(Reprinted from HKCER Letters, Vol.41, November 1996)


Central Provident Fund in Singapore

Linda Low


I am going to describe to you a Singaporean institution called the Central Provident Fund (CPF). I shall also point out some of the sociopolitical implications of the CPF.

When the Central Provident Fund was formed in 1955, it was basically an old age pension scheme, but since then its role has expanded and evolved. In 1955, as part of a mandatory savings scheme, employees and employers in Singapore both paid an amount equal to 5 percent of an employee's wages into the CPF. Today, the amount for both parties has increased to 20 percent, meaning that every employee in Singapore participates in an enforced savings plan in which an amount equal to 40 percent of his or her wages is saved. Forty percent does not represent the highest level of mandatory savings that the Singaporean government has ever enforced. In 1985 employers and employees contributed an amount equal to 25 percent of an employee's wages to the fund -- for a total of 50 percent. Because of the recession, the rate for employers was subsequently lowered by fifteen percentage points, and has since crept back up to its present rate. It is necessary for the long-term rate to be at least 40 percent, because a lower rate would not support all the supplementary schemes besides old age security which are now part of the CPF.

Despite changes in the rates of contribution to the fund, the CPF's major role is one of providing old age security. CPF members cannot withdraw their savings until they are fifty-five years old. However, since 1984, CPF members have been allowed to use CPF funds to pay for hospital expenses for themselves and three other family members under what is called the Medisave account.

The CPF was first liberalized in 1968 for public housing. Many Singaporeans have purchased public housing flats using the fund. In 1981 the homeownership scheme was extended to private residential houses. And in early 1990, in an effort to encourage local entrepreneurship in Singapore, the government began to allow CPF members to use CPF funds to buy non-residential properties such as commercial offices, factories, and shops.

As the government started to extend the idea of stakeholdership through property ownership or asset enhancement, it began to allow investment in not only residential and non-residential property, but also in approved stocks and shares. The CPF basic investment scheme and the enhancement investment scheme (these differ only in the instruments available for investment, with the enhanced scheme covering a broader range) are being replaced by the simple CPF investment scheme. Part of the purpose of this liberalization is to deepen and widen the Singapore stock market. Since 1989, dual listings of the Stock Exchange of Singapore (SES) and the Kuala Lumpur Stock Exchange (KLSE) were officially terminated. This entailed the delisting of Malaysian-incorporated companies from the SES and Singapore incorporated companies from KLSE. Consequently, the remaining Singaporean counters in the SES were few and narrow in scope. Privatizing some statutory boards and government-linked companies enhances assets ownership in allowing Singaporeans to invest. Moreover, these developments promote Singapore as an international financial center and capital market. They also help widen the scope of the stock exchange in Singapore. Finally, they assist with the government privatization program, as, for example, in the case of Singapore Telecom, which was privatized in 1993. A huge sum withdrawn from the CPF was invested into Singapore Telecom. Thus, this investment scheme kills several birds with one stone.

Besides allowing CPF funds to be used for housing, medical expenses, and old age pensions, the government recently began permitting CPF members to withdraw their CPF funds for locally provided tertiary education. CPF funds can be used to pay the tuition fees of CPF members and their children at two universities and four polytechnics in Singapore. At this time, however, the government still does not permit the use of CPF funds for tertiary education abroad.

There are also a couple of insurance schemes under the CPF. They exist basically for the purpose of protecting homeowners and their dependents in case of the untimely death or debilitating illness of the family's primary wage earner. Premiums for these insurance schemes are paid for from CPF funds. Thanks to such schemes, CPF member families do not have to sell their stocks and flats.

This is the extent to which the CPF has been liberalized so far. The government still wants to ensure that people keep sufficient funds in the account to cover their retirement needs. It is easy to imagine that, aside from the 4 percent left in the special account only for old-age withdrawal (i.e., not to be used for housing, education, investment or Medisave), CPF members who have bought flats and shares might have little cash savings left after they reach the age of fifty-five. In 1987 the government came up with a minimum-sum scheme whereby certain amounts have to be saved in order to assure financial security beyond the age of fifty-five. The minimum sum is part cash and part asset value, if CPF members already have houses. The CPF has been trying to encourage people to take out their funds in the form of an annuity scheme, which is presently run privately by banks and by the CPF Board. We are also encouraging fund managers to package individualized, customized annuity schemes for CPF members. And CPF members can take out annuity payments beginning at the age of sixty, and continuing until their endowments run out.

Presently, we can see that the growth in CPF contributions, which stands at 18.3 percent for the recent period, is still higher than the growth in the withdrawal rate. Given ageing demographics in Singapore, as we grow older, the growth in the withdrawal rate may begin to exceed the growth in the contribution rate. The amount we draw for retirement is still very low. This reflects the fact that we have a very young labor force, which means that a lot of money is kept in the CPF. Nevertheless, twenty years from now the picture may be quite different.

A number of topping-up schemes exist in Singapore, such as topping up the old age minimum sum by children for their parents. Another interesting feature is the top-up from government budget surpluses. The government has taxed more than it needs to spend in the Singapore economy. In a sense, the objective of our government is to give people back a kind of dividend, using government surpluses. The government contributes to the old age savings of people who have not accumulated enough money for their retirement. It also tops up for the medical expenditures of the truly needy, because the Medisave scheme started only very recently, in early 1984. Many older people actually have very small balances in their Medisave account. The government also gives top-ups for share ownership. Thus, the government is teaching people how to enhance their assets. All this is being done for a purpose; the government is basically making use of the CPF to enhance what we called the stakeholdership in Singapore. Because of mandatory savings and because of the CPF, people are able to use funds for education and for health services. The government contributes to their savings to increase their sense of financial security. Moreover, people feel committed to the country, because they appreciate the things the government is doing for them.

Let me turn to the social aspects of the CPF. There are some 1.6 million people in Singapore's labor force, 1.3 million of which are active CPF members. This means that the percentage of CPF contributors in the labor force as a whole is quite high. In fact, the only people who we are trying to convince to participate in the CPF are the self-employed, because presently they have the choice of whether or not to contribute to the CPF. With the added incentive provided by the aforementioned top-up schemes, more people should come under CPF coverage. Singapore is still very cash rich. We have a lot of funds available. Many fund managers and foreign institutions are looking at how increased participation in the CPF is going to affect consumption, investment, and savings in Singapore.

Let us get back to an analysis of the CPF scheme. What has accounted for the CPF's success, and what makes it work? First of all, the government's vision is one of a surplus budget rather than a deficit, so that we will not need to mobilize savings into deficit financing, as we did in the early years, when CPF funds were lent to the Housing Development Board so that it could build flats. In the early 1970s, when the government began to accumulate a large store of surplus funds, this became unnecessary. Thus, CPF funds are currently all invested in government bonds, as a kind of security.

The CPF's success in Singapore, in my opinion, can be attributed in a large part to the balance of what we call the trinity --the economy, the society, and the polity. The government has always practiced a kind of paternalistic self-determination model. While it guides us on what to do -- use money for housing, for education, and so on -- these are also the things we want to do. This is a very important concept, because people's welfare is enhanced through the CPF with the government's guidance. There is a great deal of trust required between the people and the government.

As Singapore becomes a developed country, we do not want it to become a welfare state such as America, Europe, or Australia. For instance, we do not want the CPF to be used to provide unemployment insurance, social security for out-of-work or unmarried mothers, or maternity benefits. Only maternity benefits are deemed acceptable and they are provided under terms and conditions set out in the Employment Act.

Is it fair, however, for us to claim that Singapore is not a welfare state when there is so much government subsidizing of housing, medical expenses, and education facilities? The difference is that in this Singapore version of "welfare state," CPF accounts are individualized as savings of the members. We do not have an intergenerational transfer such as the one on the pay-as-you-go system, by which one generation supports another, as occurs in other welfare state financing systems. Despite this, the Singapore government contributes an average of seventy thousand Singapore dollars in basic education, health, and housing for every citizen. But these subsidies are limited to social services. We do not subsidize unemployment. The human development aspect of government subsidies is a strong point of the political economy of Singapore.

There are still a number of issues that are cause for concern. The self-employed segment of the population must be drawn in to participate in the CPF. The current contribution rate of 40 percent cannot increase without affecting Singapore's labor costs. Many people are also concerned about the sufficiency and the solvency of the CPF. We would like to take this opportunity to assure everybody that because the CPF is a self-funded, individualized system, it is fully funded and solvent. No one gets more or less than he or she has saved in the CPF. Unlike a pay-as-you-go system, in which financing might be a problem, in the case of the CPF, there is, strictly speaking, no intergenerational equity. Whatever the individual pays, he gets back; he does not subsidize the working generation before him. Members of the scheme can, however, use funds for the younger and older dependents in their families. For example, a member might use CPF funds to pay for his children's university education. The children's medical expenses are also paid by the member's Medisave account. Members can also use money from their own CPF to top up the money in their parents'CPF. The important feature of these intergenerational effects of the CPF is that they remain within the family, so the payee knows who his money is benefiting. In a welfare state, however, subsidizing across generations may mean that one, in effect, provides financial assistance to strangers. While this happens under general taxation principles, it is less acceptable for social security, as the payees of social security tax and the beneficiaries of welfare benefits financed by the social security tax are not the same people, and this discrepency can create disincentives to work.

One worrisome aspect of this issue is the question of how much postponed inflation caused by CPF withdrawals might affect the Singapore economy say, twenty years from now. By then, more older people will begin to withdraw funds and use them for consumption. At the present time, the savings rate is very high in Singapore. This is partly due to the CPF, but the CPF is not, in fact, the main reason. The rate of voluntary savings is also high. Gross domestic savings in Singapore is currently at 51 percent of the GDP -- one of the highest savings rates in the world. In Japan, the rate is only 38 percent. Japans rate used to be about 48 to 49 percent, but there has been a demographic change with an ageing population, and less is being saved as a result. In twenty years, Singapore will be facing the same situation.

We are also concerned that through the CPF we might overencourage people to purchase housing in Singapore. We encourage people to buy houses not just as dwelling places, but we also encourage them to purchase non-residential housing as investments. As it is in Hong Kong, with limited land, property prices in Singapore are bound to escalate. But are we overencouraging consumption, and creating expectations we cannot support?

Under the current plan, people can use Medisave for hospital expenses and for certain other expenses. But there is a limit to the amount people can take out for this purpose. This limit amounts to rationing health care, which is another issue.

The top-up schemes are for the purposes of investment, health, and education. They are non-CPF schemes, but the money the government provides for the medical and educational needs of low-income families is paid into their CPF accounts. The government does not view this type of assistance as a handout, and it is only given when the government enjoys budget surpluses. The government enjoys budget surpluses only when the economy is doing well. By communicating this message, the government is trying to tell Singaporeans that they must help to make sure the economy is doing well, if they want to continue to enjoy these top-up schemes.

These top-ups are also a form of political dividends. The government is actually paying people back through the schemes. But once something has been given, it is not easy to take it away, even if the government insists that such dividends can only be generated by hard work, which ensure surpluses.

Since 1993, the Singaporean government has promoted a regionalization policy. There are many Singaporean companies and individuals working abroad. As people become better educated and wish to set up their own businesses, they will want to take out their CPF funds for doing business overseas. Right now, the scheme only allows CPF members to use the CPF funds to buy regional stocks. In 1995 they were permitted to use CPF funds to buy stocks from Hong Kong and the Philippines. Starting in 1997, they will be able to use the funds to purchase stocks in Japan, the U.S., and Germany. What about investing beyond stocks and in one's own business in the region? The government may have to go back to reconsider the CPF's fundamental social security objectives.

I would like to mention a particularly sensitive issue. In 1984 the government tried to increase the CPF withdrawal age from fifty-five to sixty. The attempt was very poorly received, as people viewed the government as having broken a promise.

As an economist, I would say that to raise the withdrawal age is actually sensible, since life expectancy is now longer, due to better health and nutrition. Thus, people should work longer. The question is how to manage money in the CPF. If the compact of a withdrawal age of fifty-five is broken, people will be unhappy. Even if they continue working, they believe that the money should be at their own disposal, as they were promised it would be.

One way of getting around this problem has been to institute a scheme minimum sum, which softens the impact. Under this scheme, one can still take out a lump sum when one reaches the age of fifty-five, but one must keep a certain minimum amount in the fund, which can only be withdrawn as an annuity when one reaches the age of sixty. The government is beginning to get people to accept the idea that the withdrawal age might have to be increased. When it will be politically expedient to increaseit is another issue.

One lesson which other countries can learn from Singapore's experience is that a fully-funded scheme is the best kind. Hong Kong is soon going to institute a mandatory provident fund (MPF). We would now like to draw some general lesson for developed or developing countries which might consider using a CPF to enhance savings, or to achieve the sociopolitical objective of improving the level of its citizens?housing, education, investments, etc.

For developing countries with very young populations and young economies, increasing savings is a must, and a mandatory saving scheme such as the CPF is a good idea. The fact that the CPF is based on an individualized account is very important. That family members can benefit from CPF schemes is also critical. In the Asian culture, it is desirable to help other members of family in a social security arrangement. In order for a CPF to succeed, as it has in Singapore, the state or the government must be the driver, and the people must have faith that the government is going to be the provider of last resort, even when it comes to social security arrangements.

What we do not want to inherit from developed countries is the pay-as-you-go system, which is basically the system of a welfare state, such as that which exists in the U.S., Canada, Europe, Australia, and New Zealand. Such a system obscures the real state of long-term pension liability. It is dependent on demand rather than on supply. It will also encounter financing problems with an ageing population.

The pay-as-you-go system works very well in the earliest stages of a society, when the population is young, so there are a sufficient number of people working to support the retirees. But with medical and technological advances, people now live longer and draw more social security than what they paid in social security tax when they were working. The system can also work well if the unemployment rate is low enough that unemployment benefits are manageable. In many industrial countries today, we have an unprecedented high unemployment rate as compared to the 1960s. The term "discouraged workers" has been coined to describe people who are not looking for jobs because they do not think they have the right skills, or they are too discouraged to seek employment. Thus, there is a tremendous strain on unemployment benefits, when a country is on the pay-as-you-go social security system. This is why we believe that such a system is inferior to a self-funding mechanism, such as the provident fund. Also, with the-pay-as-you-go system, the savings rate will be lower than it will be under a mandatory provident fund.

To conclude my discussion, the advantages of the CPF are that it is self-funding and portable, which will not inhibit labor mobility in the market, and which many economists would appreciate; it is a compulsory system; and it has gone beyond the social security net.

My last question is, where is the CPF headed? Today, the CPF is still a state-managed provident fund. With privatization and deregulation, there may be many reasons to liberalize the CPF, as Chile has done. Chile is an often-quoted example of a country with a social security fund that is handled by private fund managers. Are we going in this direction? Or will the CPF remain state-managed? Or can there be a compromise, with 50 percent of the fund left to the state and 50 percent left to the management of fund managers? In the final analysis, if the government wishes Singaporeans to promote so-called self-destiny and self-determination, there must be some liberalization. If the CPF is to be liberalized, state control will have to be reduced. Whether or not it wishes to follow this course is a decision the government of Singapore has to make.

Dr. Linda Low currently teaches in the Department of Business Policy at the National University of Singapore. She worked previously in the Ministry of Finance of the Government of Singapore. She has published widely and in many areas, including public sector economics, privatization, and labor economics. The above is an edited version of a talk she presented at the HKCER.


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