## **Financial** Systems

In a developing country, such as Zambia, expenditure of a new pension scheme will initially be low but will increase as more pensions are awarded, as life expectancy increases, and as the average level of pension increases to take account of changing earnings levels. Under a pay-as-you-go system this liability would be met by annually assessing the anticipated expenditure and setting the contribution rate accordingly. Contribution rates would be low at the start but require steep increases later. By fully funding future pension liabilities, the need for subsequent increases in the contribution rate could, in principle be avoided. It would, however, require a high initial rate which may be unacceptable to a new scheme in a developing economy.

An intermediate solution is partial funding of the system. One example of this is the 'scaled premium' method: the contribution rate is fixed at a certain percentage to balance revenues and expenditure over an estimated 'period of equilibrium', for example ten or 15 years. When current resources (contribution income plus interest from investments) are no longer sufficient to cover costs, the contribution rate is increased to a level sufficient for another equilibrium period. The financing of pension liability involves decisions based on a range of projections which are often the product of uncertain assumptions and questionable data. Therefore, regular actuarial analyses are required to review progress and determine the need for adjustments.

Several countries have experienced serious problems with this system because: (i) there has been a failure to understand that under a partial funding system it is inevitable that the contribution rate will increase resulting in political opposition to an increase or the mechanism for effecting the increase has been too cumbersome; (ii) under a long period of equilibrium, large reserves accumulate in the early years and there is a risk of politically motivated low yielding investments and excessive expenditure on administration; (iii)the economic environment changed dramatically and inflation devastated the real value of the pension reserves.

In determining the period of equilibrium it is important to consider investment opportunities available as well as the targeted level of the contribution rate. There are several strong arguments for a shorter period of equilibrium and consequently a lower contribution rate: the limited scope for investment opportunities in Zambia, the need to contain administrative costs, and the difficult economic situation which severely restricts the contribution capacity of employers and employees. A low contribution rate will also increase the scope for financing supplementary pension provision. But it would need to be understood by the social partners that a lower initial contribution rate will have to be compensated for in the future as pension expenditure increases.

# **Administrative Issues**

The credibility and effectiveness of the new pension scheme will heavily depend on the institution charged with its administration. The design of the scheme will be irrelevant if it does not work. The funds received from contributions and interest on the investment of reserves are held in trust pending claims by the beneficiaries. The management of the national pension scheme and of its funds should be entrusted to a new autonomous tripartite Board of Trustees. The membership of the Board should be based on equal representation of workers, employers, and government. The appointments should be made by the Minister of Labor and Social Security but from nominations made by the respective bodies. The Chairman 24