A long-term forecast for Israel’s National Insurance system

  • In a scenario based on the current legislative situation, the annual expenditure on National Insurance allowances is expected to increase gradually in the coming four decades, to as much as an additional 0.8 percent of GDP. In a more plausible scenario—in which past trends in allowances’ growth continue, old-age and child allowances, as well as the ceiling for income subject to National Insurance contributions, are indexed to the average wage in the economy rather than to the CPI, and which assumes a moderate rise in the retirement age—an identical increase is expected.
  • Examining the forecast’s sensitivity to its central assumptions, indicates that the expected expenditure on National Insurance benefits in 2065 (the last year for which there are demographic forecasts by the Central Bureau of Statistics) ranges from 7.0–8.4 percent of GDP, compared with 6.8 percent of GDP currently.
  • Based on the existing legislative situation, the year in which a cash flow gap emerges between total benefit payments and the financing sources allocated to National Insurance based on existing agreements—is 2050. This point in time is markedly later than those presented in previous discussions held in the public sector.
  • The earlier the decisions regarding balancing the system are reached, the more moderate and spread out over a greater number of beneficiaries and taxpayers the required adjustments will be.
  

 

An analysis carried out by Adi Finkelstein of the Bank of Israel’s Research Department, and that will be published shortly in the Bank’s “Selected Research and Policy Analysis Notes” examines the factors expected to impact over the long term on allowance payments by the National Insurance Institute, and their effect on the fiscal costs and resilience of current benefit-financing agreements. The analysis is based on a model integrating the demographic forecasts of the Central Bureau of Statistics, a long-term growth model developed at the Bank of Israel, and statistical analyses of the development paths of various allowances and of National Insurance Institute contributions based on past trends.

 

In the scenario based on existing legislation, it was found that total benefit payments are expected to rise faster than GDP in the coming decades, mainly due to the aging of the population and the rapid growth expected by the National Insurance Institute in the number of disability allowance recipients. However, the gradual growth expected in the burden in Israel—0.8 percent of GDP over four decades—is moderate compared to other advanced economies because Israel’s population is young, the fertility rate is high, and the old age allowance is relatively small compared to other advanced economies. An important factor that moderates the projected growth in benefit payments is the indexation of the old age and child allowances to the Consumer Price Index, and not to wages, which is expected to erode them over time by a considerable rate relative to household income and GDP.

 

Alongside an examination of the impact of the continuation of the current legislative situation, the document examines the sensitivity of the results to possible changes in the system. For example: 1) Indexing all the benefits to the average wage in the economy, rather than the CPI. In such a scenario, the increase in the ratio of allowance payments to GDP is expected to reach 1.7 percent of GDP, compared with 0.8 percent of GDP based on the current law; 2) Raising the retirement age for women in line with the framework proposed by the Ministry of Finance in June 2019. In such a case, the growth in allowances will only be 0.4 percent of GDP; 3) Moderation of the growth rate of the number of disability allowance recipients so that it will stabilize at 3.9 percent of the population, compared with 3.5 percent today and 5.0 percent under the baseline scenario. In such a case as well, the growth in total allowances will total only 0.4 percent of GDP. As we assess that it is quite likely that all these changes will in fact be adopted, as well as the indexation of the floor and ceiling for National Insurance Institute contributions to the average wage, we examine a scenario that combines all these changes, and find that the total expenditure on the allowances in this scenario is very similar to that based on the existing law (Figure 1).

 

A comparison of revenues from the sources available to the National Insurance system to the expected cost of the allowances, based on the existing formulation of the financing agreements and under the baseline scenario, indicates a gap beginning in 2050. Starting from that year, the total allowances and operating expenditures are greater than total receipts from expected collection, government transfers, interest income, and maturities of designated government bonds held by the National Insurance Institute. As such, adjustments will be necessary—increasing the budget sources, increasing National Insurance Institute contributions, or reducing allowances. Under the alternative scenario, which combines the changes noted above, the year in which the cash flow gap emerges is 2053.

 

Despite the long time until the point in which cash flow gaps are expected in National Insurance Institute financing, there is considerable benefit in enacting the adjustments required to balance the system at an earlier time. If the government only makes the necessary adjustments in 2050, an immediate adjustment of 0.8 percent of GDP will be required, meaning, for example, a reduction of 40 percent in old-age and survivors’ allowances. In contrast, beginning the adjustments in 2021 can reduce the size of the annual adjustment to 0.4 percent of GDP, meaning a reduction of only 10 percent in benefit payments. Similarly, an adjustment through increasing the National Insurance Institute contributions can be more moderate, as it will be spread over more citizens and a longer period.