, but it should be enough for countries to take pause.
Should the rules of the game adapt to the current reality in which interest rates on government debt are close to negative? Shouldn’t all countries, even those with high debt service ratios, take advantage of what is essentially free money, rather than risking the income of their elderly populations? History warns otherwise. Latin America has been in similar situations before and learned the difficult lesson that hard currency debt can quickly explode when domestic currencies depreciate, low interest rates notwithstanding. And country risk premia remain high when borrowing in local currency.
Does the pension system have credibility?
Few would deny that Chile’s pension system needs reform, especially following the public outcries for economic change in 2019. And social security will most certainly be included on the to-do list of the constitutional assembly to be elected April 11. The Chilean system initially earned praise from institutions like the World Bank for its role in Chile’s economic miracle, and for establishing a strong capital base (exceeding USD $200 billion) to fuel economic growth. However, critics highlight inadequate payouts and insufficient employer contributions. Reforming the system—and its opportunistic private pension managers—has been a key demand of Chileans for years.
However, not all countries suffer from a similar credibility problem with respect to their pension systems. The U.S. Congress, for instance, allowed penalty-free withdrawals from retirement savings of up to USD $100,000 in March of 2020. (Fewer Americans took advantage of this option than originally expected, with only about six percent of eligible account holders making such a withdrawal). Neighboring countries, such as Uruguay and Colombia, have also yet to experience the same crisis of pension system credibility. Might it be possible that allowing citizens a bit of flexibility to finance immediate needs in times of crisis—such as a pandemic—provides a government with some political leeway in return, without jeopardizing the entire framework of the pension system?
One might safely predict that when a policy to allow early withdrawals is established in response to protests rooted in decades of frustration, any pension base will be depleted quickly (as was the case in Chile). However, early pension withdrawals are not always the result of public outcry, as can be seen in the U.S., where the decision was a budgetary, proactive choice to help those in immediate need.
Other pension considerations?
In many countries, pension systems are ticking time bombs. In Brazil, the public pension system lacks fiscal sustainability. With no fiscal resources to finance a system characterized by high levels of subsidization and redistribution, the Brazilian system is rapidly draining all of its base funds as the country’s population ages. But not all Latin American countries find themselves in the same position. Underdeveloped pension systems in Latin America’s youngest countries, like Guatemala, Bolivia, and Paraguay, do not generally pose major fiscal risks, even though a lack of momentum for reform could eventually hinder an upgrade to these countries’ credit ratings. Nevertheless, most of the population in these countries is quite young, so the pension system is not yet a pressing issue.
Enabling early pension withdrawals proved to be a suboptimal policy in Chile. Human longevity is a real and present danger worldwide which makes designing effective and sustainable pension systems imperative. Yet for other Latin American countries—whether they be younger, more indebted, or simply lacking other financing options—early pension withdrawals should not be immediately discounted as a viable policy option.
In the end, the debate over early pension withdrawals appears to pit deontological thinkers against consequentialists. Deontologically, citizens have a moral right to their own savings—whether in the form of pensions or otherwise—especially when they are facing extreme hardship. However, from a consequentialist perspective, succumbing to popular pressure for early pension withdrawals will ultimately result in an elderly population in crisis, having depleted most, if not all, of their pension funds. All countries, Chile included, must confront the fundamental question raised by early pension withdrawals: what is the role of pensions in a world where people cannot afford to wait for access to their savings?
Britta Crandall is a Visiting Assistant Professor of Political Science at Davidson College. She teaches interdisciplinary courses among Economics, Political Science, and Latin American Studies. She holds her Ph.D. from the Johns Hopkins School of Advanced International Studies (SAIS) and is the author of Hemispheric Giants (2011) and co-author of Our Hemisphere? (2021).
Emma Lynn studies Economics at Davidson College and will begin an MSc in International Political Economy at the London School of Economics in fall 2021.