OECD recommends changes to Mexico's pension system

Mexico's pension system was the subject of a study by the OECD that assessed its achievements since the introduction of the defined contribution (DC) scheme in 1990, in addition to the traditional defined-benefit (DB) system.

According to the OECD study, the DC formula introduced for private sector workers in 1997 and for public sector workers in 2007, "has been relatively successful in increasing the capacity of the Mexican economy to finance pensions." By the end of 2014 the system had pension assets equivalent to 14.1% of GDP, "putting Mexico in the middle range in the OECD area, after only 17 years of having the system in place."

Pension fund administrators known as Afores achieved annual returns of 12.5%, or 6.2% in real terms, since their introduction.

Nevertheless, the OECD study provides a number of recommendations for improving the system, among which and deemed by the organization as "one of the main challenges" is the transition from the old DB (pay-as-you-go) mechanism to the DC system.

As pensions provided by the DB system are not fully backed by contributions they are "much larger than what the accumulated savings can grant," and therefore "this difference will obviously lead to disillusionment and opposition to the new DC pension." The OECD proposes a two-component formula based on the rights acquired under the DB formula and also on the assets accumulated in the DC individual account.

"This would smooth the convergence from the old system (generous and financially unsustainable) to the new system (balanced and financially sustainable)."

Among the other OECD recommendations are:

– Increase the contributions to the system from the current rate of 6.5% of salaries, which leads "in the best case scenario, to a replacement rate [percentage of the last salary represented by the pension] of only 26% for the average worker," to 13-18%, which would lead to a replacement rate of 50% over 40 years of contributions with 75-90% probability.

– Improve the old-age safety net by integrating and expanding it.

– Eliminate the fragmentation of the system: Mexico's pension system shows "striking differences between public and private sector workers' schemes." The OECD recommended "harmonizing the rules for all pension plans, with the ultimate goal of establishing a truly national pension system equal for all Mexicans."