It was a concern: Would a bond peg hurt Central Provident Fund (CPF) returns for some people, namely the older generation? Now, economists and finance professionals have their answer, and they are satisfied that, at least, nobody will be worse off under the new CPF formula.
What did the trick was the extra 1-percentage point tacked on to the yields from the 10 year Singapore Government Securities bond, which will be used to determine returns for the Special, Medisave and Retirement Accounts (SMRA).
Citi economist Chua Hak Bin, who had previously calculated that the older generation, with more savings in their SMRA, could be hurt by the change, told TODAY the new formula was fair.
Indeed, in his speech in Parliament on 18th September, Second Finance Minister Tharman Shanmugaratnam said the 1 percentage point built into the SMRA is "generous".
The total return is larger than what other countries such as the United States, Switzerland and Japan pay on their 30-year bonds, he said, and added that it would provide "adequate allowance" for future economic and market uncertainties.
To UOB economist Suan Teck Kin, though, the new CPF formula is a signal from the Government that those who are financially able should plan their own long-term financial needs instead of leaving it to the Government.
The removal of the 4-per-cent minimum rate of return in 2010 could catalyse CPF account holders to seek better returns instead of leaving it to the Government, especially given how bonds work.
Just as a government that issues more bonds in order to fund deficits will drive bond yields up, one that runs its finances properly can keep yields low. Overall, the less the risk attached to a bond issuer, the lower the yields.
In this way, the new CPF peg is more market-oriented than previously.
"If the Government were to keep paying you this fixed amount, this 4 per cent, and if you are expected to live longer, the Government's burden would be larger and larger down the road," said Mr Suan.
While CPF returns will fluctuate more in the future, Mr Shanmugaratnam informed MPs that the new SMRA rate has stayed above 4 per cent for 85 per cent of the time since the 10-year bond was issued in 1998. On average, he expects it to remain above this rate over the next five to 10 years.
Dr Chua concurred: "The older generation with large savings and those who have higher incomes may face higher risks from a shift to a 10-year bond but, at least in the near term, the downside risk is pretty much limited."
While noting that it is difficult to ensure that every individual benefits from a piece of legislation, senior vice-president Scott Mitchell of financial planner IPAC said the changes are a good start.
"As a complete package, with all the other benefits, it really starts to fill in all the gaps," he said. - TODAY/ym
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