Making Pension Systems Stronger via Financial Markets
By Eduardo Rodriguez Montemayor
PPI’s Editorial Board
Life expectancy keeps increasing and pension payout levels are often higher than what a company or fund originally accounted for. This risk of ‘longevity’ can be transferred to financial markets, but pricing and risk management of longevity risk are urgently needed. Rapidly aging populations are forcing policymakers to rethink pensions. In addition to the challenge of keeping pension systems financially sustainable for a larger pool of older people, the ongoing increase in life expectancy brings the additional challenge of managing “longevity risk”, i.e. the chance that people will live longer than expected. Pension schemes often fail to predict such trends accurately. If retirees live from their accumulated assets, then longevity risk involves the possibility of people outliving their assets. This is a latent risk that can grow after recent pension reforms in many countries give people more control over the administration of retirement assets (for example, via defined-contribution pension funds) and also over how to withdraw such assets. If people choose to withdraw the whole retirement pot at once, they renounce periodic pension payments that are guaranteed for life.
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