Withdrawing Pension Savings: Risks and Alternatives

Note: December 2020. At the time, the author was Chairman of the Management Board of Bank CenterCredit.

Pension payments

In Kazakhstan, pension contributions are perceived as a kind of tax, and few people would voluntarily transfer part of their wages to pension funds. Compulsory medical insurance and compulsory motor third-party liability insurance are likewise seen as taxes.

So now that people have been allowed to use part of their savings for their own needs, according to a list set out in law, most of them will certainly exercise that right.

From a macroeconomic standpoint, I have always been against such an initiative. The effect on the economy as a whole is ambiguous, and it is also unclear how people will cover their expenses in old age. But from the standpoint of the individual, the measure is of course seen in a positive light, since the state is returning to him part of his tax.

Let us discuss the risks that stand out in this scheme. They are only risks, and any risk has to be managed. So perhaps they will not materialize, but risks should always be spelled out.

1. Misuse of funds

The biggest risk is misuse. People need money, and devising schemes to use pension savings for their own needs will be the main risk. There are plenty of options, and they are already visible to the naked eye. Let me give a few. The money will be allowed for repairs, medical care and individual construction. I find it hard to imagine how these categories will be verified. Schemes with inflated prices for land plots, apartments and so on will also emerge. For example, you have a land plot and sell it to a third party. After some time the third party sells the plot back to you at a markup equal to the amount of savings in the pension fund. These risks need to be addressed, and nobody understands how.

In this case, I would allow only one option: repaying a mortgage in equal installments over five years. To cover the interest, these funds could be placed with second-tier banks for the same term at a fixed rate equal to the mortgage rate.

2. The bottleneck of the Housing Construction Savings Bank (HCSB)

It is proposed to make HCSB the operator of this program. I have no convincing arguments as to why it was done this way. But here there is a very large risk of a bottleneck. The media reported that about 600,000 people will be able to use these funds. I can't quite imagine what the load on HCSB will be after January 1, although the infrastructure of all second-tier banks makes it possible to avoid bottlenecks, and the digital channels of many banks could make the whole process fully remote. I hope everything has been thought through on this point. Still, many people who receive these funds will then take them to other second-tier banks, because they will repay a mortgage, take out a mortgage, pay for off-plan apartments and so on. Why the money has to go through HCSB remains an open question. At the very least, I would let people repay their mortgages directly and make down payments under the Baspana programs and the second-tier banks' own mortgage programs, bypassing HCSB. This would make life much easier for people and relieve the system, and there are no risks at all in this option. If I understand correctly, HCSB's task is precisely to close off risk No. 1.

3. Rising housing prices

In one of my recent posts I wrote that housing prices are rising because of cheap mortgages. An additional injection of pension money into the construction sector will further increase the risk of rising housing prices, which in the end will have a negative effect on preserving pension savings from an investment standpoint. It is not entirely clear how price growth is to be contained. Considering also that the people who will be able to use their savings are concentrated in a few large cities, it is in those cities that housing prices will rise significantly. Administrative measures cannot help here, since there is also the secondary market. How could this problem be addressed? First, we need to work on infrastructure and building permits in order to increase the number of construction projects and, accordingly, the supply. Second, I would still allow the funds of the Unified Accumulative Pension Fund (UAPF) to be used not all at once but on a schedule, over at least several years. This could be done by amount of savings, by age, or by purpose of use. For example, first allow repayment of mortgages, then allow down payments, and so on.

4. Impact on the economy

In the short term, the impact on the economy will be positive in the form of stimulus to the construction industry. But as I have written many times, housing construction, as a consumer-driven industry, should be stimulated not by the state but by the market, through economic growth, since construction has no multiplier effect and its impact on the economy is one-off. Construction should therefore always follow the economy and never act as its locomotive.

Increased imports of construction materials and various household appliances will have a negative effect on the exchange rate. We will spend the pension money and build a lot of housing, but what next? The additional money supply will put pressure on inflation. And that is only a brief summary.

How pension savings could be used with minimal impact on the economy is also a difficult question.

Perhaps, for example, these funds could be used for education: a person could pay for his children's tuition at a Kazakhstani university. That would improve access to education, investment in children's education yields a much higher return, and the money stays in the economy, since universities are a local product. Next, we could allow people to buy annual voluntary health insurance. That would improve access to medical services, raise health care to a qualitatively different level, and again it is one hundred percent localized. At the same time, it would develop the insurance market. Of the options currently on the table, it would be logical to keep the possibility of paying a mortgage and making a down payment. And in the case of a mortgage, only payment of the mortgage installments.

That is a brief look at the risks, and there are also many open questions. For example, if pension funds cover 10% of the property being purchased, why should the asset be frozen for five years? Or if the person dies and his apartment passes by inheritance and must be divided among several heirs, will it be possible to sell it or not? And if a person has bought an apartment that cannot be sold, and creditors then place a lien on it, for example a bank over another loan, what then?

In short, there are many questions. I hope the Ministry of Labor and Social Protection has answers to all of them.