Mexico Completes Sweeping Overhaul of Social Security

Mexico on Thursday completed a sweeping overhaul of its social security system, propelling the country into a pension revolution that is sweeping Latin America and even attracting attention in Washington.

The government approved a partial privatization aiming to head off the collapse of a social security system that, like its U.S. counterpart, is increasingly strained by a growing number of retirees.

The new system will let Mexicans pour their pension money into private funds managed by banks, insurance firms and other institutions, much as 401(k) retirement plans operate in the United States. U.S. and Canadian companies are expected to get some of the business.

In addition to stabilizing the system, the government of President Ernesto Zedillo is hoping for an additional, dramatic benefit: an increase in the country’s paltry savings rate.

If more Mexican savings were available, officials said, the country might not need another bailout like the $20-billion U.S. aid package it received last year after a disastrous devaluation.

“The key for Mexico’s future development is to induce a much higher savings rate. This is why we attach particular importance to the pension fund initiative,” Finance Minister Guillermo Ortiz told The Times last week.

“The reform of the social security system is a landmark.”

Mexico’s Senate on Thursday approved the law creating the new system. The plan got a thumbs-up from the lower house of Congress last Friday, after days of acrimonious debate.

Mexico is the fifth country to join Latin America’s social security revolution. Like Peru, Colombia and Argentina, this country was inspired by a successful 1981 privatization in Chile, which has resulted in buoyant returns on citizens’ pensions and an increase in overall national savings.

Now, even U.S. officials are studying the idea. An advisory board to the U.S. Social Security program recently recommended partial privatization as one of three options for reforming the U.S. system, which is currently expected to become insolvent by 2029.

“Whatever the problems of the Social Security system in the U.S., the problems in those [Latin American] systems were 10 times more,” said Dimitri Vittas, a pension expert at the Washington-based World Bank.

Like most Latin American countries, Mexico has had a pay-as-you-go social security system. That is, workers’ contributions have gone straight out to pay retirees.

But with the number of Mexican pensioners growing at a stunning 7% a year, the program was expected to go bankrupt by 2002, officials said. Further burdening the system, many Mexicans traditionally dodge their social security taxes.

“We hope with the new system, workers will see very clearly the benefits, and want to accurately report their earnings,” said Carlos Noriega, a senior Finance Ministry official.

The new system works like this: Beginning next January, Mexican workers will set up individual retirement accounts, known as Specialized Mutual Funds, or Siefores, their Spanish acronym. Like 401(k) accounts in the U.S., they will be individual investment funds for retirement, run by private pension fund management companies.

Contributions once made by employers, workers and the government to social security will instead go into the individual accounts.

The money can be invested in stocks or bonds. In case a mutual fund company flops, the government will guarantee a pension based on the minimum daily wage, currently about $3, but linked to inflation.

The new law will allow local subsidiaries of U.S. and Canadian companies to compete with Mexican firms in offering pension management services.

Already, U.S.-based insurers such as Aetna Life & Casualty and banks such as Bankers Trust have plunged into the business in Latin America, running pension management companies in Chile.

Although they won’t require it, Mexican officials say U.S. institutions may decide to operate the funds in joint ventures with Mexican banks to take advantage of their local sales and branch systems.

New York-based Citibank is among those interested in the Mexico opportunity. “We have that as a top priority throughout Latin America,” said Julio de Quesada, manager of Citibank’s Mexico office.

Authorities are hoping that by 2010, the pool of pension money will equal about a third of Mexico’s annual output, or gross domestic product.

Because the law requires that the money be invested in Mexico, it is expected to swell the country’s stock and bond markets. It will probably raise the national savings rate, currently about 17.4% of national output, or two points higher than the U.S. rate.

The government blames meager domestic savings for the country’s reliance on foreign investment--a reliance that proved catastrophic when investors yanked their money from the country in 1994, contributing to a severe devaluation of the peso and the worst recession in six decades.

But Vittas, the World Bank expert, cautioned that the savings from privatized pension plans haven’t proved enormous. One risk, he said, is that people consider they have socked away plenty of retirement money, and therefore spend more of their take-home pay.

In Chile’s case, he said, the added national savings from the privatized pension system only equaled about 2% of national output.

The reform does not come cheap.

Workers entering the social security system for the first time next year must abide by the new system. But other workers can opt to receive a pension under the old plan, and the government will have to pick up the tab for the latter group.

Noriega, the Finance Ministry official, estimated the government would have to fork out an amount equal to about 0.7% of national output next year. The figure could rise as high as 1.2% of output in some years, as the old system is phased out, he said.