Measuring and Reporting Actuarial Obligations of Social Security Systems
An authoritative and timely paper, prepared by the world’s leading expert actuaries on Social Security finance, is now available through the International Actuarial Association (IAA). This important paper, Measuring and Reporting Actuarial Obligations of Social Security Systems, was developed by the IAA’s Social Security Committee (SSC), and announced by the IAA in a News Release on March 28, 2018. This principles-based paper presents the SSC’s perspectives on appropriate actuarial metrics for social security retirement systems (SSRS). The paper is intended to be a technical reference for national and international organizations, providing actuarial guidance on financial and statistical reporting with respect to SSRS. It is intended to be of specific relevance in reporting information under the United Nations System of National Accounts. This aspect is critically important in terms of serving the public interest since, outside the actuarial profession, several influential accounting and statistical agencies have either recommended or implemented different conceptual frameworks for the types of metrics to be reported, often unrelated to the actual financing of the SSRS, whereas the proposed actuarial metrics in the IAA paper are specifically focused on the method of finance and its sustainability.
The IAA paper notes that SSRS around the world are quite diverse and differ as to benefit structure, financing method, and revenue sources provided directly by government or based on employer and employee contributions and whether partially funded with a dedicated fund. SSRS represent an intergenerational social contract, involving risk-pooling and solidarity, and are typically financed on a “pay-as-you-go” basis, but may be partially funded with a reserve or buffer fund that provides stability to the financing process. SSRS are generally subject to periodic actuarial reviews that assess the actuarial obligations under the terms of applicable current law. The paper endorses a system of comprehensive disclosures and the IAA has previously issued a model international standard of actuarial practice on the financial analysis of social security programs. The SSC supports comprehensive disclosures that provide meaningful information and perspectives that are critically important and relevant to decision-makers and that align reporting with the financing method. The best way to assess the adequacy of the financing method is to consider projected cash flows under an open group method where both future contributors and beneficiaries are considered, and where future demographic and economic projections are based on models that include relevant dynamic factors.
From an actuarial perspective, it is logical to utilize open group methodology for the purpose of producing appropriate metrics to assess the financial status of SSRS and their long-term sustainability. Alternative approaches that have been advocated by other non-actuarial organizations are based on a closed group concept that recognizes only the current participants and beneficiaries. This closed group methodology may be applied either with or without recognition of future benefit accrual amounts to produce a hypothetical accounting number that purports to represent an accrued to date SSRS liability, in a manner similar to that used for private sector pension plans. This approach has many limitations and disadvantages and is not suitable for SSRS. This hypothetical accounting number represents the amount of accumulated asset reserves that would be held by SSRS if they were funded in a manner that matches the funding process with the benefit accrual process; this type of financing is not found in practice with respect to SSRS and is not relevant to either the actual financing arrangements or the sustainability of SSRS. Some advocates for the closed group method and its associated accrued to date liability believe that it produces a measure of the aggregate economic wealth of a population covered by a SSRS that is attributable to the benefits earned to date that are contingently payable in the future.
The IAA paper makes reference to specific recommended disclosure items under the open group method. These include the actuarial values of projected future expenses and revenues expressed as a percentage of a relevant base measure such as gross domestic product or covered earnings of SSRS participants. The amount of current reserves plus future contributions, when compared with the actuarial value of future benefits, is an important indicator of the ability of the SSRS to meet future benefit expenditures. When measured over a series of annual reviews, this metric provides valuable insight into the solvency and sustainability of the SSRS, and may indicate a need for remedial actions to ensure the adequacy of the financing arrangements to met scheduled future benefits over a long-term period. Important features of actuarial projections for SSRS that affect the results produced include the choice of discount rates and the length of the projection periods. Such projections inherently involve uncertainty that may be illustrated by disclosing the effect of variations in these elements as well as in other economic and demographic factors underlying the projection methodology.