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Introduction


Hong Kong, like many other places in the world, has a rapidly ageing population. The current demographic trends suggest an imminent surge in the number of retirees without retirement protection, calling for more and more public money to relieve their plight. If assistance to the retired poor is not automatic, great human suffering will ensue and the government cannot afford to bear the cost of the resultant social unrest. Apparently, the need for retirement protection is not in dispute. But the form of such protection has been debated for years. This project examines the three most important options, namely the Central Provident Fund (CPF), the Old-Aged Pension Scheme (OPS), and the Mandatory Provident Fund (MPF). The examination in light of rate of return, stability and sustainability, equity, coverage, political attractiveness and effect on economic growth finds that MPF is a suitable, if not optimal, option to Hong Kong. Following a brief description of the MPF system, we discuss the main problems facing the scheme and some improvements are proposed against these problems.


Background of MPF Schemes


All along, Hong Kong adhered to the principle of positive noninterventionism as its official policy. Apart from civil servants and staff of some large companies, Hong Kong had no formal retirement protection system in place. The problem of retirement-protection was first identified by the Legislative Council (LegCo) to be a matter worthy of consideration in 166. In that year and subsequently in 175, there were debates over whether a Singaporean type of CPF should be created in Hong Kong. The proposal was once again extensively debated in the LegCo in 187. However, the


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government had made it clear that it would not consider the CPF to be an alternative. The main reason for this stance was that the government did not want to involve in managing a large sum of money, which violates its traditional non-intervention policy.


In 11, the LegCo members urged the government to set up a CPF or other forms of compulsory retirement schemes. While the proposal was just like another futile attempt to set up a retirement system in Hong Kong, the government responded the proposal by initiating a Working Group on Retirement Protection. In 1, the working group introduced a consultation paper entitled A Community-wide Retirement Protection System. It proposed the establishment of a compulsory pension system in Hong Kong. Although the LegCo voted for the CPF, the government maintained its stand against it and the private provident fund scheme was still the governments working proposal.


However, the government changed its stance in 1 and proposed an Old-Aged Pension Scheme (OPS). The OPS proposal initiated a flood of debate. Proponents supported for the OPS because it provided immediate benefits for todays elderly and had the effect on income redistribution. One the other hand, opponents opined that the OPS would benefit the old people today, but the costs would only be paid in the future. The public opinion was too divided by the plan. Thoughts of a conspiracy theory suggested that it was a by-product during the tense period of the Sino-British relationship.


In 15, the government announced abandonment of the OPS and introduced a mandatory, privately managed provident fund system. In 8 March 15, a motion on MPF was passed by the LegCo. In August 15, the Mandatory Provident Fund Schemes Ordinance was enacted. The subsidiary legislation was passed in the Provisional LegCo on 1 April 18 and the MPF Authority was set up in September 18. This was regarded as a landmark in the history of retirement protection in Hong Kong.


Demographic Structure of Hong Kong


In 160s, Hong Kong was still a very youthful society. A large proportion of the population consisted of migrants, the majority of whom were young men. The population aged 60 years and over had barely changed from the 10s level of 4 percent. However, the population of Hong Kong has been ageing since the 170s. The following table shows that there has been a marked growth in the size of the elderly population in Hong Kong.


Hong Kong Population Projections (in thousand)


11 16 001 006 011


Total population 5686 5885 6081 68 6486


Rate of increase .% .5% .% .% .%


Age 65+ population 500 610 705 76 7


Age 65+ rate of increases 17.% .0% 15.6% 8.1% 4.1%


Elderly ratio 8.8% 10.4% 11.6% 1.1% 1.%


Source Census and Statistics Department, Hong Kong Population 11-011 (Hong Kong Government Printer 1)


It is obvious that the elderly population will be growing much more rapidly than the overall population in the next two decades. We have also seen a persistently declining


trend in total fertility rate. In 165, the total fertility rate was 4.5 percent. It then declined to . in 170, to .0 in 180, to 1.4 in 11, and to 1.1 in 16. In parallel, longevity in Hong Kong is increasing. In 18 life expectancy at birth had already reached seventy-five years. In 18, it rose to seventy-eight years and in 16 to seventy-nine. These facts have inevitably contributed to the ageing of the Hong Kong population. In 17, people aged 65 and above accounted for about 10 percent of the population. This proportion is estimated to increase to 1 percent by the year 016, and to 0 percent by 06.


The demographic ageing means that in the future there will be fewer young people who can pay taxes to support the old, namely declining support ratio. These factors have important implications on the retirement-protection in Hong Kong.


Examination of CPF, OPS & MPF


In the past decades, Hong Kong has considered the CPF, OPS, & MPF to be the retirement-protection programme for Hong Kong. The following will examine these programmes by using different parameters.


CPF


The CPF is a forced saving system. People must contribute a specified portion of their income to a fund designated for providing pension. The fund is managed by the government or government delegated private companies. Each person contributing to the fund has an individual account.


Rate of Return


The publicly managed funds do not yield high rates of return. It is because there is lack of competition when the government is the sale manager of the fund. It has no incentive to look for more profitable investment opportunities.


Stability and Sustainability


CPF is a publicly administrated programme. It provides a better sense of security than


private savings. Monthly payment under this scheme available for retirement depends on rate of return, length of working period, growth rate of real wage and not affected by changes on demographic structure. Thus, the scheme is sustainable.


Equity


All CPF subscribers have their individuals account, so it is equity to subscribers. However, there is no effect on income redistribution.


Coverage


Only retired employees, who are CPF subscribers, are covered by the scheme.


Political Attractiveness


An important advantage of the CPF is that it is a government administered system, it thus provides a better guarantee as people will have a great security during their retirement years.


Effect on Economic Growth


CPF has a positive effect on saving. CPF forces people to prepare for her retirement well ahead of time. The higher rate of saving means faster accumulation of capital, and this in turn raises the economic growth rate. However, a significant proportion of societys wealth under the control of the government may limit opportunities for the development of entrepreneurial spirit in society which plays an important role in the


income growth of a free market economy. Thus, in the long run, CPF may have a negative impact on peoples income.


OPS


The OPS follows the form of the pay-as-you-go retirement system. It is essentially a welfare payment to the elderly financed by taxation. Monthly pensions will be paid to eligible senior citizens, to be funded by contributions from employers and employees. Thus, the proceeds are not saved but are rather used immediately for pension payments.


Rate of Return


Population structure and rate of wage growth are the two important factors to determine the rate of return. When the support ratio increases, then more people can pay taxes. Similarly, the higher the rate of wage growth, the higher the average persons pension benefits. Obviously, the opposite is true if the population is ageing and the wage rate is stagnant or even declining.


Stability and Sustainability


OPS depends on the future generations incomes for financing and demographic change. It will be subject to the risk of instability. When population is becoming younger and younger over time, more people can gain. However, the system is not sustainable when population is ageing quickly. To maintain a decent level of benefits,


the government may need to impose a higher tax rate so as to balance the budget. Or the pension benefit may be cut.


Equity


OPS has a principle of collective support for the aged. It has an element of income redistribution in favour of the poor. That is, the poorest members of society receive transfer from the better-off members. However, it is often argued that it is inequity when those who contributing for fewer years is entitled to the same benefits as those contributing for more years.


Coverage


It benefits all elderly people who are aged 60 or above including retirees, housewives etc. regardless they are subscribers or not. Thus, it provides immediate relief for the aged of today.


Political Attractiveness


From politicians point of view, the OPS is attractive as it has the benefit of relieving the aged people of today immediately.


Effect on Economic Growth


The OPS may reduce the economys saving rate. When taxpayer expects that pensions will be paid to him in the future, he will reduce his savings for retirement life. In


parallel, since the retirement benefits are not linked to tax payments, people will have less incentive to work. It will likely reduce the long-run economic growth rate.


MPF


The MPF is a privately managed system. It requires both employers and employees to contribute a certain amount into an individual account. The contributions must be preserved until the employee attains the retirement age.


Rate of Return


The privately managed funds may yield higher rate of return. The rationale behind this assumption is that fund managers, who are subject to market competition, will adopt a


more flexible approach in investment in order to maximize clients returns. Evidently, according to LUI, from 18 to 14, the median average nominal rate of return of a representative sample of Hong Kong pension funds was 16.7 percent per year. Inflation in this period was 8.8 percent per year, giving a real rate of return of 7.5 percent per year. Taking a conservative approach, the real rate of return may achieve 4 percent under the MPF scheme.


Stability and Sustainability


MPF adopts trusteeship arrangement in which assets accumulated in the scheme are held and invested by its trustee. While the MPF is run by private companies, it is subject to higher risk, as compared with government administration. Under the MPF, each subscriber has an individual account and the benefits for the retirement is positively related to contribution. Thus, it will not be affected by the demographic structure and support ratio.


Equity


MPF is equitable to all scheme members, as the amount of accrued benefit is directly related to the contributions made. However, there is no income redistribution built into the system to provide immediate relief for the elderly poor.


Coverage


Only the subscribers are covered by the scheme.


Political Attractiveness


The government is not involved in the operation of the scheme. It also makes no guarantee on the invested assets security and no provision to protect the low-income group. All these render the scheme to be less attractive.


Effect on Economic Growth


Under the MPF, retirement benefits are anchored to contribution, so people will have incentive to work. It is good for economic growth. Similarly, the accumulated assets to be invested by private investment houses would give an incentive to the market. While the fund managers would have to compete by virtue of their performance in order to win the shares of the funds, they would be eager to exploit opportunities. It may have a positive impact on economic growth.


Feasibility of these Schemes in Hong Kong


The above examination finds that different retirement protection systems have their advantages and disadvantages. No system is perfect. In comparing the above three alternatives, it is found that the publicly managed CPF scheme is not an attractive option. It is because of its poor performance in terms of rate of return and contribution to economic growth. In fact, the CPF in Singapore has become a multi-purpose scheme. Instead of solely a pension scheme, members are now allowed to make use of their saving in the scheme before retirement to finance investment. In other words, retirement protection is no longer CPFs most important objective.


In comparing, OPS is appeared to be the optimal option. The administrative cost of this scheme is low and it covers all elderly people. More importantly, it has the income redistribution element. However, the success of the scheme depends largely on the number of younger people exceeds that of older people for every generation and the future generations incomes for financing. The demographic structure of Hong Kong severely constrains the viability of OPS to be implemented in Hong Kong. It renders the scheme to be unsustainable. The above findings detail that we have to pay the price in the future, that is to increase tax rate or to cut pension benefit.


MPF also has the disadvantages of no income redistributive element, lack of government involvement and etc. It may be a workable, if not optimal, option for Hong Kong employees. The privately managed scheme may offer a better rate of return than the publicly managed CPF. Comparing with OPS, the fully-funded scheme is more sustainable. It is a salient element for a retirement protection scheme. In addition, the scheme has a positive effect on economic growth. All these elements make the scheme to be a viable option for Hong Kong. However, the scheme is not free of problems. We will discuss in the following paragraphs.


Brief Description Of MPF


The MPF system is an employment-related contributory system, under which members of the workforce aged between 18 and 65 are required to participate in and make contributions to registered MPF schemes, unless specifically exempt under the Ordinance or unless employed for less than 60 days.


The employee is required to contribute 5 percent of his or her monthly income and employer has to match this amount. An employee earning less than the minimum level of income ($4,000 per month) is not required to contribute but the employee must contribute 5 percent of the employees income.


All contributions to a scheme must be fully and immediately vested in the scheme member. All benefits derived from MPF contributions must be preserved until the scheme member attains the retirement aged of 65, or cease employment and attains the age of 60. However, benefits will be paid before a scheme member attains retirement age by reasons of death, total incapacity and permanent departure from Hong Kong. The accrued benefits of an employees can be transferred to other scheme when the employee changes job. However, an employee can opt to leave the accrued benefits in another account in the previous master trust scheme.


Employees mandatory contributions are tax deductible, subject to a limit of HK$1,000 per annum. Employers MPF contributions are also tax deductible to the extent that they do not exceed 15 percent of the employees yearly enrolment.


The main types of MPF schemes are as follows


l Master trust schemes- open to employees of more than one employer, and self-employed persons;


l Employer sponsored schemes- restricted to the employees of an employer or its associate only; and


l Industry schemes- restricted to the employees and self-employed persons of prescribed industries.


All MPF schemes must be established under trust arrangement and governed by Hong Kong Law. Scheme assets will be managed by trustees who must be a registered trust company, meeting capital requirements of HK$150 million in capital and net assets, have a substantial presence in Hong Kong, have directors who are fit and proper persons. The trustee or the appointed investment manager will be responsible for investment of the scheme.


Under the scheme, the following groups of persons are exempt from joining the MPF schemes


1. Employees and self-employed persons who have attained 64 years of age;


. Domestic employees;


. Self-employed hawkers;


4. People covered by statutory pension and provident fund scheme;


5. Members of occupational retirement schemes;


6. People from overseas who enter Hong Kong for employment for less than one year, or who are covered by overseas retirement schemes; and


7. Employees of the European Union Office of the European Commission in Hong Kong.


Problems Facing the MPF Schemes


Governments Involvement


There is little government commitment or involvement in the scheme. Under the existing arrangement, the MPF Authority is responsible for regulate and supervise the MPF system. The government only provides the framework on the operation of the system and then adopts an off-hand approach from the scheme. This arrangement will make the public to have less confident on the system.


Income Redistribution Element


The MPF system provides no immediate relief to todays elderly people. It was recognized by the Chief Executive of the Hong Kong SAR in his 1 Policy Address that it will take some time before the retired population can enjoy the full effects of the MPF Scheme. However, he had made no commitment to cater for the elderly retirees who are not covered by this scheme.


Assests Security Problem


Security problem of the invested assets is one of the major problems facing the MPF system. Any losses in MPF investment due to fraud or excessive risk exposure could give rise to a distrust of the scheme and could stir up a sense of discontentment with the government or social unrest.


Protection for Low-income Group


The MPF system provides insufficient protection to the low-income group. Even though employee earning less than $4,000 per month need not to contribute to the fund, the employers contribution could hardly maintain the employees retirement life. Moreover, this segment of employee changes job frequently, the cost involves in account transfer would deplete the future benefit.


Employer Based Scheme


MPF schemes are employer based instead of employee based. It means that employees have to join the schemes that their employers have chosen for them. However, employers and employees may have different interpretation on a good scheme. Since the accrued benefits in the MPF belong to employees, doubts are cast over whether employers are motivated to choose the best managed scheme for their staff.


Accountability of MPF Authority


Most people are concerned about the expenditure of the MPF Authority, its accountability and its composition. Being a statutory body responsible for supervising a retirement protection for the whole employees in the territory, people would expect that the Authority would be operated in a fair and cost-effective manners.


Education & Publicity Programme


There is not enough publicity programme and education to enlighten employers, employees of their rights and obligations under the MPF scheme. It will hinder the implementation of the system.


Administrative Fee


Employees are often concerned that they would be coerced to pay too much administrative fee. To compete for the market share, the MPF trustees may spent large amount on advertisement and promotion. These costs might finally be transferred to subscribers.


Suggestions


Governments Involvement


The government should be more committed to the scheme. Financially, the government should inject more fund into the MPF Authority in order to reduce burden. In addition, the government should act as a guarantor of the scheme. The main responsibility of this role is to provide financial back-up and ensure the minimum rate of return. It could help to gain public confident on the scheme, especially in the wake of the Asian financial turmoil.


Income Redistribution Element


The government should provide immediate relief for the elderly poor. Since the MPF has no redistributive element, the government should set up a viable supplemental retirement-protection mechanism. At present, there are two main vehicles of welfare support for the elderly. The first is the Comprehensive Social Security Assistant (CSSA) programme and the second is Social Security Allowance (SSA). However, the


degree of support available from each of these is relatively low. Since it will take a long time before MPF to become effective, the government should increase the benefits of these schemes. In parallel, the criteria for passing CSSAs means test should be relaxed with a view to making more elderly people to be eligible. While the government has set up a scheme for retirement protection for the future generation, it should not deprive the right of such protection for the elderly of today.


Assests Security


The government should adopt a strict control over the MPF trustees. The control measures should include the quality of fund managers, combination of investment, rate of return etc. To provide better security of the invested assets, apart from the industry insurance and Compensation Fund, the government should bear the responsibility of setting up a supplementary safety net to indemnify losses due to misfeasance or illegal conduct. On the other hand, the maximum ratio of assets invested in foreign countries should be reduced from the current 70 percent to 50 percent to avoid the risk. Moreover, MPF trustees should not be allowed to contact out their job to other companies.


Protection for Low-income Group


The retirement protection for low income group should be enhanced. Under the MPF system, employees earning less than $4,000 per month are exempt from contribution, but employers have to contribute 5 percent of the employees income to the scheme. Obviously, the retirement protection for this segment of worker is inadequate. To improve protection for the low-income workers, the government should increase the contribution ratio of the employer from 5 percent to 7 percent, and the government should pay the remaining percent on behalf of the employees. Since the number of job changes among low income people is higher than average, it would result in many scattered accounts. However, the transfer of account would cost the employees too much. To reduce the burden, the government should regulate to waive the transfer charges for the low-income employees. In addition, the trustees should take the responsibility to remind the scheme members to transfer or consolidate their accounts at the time of job changes.


Employees Based Scheme


Employees should be allowed to participate in choosing the MPF scheme. As the employees have a stake in the scheme, they will be more motivated to choice the best managed scheme for themselves. Under the market mechanism, the minimized restriction of free choice would make the inferior service providers hard to survive.


Accountability of MPF Authority


MPF Authority should increase the transparency of its operation. Being a self-financing government regulate body, its expenditure should be kept to a minimal by ways of slim establishment. To improve transparency, the accounts and reports submitted by trustees should be disclose to the employees regularly. Members of the Authority should be required to declare their respective interests in order to avoid conflict of interests.


Education & Publicity Programme


The MPF Authority and the government should launch education and publicity programmes to enable the general public to acquire sufficient information about the MPF. The scheme guidelines or code of practice should be produced and issued to the retirement schemes industry to make them fully understand the systems standards and requirements and the industrys role.


Administrative Fees


The government should monitor the administrative fees charged by the trustees in order to avoid abuse charging. The government may employ a point deducting system, any reported malfunctioning or overcharging of the trustees should be inspected by an individual committee. When the complaint is found valid, action should be taken to deduct the point of the company or debarred the company from joining the scheme. More importantly, the government should streamline the procedures of the scheme and set up a mechanism to facilitate the operation of the scheme in order to avoid any unnecessary costs.


Conclusions


The rapidly greying population of Hong Kong makes the retirement protection one of the most critical social issues in the city. Against this population profile, we have discussed three main retirement protection options, namely CPF, OPS, and MPF. The CPF, represents only a form of forced savings, has the deficiencies of low rate of return and may has negative effect on economic growth. Although the OPS has the advantage of income redistribution, the fundamental difficulty of the OPS is that it is unsustainable in the long run because of the decline of support ratio. If the tax rate does not go up over time, the implicit rate of return would be too low.


Alternatively, the MPF is found to be a suitable option, if not optimal, to Hong Kong.


It is financially sustainable, simple and fair. It is equitable to all scheme members as the accrued benefit is pegged to the contributions made. It is cost-effective as the MPF scheme are privately managed under a free competition environment. Competition tends to increase investment returns and reduce costs, which will benefit scheme members ultimately. However, the weaknesses of the MPF are as apparent as its advantages. To improve the system, this project has suggested that the government should play a more active role in the scheme. A supplemental programme should be developed to cater for the elderly people who are not covered by the scheme and the low income group. To provide a better security to the assets, government should keep a on-going monitor of the scheme providers and act as a guarantor to provide a safety


net mechanism for the scheme. The operation of the MPF Authority should be under close surveillance with a view to enhancing its transparency and ensure cost-efficiency.


The MPF is now official and will start operations in 000, it will serve as the foundation of building a robust system of retirement protection. Thus, it is important for the governments commitment and involvement to the scheme. In addition, the continual review of the scheme and secure public support are important. Without these elements, the scheme would not be a success.





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