1. New Approaches to Economic Thinking
Seminar on Project A4, 10 January 2014
RESPONDING TO THE
CHALLENGES OF
AGEING AND
LONGEVITY RISK
Pablo Antolin
OECD Financial Affairs Division, Pension Unit

2. Issues addressed in this work
 The challenges posed by population ageing
 What is population ageing?
 The impact of population ageing
 Addressing its impact on pension systems
 Improvements in mortality and life expectancy and
the uncertainty surrounding future improvements
 Assessing the amount of longevity risk (pension funds and
annuity providers)
 Managing longevity risk: capital markets solutions and the
role of governments
 The analysis and policy messages herein stem from
the work discussed and examined within the context
of the CMF, IPPC and WPPP.
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3. MEETING THE
CHALLENGES POSED
BY POPULATION
AGEING ON PENSION
SYSTEMS

4. Population Ageing
Population ageing refers to an increase in
the average age of the population
Increase is the result of a decrease in
fertility, (already over: return to previous
levels)  baby boom.
And an increase in life expectancy (LE).
The baby boom is temporal
The increase in LE is relatively permanent
effect (bar wars and epidemics)
4
4

5. Population ageing:
Increase in the median age
55
Japan
50
45
France
40
Germany
35
30
USA
China
25
Brazil
20
15
10
5
0
Brazil
China
France
Germany
Japan
USA
5

6. 1933
1936
1939
1942
1945
1948
1951
1954
1957
1960
1963
1966
1969
1972
1975
1978
1981
1984
1987
1990
1993
1996
1999
2002
2005
Population Ageing
•Fertility returns to previous lower levels
4.0
3.5
3.0
2.5
2.0
1.5
1.0
0.5
0.0
6

7. 2000
2002
2004
2006
2008
2010
2012
2014
2016
2018
2020
2022
2024
2026
2028
2030
2032
2034
2036
2038
2040
2042
2044
2046
2048
Population Ageing
•Fertility fall (developing countries)
7
6
5
4
3
2
1
0
7

8. Population Ageing
• Large increases in life expectancy
85
80
75
70
Life expectancy at birth (increase = 2.2
yrs per decade)
65
2010
2007
2004
2001
1998
1995
1992
1989
1986
1983
1980
1977
1974
1971
1968
1965
1962
1959
1956
1953
1950
60
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9. Population Ageing
Large increases in life expectancy (at age 65)
24
22
Life expectancy at 65 (increase = 1 yrs
per decade)
20
18
16
14
12
2010
2007
2004
2001
1998
1995
1992
1989
1986
1983
1980
1977
1974
1971
1968
1965
1962
1959
1956
1953
1950
10
9

10. Population Ageing: Implications
•More people in retirement and for longer.
19
Number of people in working age per
person 65+
18
17
Brazil
16
15
14
China
13
12
11
10
Japan
9
8
7
6
5
4
Germany
USA
France
3
2
1
0
Source: UN Population Projections, 2010 Revision
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11. Population Ageing: Implications
• Major future impact: increases in Lex.
6
5
4
3
Baby boom only
Life expectancy
2
1
Number of working age people per person
65+
0
2000 2005 2010 2015 2020 2025 2030 2035 2040 2045 2050 2055 2060
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12. Impact of Population Ageing (PA)
• GDP growth = productivity and labour force growth
• Productivity decreases with age?: hard to assess (cognitive,
learning by doing) (self selection bias)
• PA reduces workforce if fertility rates continue falling (not the
case).
• Increases life expectancy with constant retirement age means
people retired with longer claims on GDP
• Savings will fall as long as retirees’ saving rates lower that
those of the working age population.
• Lower saving, lower investment (I=S) unless borrowing from
abroad
• Financial markets: PA may lead to potential lower returns,
contributing to the current environment of low interest rates
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13. Fiscal impact of PA
• Main fiscal impact of ageing population is
through pensions and health care
• Expenditures on both will increase as a
share of GDP, in particular health care
(percentage points of GDP)
Country
EU
US
Pensions
1.5
1.8
Health care
3.4
4.4
• Postponing retirement will go a long way to
contain the increase in pension expending
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14. What is the impact of PA on pensions?
• Basic principle: what it goes in (saving during
working life) and what it gets out (pension
benefits during retirement) need to be equal
• Baby boom (temporary): smaller cohorts
working than retiring.
• This affects mainly PAYG-financed pensions
because current workers pay for current
pensions.
• Affects also indirectly (through returns on
investment) funded pensions
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15. What is the impact on pensions?
• Higher life expectancy (permanent) increases
the years in retirement relative to the years
saving to finance retirement.
• ΔLE creates problems of
• Sustainability to PAYG-funded public pensions
• Funding and solvency to funded DB pensions
• Adequacy to funded DC pensions
• PA also affects pensions indirectly through
GDP growth, wage growth and returns on
investment
15

16. OECD messages to address the impact
of PA on pensions
Do not put all eggs in the same basket
Diversify the sources to finance
retirement
Necessary to have public pensions as
well as funded private pensions
Funded private pensions are
complementary to public pension
provision.
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17. How to address the impact of PA on
pension gap of ageing populations?
• Link retirement age to life expectancy
(Sweden): PAYG-financed pensions.
• Better still, link years contributing to years
saving for retirement (NDC, DCs)
• Contribute and contribute for long periods
• Promote annuities to protect people from
longevity risk (increase role of defined
contribution, DC)
OECD Roadmap Good Design DC Plans
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18. MORTALITY
ASSUMPTIONS
LONGEVITY RISK

19. More permanent problem of PA
• How to deal with future improvement in mortality
and life expectancy
• Future improvements are uncertain  Longevity
Risk (LR)
• Difference between how future improvements are
accounted for and their future realisation
(unknown) is the amount of longevity risk that
individuals and financial systems potentially are
exposed to
• Pension funds and annuity providers can go
bankrupt, and individuals may fail to have adequate
pensions
• Government budgets and pension promises may
become unsustainable
19

20. OECD (CMF, IPPC, WPPP) Project
• Assess the amount of longevity risk that
pension funds and annuity providers
(insurance companies) may potentially be
exposed to.
• So far 16 countries including China, Brazil
and Mexico.
20

21. Assessing LR
1. Look at the regulatory requirements and
market practice regarding mortality
assumptions
– Many countries do not have requirements to
account for improvements
– In practice most countries account for
improvements
– It is more common in annuity providers than
in pension funds
• Are they still expose to LR?
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22. Assessing LR
2. Compare the annuity values that the
regulatory requirements and the market
practice mortality assumptions suggest (what
is accounted or provisioned for) with what
future improvements would suggest
• As a proxy for the future, the project uses the
mortality projections from 4 common
mortality models
• This comparison provides a measure of the
value of additional reserves or provisions
needed to meet future payments
22

23. Assessing LR
• The study finds that countries vary from
those needed to be monitored (less than 2%
shortfall in provisions) to significant (5% 10%) and serious shortfall (10% - 20%)
• Countries least exposed to LR seem to be
those where industry experts actively
participate in defining standards and
driving the analysis of mortality experience
and assumption setting.
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24. How to manage LR?
• In house (traditionally) through reserving and
constant updating of actuarial parameters,
accounting for future improvements and using
stochastic modeling (probabilities)
• Additionally, there is a need for financial
instruments to help pension funds and
annuity providers to hedge LR
• Existing arrangements to manage LR (e.g.
buy-ins) focus almost exclusively on
transferring the LR from one party to another
• Instruments that allow for hedging LR
(longevity hedges) may be better
24

25. Government role?
• Legislation and regulation
• Provide standardisation, liquidity and
transparency
25

26. Government role?
• Regulate mortality tables to include
stochastic forecasts of future improvements
and regular updates
• Develop a reliable longevity index to
encourage standardisation and
transparency
• Issue longevity bonds? What is the market
failure that justifies government
intervention?
– Provide liquidity
– Idiosyncratic LR and aggregate (cohort) LR
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27. Policy conclusions
• The main long term problem of PA stems from
future improvements in mortality and life
expectancy
• Need to deal with the uncertainty surrounding
these improvements, longevity risk
• Require pension funds and annuity providers
to use mortality tables that include
improvements, require them to update their
actuarial calculations and tables regularly, and
use stochastic modelling (probabilities)
• Governments should issue longevity indices
• Encourage hedging financial instruments
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28. THANK YOU
VERY MUCH
www.oecd.org/insurance/private-pensions
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