Impulse Response Enterprises Ltd

A Sustainable National Insurance Fund

A National Insurance Fund (NIF) is a modern social security framework. Its primary purpose is to provide financial support for individuals when they reach retirement age, or in some cases, if they are unable to work due to disability or other qualifying conditions. The basic principle is simple: while people are working, they contribute to the fund; once they retire, they receive benefits from the fund. This system creates a form of intergenerational solidarity where current workers support retirees, and in turn, when those workers retire, they are supported by the next generation of workers.

However, the success and sustainability of such a fund depend on sound design, efficient administration, and strong financial management. Without these, the fund risks depletion, leaving retirees and society vulnerable.

How a National Insurance Fund Works

At its core, a National Insurance Fund is built on contributions collected from employees, employers, and sometimes the self-employed. These contributions are usually mandatory and deducted from wages or profits. The money collected is pooled into a central fund that is used to pay out benefits to those eligible, primarily retirees.

Thus, the fund has two essential functions:

Revenue collection – through regular contributions from the working population.

Expenditure – through payouts to retirees, disabled individuals, or beneficiaries.

In practice, the contributions paid in any given year are used to subsidize retirees in that same year. This means the system depends heavily on the balance between the number of workers contributing and the number of retirees collecting benefits. If contributions exceed payouts, a surplus is generated, which can be saved or invested. If payouts exceed contributions, the fund faces a shortfall, requiring corrective measures.

The Role of Initial Capital Investment

To ensure smooth functioning from the start, a National Insurance Fund should have an initial capital investment. This initial capital serves as a buffer that allows the fund to make payouts even when contributions are temporarily insufficient.

Over time, this initial capital should be preserved and grown. If managed properly, it forms the foundation of the fund’s long-term sustainability. If mismanaged or eroded, the fund may quickly run into solvency issues.

Risks of Capital Depletion

Despite the intention of sustainability, National Insurance Funds often face the risk of capital depletion. This can happen for several reasons:

1. Demographic changes – If the ratio of workers to retirees falls, it can result in decreased contributions to support the retirees. So a declining labor force participation rate is a problem. With fewer contributors and more beneficiaries, the fund can run deficits.

2. Economic shocks – Recessions, unemployment spikes, or unexpected crises like the COVID-19 pandemic which causes a widespread disruption in employment can significantly reduce contributions while increasing the need for payouts.

3. Poor management – Misallocation of funds, corruption, or failure to invest wisely can erode capital.

4. Inadequate contribution rates – If contributions are set too low, revenues will never match the required payouts.

Once the capital begins to deplete, urgent corrective measures are needed to prevent collapse.

Approaches to Addressing Depletion

When a National Insurance Fund faces depletion, there are several options available to restore sustainability.

1. Increasing Contribution Rates

The simplest approach is to raise the size of contributions paid by workers and employers. For example, if workers currently pay 10% of their income, this may be increased to 12% or 15%. This immediately boosts revenue but comes at the cost of reducing disposable income of workers.

2. Expanding the Contributor Base

Another approach is to increase the number of people contributing to the system. This can be achieved through policies that encourage higher workforce participation, such as creating more jobs, formalizing informal work, and even attracting foreign workers. Migrant labor can play a significant role in expanding the contribution base, especially in countries with aging populations.

3. Extending the Retirement Age

By allowing or requiring people to work longer, two benefits are achieved simultaneously: contributions continue for a longer period, and payouts are delayed. For example, raising the retirement age from 60 to 65 means an additional five years of contributions and a shorter payout period. This approach directly addresses demographic shifts and increases sustainability.

Why a Portfolio Investment Approach is the Better Approach

While the above measures can provide temporary relief, they are not sufficient in the long term. A more robust approach is to treat the National Insurance Fund as a professionally managed investment portfolio.

1. Portfolio Building

The fund should not simply hold cash or be passively managed. Instead, it should be invested across a diversified portfolio of assets, including:

• Government bonds (safe, stable returns).

• Corporate bonds (higher yield, slightly higher risk).

• Equities (long-term growth potential).

• Real estate and infrastructure (inflation-protected assets).

• Alternative investments such as private equity or green bonds.

The aim is to build a balanced portfolio that generates steady returns over time while managing risks.

Managing such a portfolio requires skill in econometrics, risk modeling, and portfolio optimization. There is a need for competent professionals with econometrics skills to analyze financial markets and manage a portfolio of different assets to generate positive returns.

The real advantage of portfolio management is that the fund begins to generate income in the form of dividends, and capital gains. Instead of relying solely on contributions, the returns on investments can be used to cover part or all of the payouts. In an ideal scenario, contributions are used to maintain and grow the capital base, while investment returns fund the payouts. This creates a self-sustaining system that is far more resilient to demographic and economic shocks.

Example: How It Works in Practice

Suppose a National Insurance Fund has an initial capital of $10 billion. If this is invested wisely to earn an average return of 5% per year, it generates $500 million annually. This $500 million can be used to pay retirees without touching the principal. If contribution inflows add another $1 billion annually, the fund continues to grow while still meeting its obligations. Over decades, the fund compounds and becomes stronger, ensuring long-term sustainability.

Contrast this with a pay-as-you-go system where contributions are used immediately to pay retirees, with no investment component. In such a system, sustainability depends entirely on maintaining a high worker-to-retiree ratio. Once that ratio falls, the system collapses.

Ready for a Sustainable National Insurance Fund? Partner with Impulse Response Enterprises Ltd

This work is technical, and not everyone can perform the work. However, Impulse Response Enterprises Ltd has the skills, competencies, and experience to deliver. Do you want assistance? Contact IREL and let us develop solutions for you.

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