Mexicans Rush to Switch Funds to Private Pensions

A chance at winning a free stereo spurred Arturo Diaz, a Mexico City attorney, to transfer his pension money out of the state-run social security system and into a private investment fund run by one of Mexico’s largest banks.

Cristal Contreras jumped at the promise of cheaper and personalized banking services, which she got for transferring her pension to an investment pool co-managed by Aetna Life & Casualty Co. and Bancomer, Mexico’s largest bank.

Accountant Raul Montiel said that moving his pension out of the government bureaucracy and to Banco Santander was simply a matter of fiscal prudence.

“This is all I have. It had better be managed well. You can’t trust the government to do it,” he said.

For all sorts of reasons, more than 8 million Mexicans--73% of those eligible, far more than anyone expected--have signed up to take their pension money out of the nearly bankrupt social security system and put it into what they hope are more competently managed private funds called afores. In Spanish, afore is an acronym for retirement fund administrator.

Mexicans could have waited until 2001 to make a change or just turned their funds over to the central bank, which guarantees a return of 2% above inflation. But they couldn’t wait to get out of the government accounts and into the largely unproven funds, many of which are co-owned by foreign companies.

Most of these people are motivated by the government’s mismanagement of the pension system, which is billions of dollars in the hole and headed for bankruptcy in 2006. The old system was a “pay as you go” arrangement in which employee contributions that came in one door went immediately out another to pay retiree benefits--a prescription for disaster as the population ages.

Mexicans are also being swayed by a $135-million marketing blitz, much of it financed by U.S. financial institutions hoping to share in a $1-billion bonanza. Those institutions see an enormous river of cash heading their way, fed by contributions equaling 8.5% of employees’ gross wages.

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Mexico’s is not the first pension system to be privatized--seven other Latin American countries have junked their social security systems since Chile blazed the trail in 1981. But Mexico’s is by far the largest public-to-private conversion to date and is drawing the heaviest participation.

As such, Mexico’s experience is attracting close attention from governments around the world rethinking their approach to public pension systems--including the United States, where many observers predict that, without radical change, Social Security will go broke sometime after 2020.

For Mexico, pension privatization means more than the junking of a moribund system. It’s a cornerstone of President Ernesto Zedillo’s effort to modernize the economy, increase savings and thereby lessen the reliance on foreign capital that nearly brought the economy down after the 1994 peso devaluation.

On Wednesday, the first $400 million of employee savings and matching employer contributions will start flowing to the private money managers instead of pension system bureaucrats.

By January, $4.7 billion will have been deposited in the afores, with an estimated $2.4 billion to be contributed annually in coming years. For now, the money--expected to total $11 billion by 2000--can be invested only in government and corporate bonds within Mexico. But in coming years, possibly as early as next summer, the rules are expected to be liberalized, allowing for investment in Mexican stocks and eventually foreign securities. The investments are uninsured, but they are tax free until withdrawn.

All that fresh money flowing into the private sector has attracted banks and financial institutions that figure to make money managing it.

U.S. firms such as Aetna, Citibank, GE Capital, Bank of Boston and American International Group, the largest U.S. insurance company, are among the foreign firms that own pieces of 17 afores.

They are tapping into Mexicans’ near total disillusionment with the government’s stewardship of the social security system, which to stay solvent--and keep pace with the growing number of pensioners--would require the average Mexican worker to contribute his or her entire annual salary starting in 2020.

“The government’s management of social security has been a disaster. I wasn’t going to keep my money there if I had a choice. We’re doing what we have to do for the long term,” said Diaz.

In addition to being wooed by multimedia marketing campaigns, Mexicans have been accosted on the street, at work and in their homes by an army of 70,000 specially trained and commission-driven salespeople. And many cheerfully signed up.

“People came to my office to explain it. I liked it--it’s more convenient,” Contreras said of her new account managed by Bancomer and Aetna.

But other workers say they have been pressured by their employers to switch, partly because some bosses are said to receive kickbacks.

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Potential conflicts of interest abound both within Mexico’s huge banks, many of which own afores, and in conglomerates such as Grupo Financiero Inbursa, a conglomerate controlled by billionaire Carlos Slim Helu that has more than 80,000 employees--and a private pension fund. Critics say the employers that run afores, such as Inbursa and the banks, routinely pressure employees to join up with them.

Those potential conflicts, on top of complaints about afores’ high fees, have galvanized some critics. Among the most influential is Ricardo Garcia Sainz, an opposition member of Mexico’s Congress who headed Mexico’s social security system for 12 years.

Calling the afore system “an abuse against workers,” Garcia Sainz advises employees to keep their money in the central bank and away from the private money managers until a new pension law that he has pledged to sponsor this session is passed.

Others, including Vasquez, criticize the way afores are structured and the prohibition against their making foreign investments. Until they are allowed to diversify overseas, the funds will be vulnerable to the potentially disastrous consequences of another peso devaluation like the one that so cut the value of savings in 1994.

But those discordant notes are faint compared with the chorus of enthusiasm sounded for privatization by government officials and economists inside and outside Mexico.

Alejandro Villagomez, a researcher with the Center of Economic Research and Studies in Mexico City, said the new system introduces a welcome element of accountability into Mexico’s pension system.

“Now each depositor will know exactly what they have in their accounts from their statements they will get twice a year. In the old system, everyone was in the same common account and you didn’t know. What the worker accumulates is independent of the rest,” Villagomez said.

While the debate continues, Mexicans continue to jump ship. The reason is the large sales staff that each afore has on the streets, said Ralf Peters, president of the Mexican afore trade group and also president of Afore Bancomer.

“This is a very labor-intensive business that was won or lost as a function of how many people you had on the streets. The people who did not react quickly with large sales forces were left behind,” said Peters, whose company at one time had 5,000 salespeople combing Mexico for clients.

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With 20% of all new accounts, Peters’ fund has signed up more than any other afore. Bancomer hooked up with Aetna partly because Aetna had experience selling private pension accounts in Chile.

Investments in managing afores are good for the U.S. financial institutions strong enough to wait out the four- or five-year period before they become profitable, said Jorge Mariscal, chief Latin American investment strategist at Goldman, Sachs & Co.

For insurance companies such as Aetna and American International Group, private pension fund management in Latin America is especially desirable because it complements those companies’ other lines of business, ranging from short-term health and casualty policies to life insurance and annuities, which many of the pension accounts now being formed will someday convert to.