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Section 4 Demographics

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Objectives

• Describe demographics.
• Describe the application of demographics across and within areas of actuarial practice.
• Explain the effects of demographics on the Define the Problem and Design the Solution stages of the Control Cycle

Definition and examples

• American Heritage Dictionary defines demographics as “the characteristics of human populations and population segments, especially when used to identify consumer markets.”
• Counterintuitive example: Fewer children may not necessarily mean fewer claims or lower claim costs per family. Some of the demographic factors that are influencing average family size include educational levels and the age of couples when they start having children. Health claim costs of better-educated couples who are having children later in life may be significantly different—and possibly higher—than other families. In addition, many families are expecting more services for their children in areas such as orthodontia, psychological services and medications.
• 3 types of demographic factors:
  • Population. Population-related demographics include birth rate, mortality rate, disability rate, fertility rate, gender mix and migration rate, including both immigration and emigration. Read m2s4-01_241_Munnell.pdf for an explanation of population-related factors, including longevity, fertility and immigration.
  • The so-called baby boomers—the group of people born between 1946 and 1964—will begin retiring from the workforce in the early 21st century. Munnell argues that the baby boom is not the reason for the aging of the population, but the result of a much longer-term phenomenon. It is mainly caused by increasing longevity and declining fertility, increasing the older population and reducing the younger population at the same time.
  • Boundaries between categories of external forces are necessarily somewhat blurry. For example, although fertility rate could be classified and studied as a simple demographic factor, it is very much affected by the cultural, social and economic background of the population.
  • Employment. This includes employment rate, job mobility, income level and savings rate. Actuaries who work on economic security programs, whether sponsored by employers or government agencies, are analyzing the number of workers and their families who obtain insurance and/or pension-related coverage subsidized by their employers.
  • Employees change jobs more frequently now than ever before. Mobile workers prefer benefits that are more portable, such as defined contribution plans. How much this population augments these retirement savings with their own assets will also have a significant effect on the consideration of scope and need for social insurance programs.
  • Others. Other demographic factors include education level and geographic location. These forces could easily fit in other categories of external forces that you study in this module. For example, education level was covered as a cultural/social value in Section 3. The education level of consumers affects their perception of risks.
• More examples:
  • Changes in age composition affect the work of an actuary. For example, many purchasers of life insurance are in the 30–50 age range, while many annuity buyers are in the 50–70 age range. As the general population ages, the annuity market has caught up with the life insurance market. Actuaries working in the life area of practice continue to analyze demographic and buying trends. The goal is to help insurers offer products that meet the needs of the buying public.
  • Consumer spending, an important component of the economy, peaks at the 45–54 age range. In most countries, consumer spending is the largest single component of the economy. Actuaries have the opportunity and the responsibility to design and price products that are appropriate for both consumers and insurers.
  • An increase in the ratio of retirees to workers puts a strain on the wealth of a country. Recent demographic trends indicate there are fewer workers responsible for supporting an increasing number of retirees. Actuaries are ideally positioned to help assess the situation, identify potential solutions and select, design and implement alternatives.

Demographics and the Define the Problem stage of the control cycle

• Finance and investment actuaries are responsible for performing the financial projections of a company’s income statement and balance sheet and developing investment policies. Their goal is to maximize returns while controlling volatility. Actuaries use demographic information, recent experience and projections of current trends to arrive at the assumptions needed to project the liability cash flows of in-force policies. For example, actuaries notice that deferred annuity policyholders are likely to make large cash withdrawals of their funds when they retire. Actuaries use this to arrive at a withdrawal assumption when projecting the company’s future liability cash flows. Read Demographics and Finance, Investment and ERM (m2s4-04_F_I_ERM_Apps.pdf) to learn how demographics affect investment needs and investment products. The factors considered include life span, aging, sex, level of income and education, ethnicity and employment.
• The demographic characteristics of a covered group shape a major problem for actuaries responsible for pricing health insurance products. See m2s4-05_HealthApps.pdf for an example of an external force that affects health actuaries. Increased longevity, earlier retirement and the attitudes of baby boomers are just a few of the other forces at work in the world of a health actuary. These issues—coupled with advances in health care technology, changes in the legal and regulatory systems and the rising cost of health benefit plans—create a very intricate and dynamic landscape for health actuaries. For more information on demographics and health care, read Section 29.3 of Understanding Actuarial Practice (2012).
• Demographic factors might affect your definition of the problem of designing a medical benefit plan include:
  • Age distribution of the employees, which affects health care usage.
  • Gender distribution of employees.
  • Marital status of employees.
  • Family sizes.
  • Geographic locations.
  • Income levels.
  • Education levels.
• Read Section 14.2 in Understanding Actuarial Practice (2012) to learn more about demographics considered by life actuaries.
• Retirement actuaries working with social insurance systems are faced with the problem of determining appropriate funding for the systems. A significant factor when defining the problem of funding social insurance systems that provide retirement benefits is the Old Age Dependency Ratio—the number of retirees divided by the number of workers. Studies have illustrated that countries such as Japan and the United States are currently in the range of 0.40 - 0.60. By 2050, this ratio is projected to rise to 0.60 – 0.90. An increase in the “normal” retirement age would decrease the number of people that would be included in the numerator and increase the number of people in the denominator of this statistic, since they would still be working and contributing to their social security systems.
• Compared to other actuarial practice areas, the shifts of populations or groups over time are generally not such a prominent external force for most casualty work. However, employment-related demographics have a more prominent role in the area of workers’ compensation. Group distributions related to age, experience and gender are critical factors in determining cost, benefits and coverage. Age and experience may be a critical factor affecting the incidence and effect of accidents in the workplace. The severity and duration of an injury may be considerably greater for older workers. Relatively unusual accidents may occur with greater frequency with younger and less experienced workers. Similar incidence and severity disparities may exist with different male-female ratios, immigrant-native ratios, etc. Demographic trends are less central to the casualty practice. Personal property and accident insurance are commonly offered and priced with greater focus on individual characteristics; age, gender and geography are important to the design, pricing and availability of a product, but not in terms of change over time. However, demographic factors at times stand in for characteristics whose use could be viewed as discriminatory such as educational level versus wealth or ethnicity.
• All but the casualty insurance practice area are significantly affected by the increasing number of women in the workforce?. The only effect on the casualty practice is with respect to Workers Compensation benefits, which are set by state and/or provincial law.
• Casualty and health practice areas are most affected by changes in the geographic location of the population. The geographic location generally has little effect on life insurance, retirement income needs or investments. It does affect the types of perils to be insured (e.g., earthquakes versus. tornadoes). Geographic location also affects health insurance due to differences in health care practice by location.

Demographics and the Design the Solution stage of the control cycle

• How do some countries deal with the problem of falling fertility and mortality rates? In Understanding Actuarial Management (2010), read Section 5.6.2, pages 117–118.
• Among the forces affecting the cost of employer-provided retirement benefits is turnover, or the rate employees leave a company prior to retirement. The “2003 SOA Pension Plan Turnover Study” is a valuable reference that many actuaries use in their day-to-day work. Excepts in m2s4-08_PensionPlan.pdf; full report here. The figures in the excerpted report show
  • Younger employees tend to have a higher termination rate than their older coworkers.
  • The rate of retirement shoots up at age 65, an age traditionally regarded by many employers and employees as the “normal” retirement age.
  • Disability rates, although much smaller than the rates of termination and retirement, show an increasing trend as age advances.
  • Employees with short periods of service with an employer have higher termination rates compared to those employed for longer periods.
• The following are considered turnover in the study - Death, Disablement, Termination and Transfer. Not considered was promotion -- but it might result in turnover in an employee population if it results in a transfer out of the population
• The study confirmed the effects of age, gender and years of service on turnover. In addition, it is should be clear that if mortality rates change, turnover will be affected, even though this was not studied. Marital status has not been studied as a factor in turnover.
• The following question is from Exercise 5.4 in the second edition of Understanding Actuarial Management (2010): You are advising the government department responsible for primary school education (ages five to 11) in your state, province, territory or country. The external forces likely to impact the demand for trained teachers over the next 50 years may include:
  • Fertility - The key influences will be how many women decide to have children, and how many children they decide to have, over the next forty years or so. The number of children actually born during the last ten years is also relevant.
  • Population structure - The number of women currently able to have children is an important influence, as well as any increase or decrease in this group over the next forty years.
  • Marriage - In some countries not all children are born to married couples. Nevertheless the rate at which people marry is an influence on the number of children born. An increase in marriages would probably lead to an increase in births.
  • Standard of hospital and medical care - The level of infant mortality determines what proportion of newborn children survive to begin school. This in turn depends to a large extent on the standard of prenatal and antenatal care, obstetric services and immunization against infectious diseases.
  • Economic conditions - If the economy is growing steadily, per capita income is rising and the future outlook is similar, couples are more likely to decide to have more children.
  • Attitudes to family formation - Changes in people’s attitudes to having children could have a significant effect on the accuracy of forecasts. It would be important to try to anticipate any trend within the community towards having more (or fewer) children, or having children at younger (or older) ages.
• Changes in family structure and employment trends are among the demographic factors that influence the effectiveness of solutions considered by a health actuary. Read Demographics and Health Care (m2s4-09_HealthApps2.pdf) to learn more.
• The cost of life insurance is obviously directly affected by mortality rates in the covered population. Read Demographics and Life Insurance and Annuities (m2s4-10_LifeApps.pdf) to learn more factors the actuary must consider in determining the mortality assumption to use in pricing a life insurance product.
• Population demographics relevant to life actuaries include gender mix, income level, mortality trends, employment trends, lifestyle factors, population growth, family size and the aging population. These population demographics affect sales and product design. Read m2s4-11_RSA95V21N4B32.pdf for more.
• The article The 2010 Annuity Market Study: Trends & Innovation in a Changing Industry gives the following reasons that variable annuities are becoming more popular, even though they have higher expenses:
  • People are living longer and variable annuities address long-term needs.
  • Variable annuities provide better inflation protection.
  • Variable annuities tend to be more attractive when the market is improving.

Tidbits from end of section quiz

• These situations reflect actuarial interest in staying abreast of the trend of longevity and aging:
  • Finance actuaries notice that deferred annuity policyholders are likely to make large cash withdrawals of their funds when they retire; their cash flow assumptions must reflect current experience and trends.
  • Health actuaries notice that society will have a more difficult time providing affordable medical services to an aging population; they will help identify solutions, quantify the cost and suggest alternatives.
  • Health actuaries notice that consumers may need well designed and priced long-term care insurance as an answer to the problem of funding and providing access to these services for an aging population.
  • Life insurance actuaries can design products to meet the needs of the non-wealthy elderly, including final expense and pre-need insurance.
  • Life insurance actuaries can assist older people from out-living their assets by designing attractive immediate annuity products.
  • Pension actuaries will work with plan sponsors to provide appropriate benefit packages for an aging workforce that may include a phased retirement feature, change to a Defined Contribution plan (from a Defined Benefit plan), etc.
  • Pension actuaries will help governments assess and quantify the trend of fewer workers supporting a larger number of retirees and identify solutions to keep government pension programs solvent.
  • Personal actuaries notice that retirees need investment asset allocations that will provide enough return and acceptable volatility for a comfortable retirement, taking their longer life expectancy into account