The 18% Interest Rate Controversy: Get Back to Basics
China Times editorial (Taipei, Taiwan, ROC)
January 14, 2011
Civil service health and retirement benefits include preferential interest rates on bank deposits. Following attacks on the system from various segments of the public, President Ma responded. He said he would conduct an overall review and urge amending the relevant laws. This would ensure fairness, justice, and meet public expectations. We agree with President Ma. We too look forward to a final outcome consistent with the requirements of social justice.
The 18% interest issue has a long history. In 1960, the prevailing interest rate was over 10%. The preferential interest rate on bank deposits for civil servants was set at 1.5 times the standard bank deposit interest rate. In 1979, interest rates fell to 8%. Therefore the preferential interest rate was set at 14.25%. In 1983, after several revisions, both up and down, it was set at the 18% minimum we have today. At the time the bank interest rate was 12%.
The system has been around for some time. So why has it become a source of political and social turmoil? The main reason is that the overall economic and social environment has changed dramatically. The 10% bank interest rate back then has become today's 1%. The government, i.e., the taxpayer, provides this interest to retired civil servants. This interest has surged from seven or eight percentage points, to sixteen or seventeen percentage points. Annual spending has grown from 10 or 20 billion NT to 70 or 80 billion NT. Next year it will grow to a high of 140 billion NT.
But what about the general public? DGBAS statistics tell us that millions of employees across the country earn less than 20,000 NT a month, and 360,000 earn less than 30,000 NT a month. These employees work hard all their lives. Labor pensions are annuitized. But their monthly retirement annuities will be a paltry 10,000 to 20,000 NT. Civil servants however, will receive an average monthly civil service pension of 40,000 to 50,000 NT. Blue collar workers will receive less than 30% of what civil servants receive. If we add additional benefits such as preferential deposit rates, the gap is even greater. This is the source of social discontent.
According to the Bank of Taiwan, over 400,000 depositors have preferential interest rate savings accounts. Twenty percent of them have a balance over 2,000,000 NT. Every month they receive 30,000 NT in preferential interest. Millions of employees earn less than 30,000 NT a month. They must pay taxes to support these pensioners. They must also subsidize them by providing them with interest rates 17 times the market rate. Such a system is naturally going to come under fire.
Consider also the fiscal burden of government. The 18% interest rate is increasingly unsustainable. Those who advocate maintaining the original system point out that workers who entered the civil service after 1996 did not qualify for such treatment. Therefore, the burden on the government will become lighter, and the problem will eventually disappear. But according to estimates if interest rates fail to rise, future 18% interest expenditures will increase. In four or five years it may reach 140 billion NT per year. By the time the system is sunsetted in Year 134 of the Republic of China, the government will have to pay out 2.5 trillion.
Second generation health care has been rammed through, in the hope that the national health insurance system will remain solvent for another five years. It receives little more than 20 billion NT in income. Leave aside middle and low income workers, lunches for impoverished students, and other social welfare spending for the disadvantaged, costing the public billions. When the government starts counting beans, every year taxpayers will have to pay out hundreds of billions in civil service pensions. They will also have to provide interest subsidies to the tune of 70 billion NT. The public will rebel, and the system will find it unsustainable monetarily.
So how should the system be reformed? President Ma has proposed excluding the wealthy, and signing a substitute rate into law, We agree. Moreover, we believe that reform should be based on the concept of an income replacement rate. In many countries the world over, retirees receive a reasonable pension, commensurate with the income they once earned, i.e., the income replacement rate. This rate ranges from 60 to 70%. It is based on the human life span. Peak spending is concentrated at one's prime of life. Work, child-rearing, home purchases, and other large expenditures all occur during this period. Expenses following retirement occur after the peak. An income replacement rate of 60 to 70% can maintain one's quality of life. Therefore, if one receives monthly retirement pensions that exceed a certain percentage, say, 50 to 70%, the preferential savings interest rates should not apply.
As for excluding the wealthy, this might be considered a codicile to the income replacement rate. For example, the statutory income replacement rate might be lower than 60 or 70%. But if one's income exceeds a certain amount, such as 80,000 or 100,000 NT, or a specified multiple of the minimum cost of living, one will no longer qualify for the preferential interest on bank deposits. In addition to the income replacement rate, and provisions to exclude the wealthy, there should be "provisions for the poor." The number of early retirees and low level civil servants on small pensions may be small. But they should not be neglected. They should be given special consideration.
The current system sets the minimum preferential interest rate at 18%. We believe this should be changed, and linked to the market interest rate. One way is to follow the original example, and set the prefeerential interest rate at 1.5 times the market interest rate. But the interest rate today is only 1%. Vested interests will inevitably precipitate a powerful backlash. Therefore a fixed percentage in subsidies will allow the government to control spending.
Reforming the 18% interest rate is bound to provoke a backlash, But the issue has already provoked widespread discontent. The government must proceed. It must get back to basics, rather than sit idly by while the issue is politicized.