Summing Up
Dependency ratios are useful as general indicators of future economic and social health. But they must be managed downward on both a micro and macro basis, in the opinion of the majority of respondents to this month's column. And it will take time.
There was little argument about what growing dependency ratios at the level of the firm tell us, regardless of where we are in the world. But several deplored what has been done about them. According to Francine McKenna, "There's no pension crisis in the executive suite …. The average worker is funding the looting of shareholder value by the fortunate few." As Cass Apple put it, "It is simply a matter of morality." Bob Fitzpatrick said, "This situation is nothing more than an extension of our 'Teflon' culture." At the national level, Richard Eckel pointed out that, "Socioeconomic policy should recognize that there is an optimal … dependency ratio range beyond which increasingly urgent action is needed to stabilize social costs and attract investment."
Several interesting actions were suggested. Many involved the way in which future obligations are funded. Don Rogers commented that, "Short term, the solution is to … require companies to fully fund and expense their current retirement contributions/obligations. Ouch!" Gerald Schultz agreed, saying, "I believe that in the end it comes down to 'pay as you go.'" Akhil Aggarwal suggested, "Self-funding of the old-age pension starting from a young age …." Vernon McKenzie and Akhil Mehta described successful efforts to do just that in Australia and India, respectively. In Australia, "Every employee, by law, must contribute 9 percent of the employee's salary to a superannuation fund of the employee's choice." For people not wishing to manage their funds, they are automatically placed in a balanced fund of investments. In India, the public sector in 2004 was transformed "from a defined benefit to a defined contribution approach …." John Wilson summed up this view in saying that "The only viable long term solution is for people (and their employers) to invest enough over the length of their working life …. [It] is the only way in which the dependency ratio can be made irrelevant."
Other suggestions ranged from Donald Sylvester's, "our laws should provide encouragement for all to work forever" to Deepak Alse's, "Do not retire employees; treat them as part of an extended family where their services may be required." The timeliness of the issue was emphasized by information from Richard Eckel that the FASB (in the U.S.) has, as of October 23, opened a discussion on Accounting for Social Insurance (PV): http://www.fasab.gov/pdffiles/si_newsrelease.pdf
Of course, dependency ratios are not reduced without other economic and social effects. For example, to the extent that current consumption is replaced by saving for the future as a means of reducing the significance of the ratio, what effect will this have on intermediate-term national economic performance, especially in an economy driven by consumption? Would retention of the elderly in the work force have a net negative effect on the productivity of those of typical working age? Or could these trends impact social costs so favorably that they could render dependency ratios largely meaningless? What do you think?
Original Article
Without knowing it, we have already heard a great deal about "dependency ratios." We can expect to hear a lot more, both at the level of nations and individual firms. The question is, what kinds of responses do they call for?
The dependency ratio is simply the ratio of unemployed to employed people, whether globally, nationally, or organizationally (where retirees are the unemployed). It is linked to such things as birth rates, employment trends, and economic growth rates. But in business, it is also influenced strongly by the cost of retirees, which in turn is determined in large part by the outcomes of negotiations between management and labor.
Harvard economists David Bloom and David Canning attribute at least one-third of a nation's economic success to the dependency ratio, something that can be predicted years in advance based on what we know now about demographic trends. For example, they credit Ireland's economic success in part to a greatly-improved dependency ratio along with other more commonly-cited factors such as a strong emphasis on education. They suggest that China's dependency ratio will peak at about one dependent to 2.6 workers in the next few years. After that, the effects of encouraged reductions in the birth rate will mean that fewer workers will be supporting more retirees in the coming years, placing a burden on the Chinese economy. India, on the other hand, with slower declines in the birth rate, will see its dependency ratio improve as larger numbers of children grow up and enter the work force, where they can support their elders and non-working children.
The concept is even more striking when applied to organizations. GM's dilemma stems in large part from the fact that its dependency ratio has deteriorated as workers take earlier retirement, live longer, and enjoy health and other benefits that become more costly. Those that GM employs find it increasingly difficult to bear the burden. And consumers are becoming less willing to pay for it in the price of GM's products. When dependency ratios become too burdensome, as in the case of Bethlehem Steel in 2001, where each worker was supporting 7.5 retirees, management is increasingly tempted to do what Bethlehem's management did: declare bankruptcy and walk away from as much of its obligation as possible.
Potential management responses can get pretty complicated. In this instance, growth trumps greater productivity, because the latter alone raises the dependency ratio. In a recent article in The New Yorker, Malcolm Gladwell suggests a more complex approach that would involve pooling employee populations among consortiums of companies, presumably some growing rapidly (with low dependency ratios now but higher ones later) and some growing more slowly. Bethlehem Steel had another answer. It merely handed $7 billion in unfunded obligations over to the U.S. Government's Pension Benefit Guaranty Corporation. Then Wilbur Ross, who bought the remaining assets, started over with a completely new employee savings plan and a dependency ratio of 0 (unemployed) to 1. Of course, the more generous the long-term solution for workers in retirement, the less competitive a company can be on costs today. So what is the answer to a dilemma that we are going to be confronting more and more frequently? What do you think?
This is not a sophisticated problem. It is simply a matter of morality.
1. CEOs, leaders, celebrities, sports stars, etc ... not accepting responsibility for their actions (or inactions).
2. Proliferation of disposable consumer products and disposable employees.
3. "Doing the right thing" is not always rewarded socially and/or financially.
It is a systemic issue with no clear near-term solution in sight other than going down the path of least resistance by declaring bankruptcy and starting over.
The "science" recognizes probability factors such as death and disablility but doesn't properly recognize the inevitability of change to the sponsoring organization's Dependency Ratio.
This might increase funding requirements but should still be manageable.
"Mexico as well as the U.S. needs to find ways to raise employment, especially in above minimum wage-paying jobs, to more of the workforce. In Mexico, this may someday discourage Mexican workers from thinking the grass is greener on the other side of the border and allow them to save more for tomorrow, rather than living from day to day. In the U.S., this may mean the reduction in the numbers of the working poor and an increase in their confidence and self-respect, as well as their personal savings. Let's address first things first, as so many here and in Mexico have suffered during the last four years under the first president since Herbert Hoover to oversee a net loss in jobs during his administration."
Employers no longer feel an obligation to their employees and employees and, for the most part, no longer fund their fellow employees under a self-funded pension scheme. Companies like GM are dinosaurs. Although their failures and mistakes go beyond being "too generous" with their workers, it's the workers that are taking the blame but it's also the workers who are bearing the pain of the bad management and poor planning.
There's no pension crisis in the executive suite. Let's talk instead about the "dependency ratio" between the average corporate executive and his workers. In 2005, per the AFL-CIO, it stood at 411 to one. The average worker is funding the looting of shareholder value by the fortunate few.
Long term, the solution to this "problem" is to move away from traditional employer owned (or guaranteed) pension, retirement, and even health care funds to straight investment systems. The employer and employee pay into the fund, the employee owns the account, and the employer has no additional liability.
Short term, the solution is to eliminate tax advantages for either underfunded or overfunded pension liabilities and require companies to fully fund and expense their current retirement contributions/obligations. Ouch! This will be painful for those companies with high dependency ratios and for companies with large deferred compensation plans of any type.
An example of a thought on the dependency ratio on the GM situation: if the retirees purchase products and services from GM, why doesn't that go toward replenishing the fund? I think there are more direct and indirect feedback loops to the model when applied in the 21st century economic model for mature economic nations like the U.S.
Look at the reward mechanism. Treat people well, have happy workers, but if companies don't make the "forecasted" profit increase anticipated by Wall Street this quarter, companies get smacked by investors, and stock and worth goes down. These companies didn't lose money or even not make a profit over last quarter ... they just didn't make what "others thought they should". Profit and success are good, but greed is an ugly mistress.
Societies and municipalities are not so unaffected. When these obligations are deferred, the effect is a cost growth over the entire community. While the federal government can use inflation to reduce obligation costs, state and local government must raise taxes or default. Few states are willing to default on obligations to their constituents. But obligations to their lenders? Not so much.
For Ireland, what would the situation be if jobs, that drove their ratio improvement, had been offshored? Consider that the USA has a national ratio of about unity (156M/144M), but the loss of high paying jobs to foreign sources would suggest this metric is inadequate to the task of useful cost comparative information, since the real income is declining. Socioeconomic policy should recognize that there is an optimal [sophisticated] dependency ratio range beyond which increasingly urgent action is needed to stabilize social costs and attract investment. Statistical research may even reveal the effect of dependency costs to investment risk, but not with such a coarse definition.
This Dependency Ratio may be a short term fad, but it lacks the sophistication and precision to use for real analysis or decisions. However, that status hasn't stopped the media from prominently reporting the Dow Industrial Average for more than 100 years.
Part of the solution at a company level it to keep being productive.
I have observed that experience is knowledge and knowledge is a key success factor. Experience is earned with age. So keep experience in the company; don't let it go. Transfer it to other employees; allow employees to benefit from more experienced ones. Develop within the company the foundations for a learn-from-each-other ambiance based on a win-win and positive mind-set.
I know that in the real world of business and management practices, as well as in society, this is far from the case. So there is an immense opportunity for the academic and practitioner communities of business and management, and why not for the government to some extent, to contribute to a workable solution of this matter. We will all benefit from this collaboration.
The United States and other countries will find that their companies just cannot compete due to excessive costs, and if the government intercedes, taxes go up. It is a very tough problem.
Immigration, a longer working life, or nationalized healthcare could help, but each of these has a downside. Productivity increases help most problems in manufacturing but the increases would have to be enormous.
To be competitive in the global marketplace, industry will have to focus on productivity and tougher, leaner pensions/retirements for all employees.
This is a complex issue and will take some extraordinary efforts to address fairly. I just finished the new book "The Politics of Jesus: Rediscovering the True Revolutionary Nature of Jesus' Teachings and How They Have Been Corrupted." I highly recommend this not as a religious book--it is not--but as a book that specifically addresses this very issue: our willingness to take care of all our community members, not just the privileged. Regardless of political or religious leaning, this is a must-read. Do we have the will to do what is right? I hope so. I believe that the disparities will tear apart our civilization.
The first step should be to quantify the impact in a long-term perspective. One way to do so is to include a new item in the balance sheet of companies. Organizations should recognize their liability towards their aging employees and track it in their annual reports. This will help shareholders understand the long-term profitability of organizations. And management will know if they are expanding operations too fast.
Following basic rules for limiting the size of the organization, like outsourcing of non-core operations and hiring contractors for unsustainable operations, can help in managing staff requirements.
Finally, the retired employees should not depend entirely on their employers. Government should improve the social security system and individuals need to plan their own retirement. Individual savings and improved family ties can help in reducing the impact of increasing dependency ratios.
2. A more flexible retirement age with a view to increasing the age for as many employees as possible.
We also separate house/family/voluntary work as less valuable. There is plenty of valuable work begging to be done.
The answers are all there. All we need to do is change the way we think.
Some respondents talked about the need for companies in the U.S. and other developed countries to be competitive with India and China.
The "costs" of worker dependency for things like healthcare and pensions are a result of the developed nature of the country they are in. If they seek to have the low costs of workers in underdeveloped countries, then perhaps they should also be happy to accept the lower sociopolitical conditions of those same countries, such as a lack of strong company and IP laws, volatile political situations, and potential political interference, plus the bribery and corruption that is part of those economies?
If we want the protections offered by listing on stock exchanges where capital is happy to invest, in countries where certain standards of politics, law, and labour are expected, then we better expect that they will be at a cost, and we should start competing on quality, not just on price.
As a manufacturer in a high-cost country, we have found that we have different classes of customers: those who are willing and eager to buy local products even at a higher cost and those for whom price is the defining factor. Since we began offering customers a choice of country of origin, business has boomed and everyone remains happy: We no longer try to cut prices but make a fair profit based on the cost of manufacture.
The real economy is run by working people; otherwise, retired people won't get the return on their wealth.
The number of working people is important. Thus, the dependency ratio is crucial. However, the productivity of the working people is crucial, and higher productivity due to technological and other improvements may overcome the problems of a lower dependency ratio.
The very reason that we are focusing on the "Dependency Ratio" is indicative of the fact that organizations, big and small, are coming under pressure for profitability due to a wide variety of reasons but more specifically with respect to rising employee costs. These costs don't seem to end with organizations having to deal with the current contributors but also tilt to ex-contributors of any organization.
With the Talent War in place, a Compensation War seems to be on the rise. Unless senior managements focus on a conscious and innovative approach towards moderated rewards programs, the focus on dependency ratios will be palpable. Until organizations take a bold new step in innovating rewards practices and trying to bring them to an equilibrium, dependency ratios will dominate.
Groups of organizations should consciously start the process of revisiting certain compensation practices and stop being threatened by talent attrition which influences the compensation design for current employees. This in turn influences retirals over a period of time with forceful certainty.
A few bold steps, a few new methods in compensation, in conjunction with certain economic policies and statutory rules can pave the way for a better approach towards rising compensation/retirals of current and former employees. This can then turn the table towards focused and phased reforms and shift the dependency ratio paradigm.
If we are going to subsidize the retirement of, let's say, the baby boomers, there should be corresponding activity that would result in productivity. More so if corporations are feeling threatened because of the amount needed to finance retirement. What they should look at is not whether the funds are there, but whether CEOs are getting more than what they produce on a macro level.
Just think about it: No one worries whenever a CEO retires.
Since we know the factors that can increase or lower the dependency ratio,we are responsible for having a comprehensive plan concerning health, national birth rate, education, national security, and government policies that encourages business developments including investments.
The situation at GM did not happen overnight.
Inadequate long-range managerial planning, poor
communication / relationship with labor, lack of vision for
customer needs, and slowness in adapting to new technology (including the Internet) is what got GM where they are now. With a keen eye on competition, I am confident they can fix it.
If addressed with regular updates, these factors will increase productivity, efficiency, market share, and
profit. The problem of retirees will no longer exist.
Conclusion: Our response to the dependency ratio should be
the responsibility of the firm or nation. Comprehensive long-range planning in all the factors that can increase or lower this ratio is all that is needed. It is left to those in charge to map their route.
In Asian societies, senior citizens remain productive until very late stages of life. They become caretakers for grandchildren, advisors on various issues, and are even the backbone support for commercially productive children. This enables the adult children to remain very productive at their roles in the organisation.
I can vouch for the fact that more than 50 percent of working couples in India depend on their retiree family members for a lot of aspects!
The notion that retirees should become unproductive is largely fostered in developed nations because of the large sums of assured retirement payments and health benefits. A long life need not be a medical-insurance dependent life! But that is how it is because of the current unsustainable lifestyles of many citizens. Retirement benefits should remain benefits and not become assurances. The retirees cannot and should not be assured of benefits that current economics can't support. Assured retirement benefits create complacency and disincentives for financial education.
The Plan of Action for Corporates:
1. Provide Health Awareness training for employees and encourage healthy lifestyles.
2. Do not retire employees; treat them as part of an extended family where their services may be required.
3. Respect employees' financial judgement. Educate them on financial tools and options. Make proportionate contributions to their investments.
The Plan of Action for Governments:
1. Invest in continual education for citizens. An educated citizenry is a productive citizenry.
2. Create social security as a protection mechanism only and not as an investment option. Excessive social security creates complacency that can harm a nation in the globalised world.
3. Encourage citizens and create mechanisms that provide large payoffs to those who develop more complex skills.
Dependency ratios need to converted to interdependency actions. A vibrant society and organisation learns from its past and invests in the future!
Obviously this is tantamount to heresy in America, but it has remarkable benefits for those who understand that retirement is equivalent to dependency in all aspects of life. Someone who is retired no longer focuses on other motivations, and becomes more self-absorbed, self-conscious, and isolated.
Just a thought from a farmer's son who was taught that to stop working is to start dying. Bless my father, he is correct.
Employer contribution + Employee contribution = dependency ratio of 1:1 is deposited in an interest-earning government trust (not Social Security). The corporate tax is reduced by equal amount of earned interest since the government will earn a higher future return from the trust.
The starting point for the current retirees will be Social Security, where all retirees who paid into SSN will be considered as former employees of the Federal government.
Thus the new scheme will look like the following:
Federal Government (FG) + Retiree (RT) = input to National Pension Fund (NPF)
Current Employer (CE) + Employee Contribution (EC) = input to NPF
All retirees, regardless of their personal wealth, will be issued "The Retiree's Package" (an ID and other items including Retiree's uniform) if they decide to draw from the NPF.
http://www.fasab.gov/pdffiles/si_newsrelease.pdf
The coincidence is a stroke of genius, or an inside job. In the absence of exculpatory evidence, one accepts acumen. Well timed, Professor Heskett!
Whenever I have been fortunate to visit the U.S., I never cease to be amazed at individual profilgacy. Three cars, (all gas guzzlers), multiple credit cards, frequent upgrades of consumer durables, increasing leisure travel to expensive places ... all of these at the expense of prudent investment and savings, and without adequate medical and life insurance coverage.
I only hope that this is a passing phenomenon and the younger generation will save and invest more. Expecting corporations to save on one's behalf is foolish and irresponsible.
Every employer, by law, must contribute 9 percent of the employee's salary to a superannuation fund of the employee's choice. The funds are governed by effective rules of independence, scrutiny, and risk management. They are commercial investment funds where the employee has significant choices in the mix of their invested funds, e.g. domestic stocks, international stocks, cash, bonds, property, etc. Employees (or employers) can make additional contributions to their "Super," which comes with significant tax advantages, noting that these contributions are invested until retirement.
This all means there is no such thing as unfunded pension liabilities (except for some legacy government employees), and an employee is not exposed to the double risk of a poor performing company which may ruin their employment prospects as well as their retirement prospects. Financially unsophisticated employees do not need to actively manage their Super, and for such people the investments automatically allocate to "balanced": a mix of blue chip stocks, cash, and some property.
Now this does not solve the dependency ratio problem, but it provides some means of helping to manage it. The growing pool of savings and investment also helped Australia to sail through some recent economic turmoil (e.g. Asian currency crisis, SARS, September 11) quite well compared to what was expected. If the dependency ratio declines in Australia (as is likely), then the government can actively alter the minimum Super contribution before everyone runs around lamenting what should have been done.
Now, just imagine the economic power behind every U.S. employee investing 9 or 10 percent of their income until retirement?
A case in point is the pension reforms in the Indian public sector (government sector), implemented since 2004, for all new joinees. These reforms comprise the following:
a) Moving from a defined benefit to a defined contribution approach, funded entirely by the employee.
b) Providing flexibility to employees on opting the fund based on investment style.
That approach can be the key in mitigating unfunded pension woes in the long run.
the "globalisation" of growth has been truly discovered
in this debate.
It certainly will help both governments (in their future policy responses) and businesses (in challenging the
notion of "work"/value creation) if they take a more
leading role in the crafting of cutting-edge, grass-roots
community organisations to deliver a broader menu of
value creation as a basis for sustainable growth with
more qualitative elements to it.
This "long haul" approach requires a considerable financial sacrifice now but is the only way in which the dependancy ratio can be made irrelevant by creating a stand-alone personal fund fully adequate for retirement.
Even with median performance on investments, a pension fund should show enough growth over a forty-year timeline to ensure a reasonably comfortable retirement: Yes, it does require some protections in terms of the management of investments, employer contributions--and ideally a supportive tax regime--and maybe an element of compulsion too, but it is achievable.
This degree of personal financial sacrifice would inevitably impact on consumer spending, but we need to be honest with ourselves and acknowledge that we can't actually have it both ways--the best today and the best tomorrow.
With thorough acknowledgement of the fact that this forum addresses the dependency ratio as an economics play at the national and organizational level, it is interesting to observe a behavioral pattern where there are a group of people who feel employed and another who feel unemployed within the organization. Can the term "dependency ratio" be extended to the science of organizational behavior that defines the ratio of staff underutilized to staff used at full capacity?
It would also be interesting to explore the dependency ratio in the context of businesses in emerging markets. Companies offering world class services with the best talent do not necessarily offer luxurious retirement packages. If offered at all, such packages are greatly dependent on the inflation rate of the economy and the health of the organization.