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Country reportsMarch 21 2011

The race to fill the Middle East's pensions gap

Funding retirement presents a challenge for governments in the Middle East and north Africa because of the vast numbers of people who will reach retirement age in the next 40 years – but it also offers opportunities for financial services providers. Hafsa Kara reports.
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The race to fill the Middle East's pensions gapFaisal Al Ayyar, vice-chairman, Kipco

The absence of a modern and dynamic pension scheme in the Middle East has forced the regional workforce to seek alternative solutions, such as personal savings and family support, for their retirement needs. While the public sector has developed a basic reform plan for public pension systems, the same cannot be said of private sector establishments that still have immature pension schemes.

Although the necessity of sophisticated pension systems is becoming apparent as the financial services industry develops, few countries within the Middle East and north Africa (MENA) have made the required provisions. Despite the obvious gap in the market, Middle Eastern companies have yet to tap into this industry.

Reasonable returns

Kuwaiti investment company Kipco, however, is bucking the trend. In a joint venture with German reinsurance and health insurance company Munich Re, the Kuwaiti stalwart launched Taka’ud Savings and Pensions. Kipco and Munich Re signed a memorandum of understanding in March 2010 which will see Munich Re provide Kipco with technical, actuarial and training services.

Lakhdar Moussi, vice-president of Kipco and heading the pensions project, believes there is a large and unmet demand throughout the MENA region for low-risk, long-term pension products with secure and reasonable returns. As a result, the Kuwaiti firm has incorporated the new company in Bahrain and is hoping to gradually introduce pension products in countries where Kipco is already established.

Legislation needed

Statistics from the UN’s economic and social affairs department forecasts that the number of people aged over 65 in the MENA region will be about 32 million in 2030. By 2050, the number will reach 70 million, or 12.3% of the Arab population.

Companies are aware of the hurdles, both bureaucratic and cultural, that will face schemes introduced to meet this need. On the one hand, enabling legislation still needs to be drawn up. In Kuwait, where tensions between parliament and the government are slowing down the implementation of new regulations, this could be an added stumbling block. On the other hand, the Kuwaiti population needs to understand the need for pension schemes and how to apply for them, which is expected to be a long process.

The financial community is also aware that these demographic trends would provide as much a challenge as an opportunity for regional governments in the way they finance pensions.

Funding challenge

Faisal Al Ayyar, vice-chairman of Kipco, says: “Funding retirement is a staggering challenge for regional governments because of the sheer number of people who will reach retirement age in the next 40 years.”

In fact, the challenge will mean that even the richest countries of the MENA region will find the cost of funding this demographic growth extremely difficult. “The development of a regional private pension industry is therefore essential,” says Mr Al Ayyar.

He identifies two objectives in the years to come: to fill an existing gap in the financial industry by offering customers suitable products to manage their savings and fund their retirement needs, and to establish a private pension industry that will support the efforts of governments as they encourage working people to take more personal responsibility for their retirement funding. “This," he adds, "will also allow government pension schemes to focus on the needs of the less affluent segments of their societies.”

Grey areas

Globally, over the past 20 to 30 years, pension schemes have started to play a central role in providing retirement income. For developing countries, private pensions are attractive because they create high income replacement rates and mobilise capital that develops financial markets and encourages economic growth.

Pension reform has been driven primarily by growing economic and demographic pressures. In economies where the ageing population can represent as much as 35% of the population, arrangements tend to be made at an early stage. In the Middle East, where the majority of the population is under the age of 30, companies and governments have largely failed to provide for their ageing population.

Informal sector

Today, industry players from both the financial and political community are having to adjust to the reality of an ageing population, early retirement issues, and ensuring that benefits are extended to workers at risk of poverty. In the Middle East, those in the informal sector also represent an important segment of the population that could benefit from private pensions.

When pensions were introduced, most countries started moving toward a multi-pillar system, consisting of two pillars: one that was mandatory, and one that was voluntary, for workers who would like to augment their income in old age. Pensions featuring this type of contribution plan, supplemented by a safety net scheme, now dominate most developed countries. In MENA countries, mandatory contributory schemes have been introduced; others use the provident fund model or still depend largely on non-contributory pension schemes.

In this context, analysts suggest creating an industry-wide pension fund that would be jointly managed by worker and employer representatives, and where the responsibilities are privatised, but where the public sector would remain responsible for policy. Here, the government sets the pension policy, the worker and employer manage the fund, and the private sector collects contributions and manages assets. 

Once that has been fully implemented, the tender process for investment professionals should be open to domestic and international applications, which should boost liquidity within regional markets. “As in other parts of the world, private pension funds in the region will play a key development role by stimulating inward investment through the creation of new financial instruments suitable for recycling of personal savings into national economies,” says Mr Al Ayyer.

Product distribution

Kipco hopes to distribute its pension products through its vast network of commercial banks, insurance companies and asset management firms operating in the MENA region. According to Masoud Hayat, CEO of Kipco, products will be introduced in Kuwait first and then Algeria and Syria.

He adds that Kipco will create products that will be anchored in the regional economies and will be “clearly identifiable with the needs, particularities and aspirations of each nation”.

Munich Re’s chief executive, Dr Nikolaus Von Bomhard, says: “MENA countries offer a market with high profitable growth for long-term savings and pension products.”

Benefits to the economy 

As global experiences illustrate, private pension funds positively impact the main economic indicators, such as gross domestic product as well as employment, and play a key role in ensuring sustainable economic growth. A private pension system in the Middle East can be expected to significantly boost regional financial markets.

While such plans remain in their early stages and very little has happened in terms of introducing products in Kuwait and elsewhere in the region, regulators will have to look at the implications that pension schemes will have. These include pension fund supervision and the role of the capital markets authority that will play a vital role in ensuring pension funds experience profit growth.

Other issues that will have to be addressed will focus on legal recognition, investment criteria and regulations, and the identification of appropriate fund managers.

Launching pad

As things stand, there is no dynamic simulation income model that would allow industry players to forecast future economic trends. This is another area that companies such as Kipco or regional governments will have to look at. Although these have yet to be introduced, the likes of Kipco have shown that demand has to be met, and there is now a will to meet it.

A stable political environment and legal reform will be needed to develop a scheme that fully integrates the private sector. In that respect, Kuwait, which has agreed a $100bn development plan aimed at stimulating private sector activity, and which has so far been sheltered from civil unrest, could be the best launching pad for Middle Eastern pension funds.

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