By Dr. Jonathan Kearns, Chief Economist and Head of Regulatory Affairs, Challenger (an Australian retirement income and funds management company), and an Adjunct Fellow at Macquarie University
Introduction to the Australian superannuation system
The Australian private pension system, known in Australia as superannuation, has grown to be the fourth largest in the world, with US$2.6 trillion (AUD 4.1 trillion) of assets under management (AUM) in March 2025 (Figure 1).1Organisation for Economic Co-operation and Development (OECD): “Pensions at a Glance 2023: OECD and G20 Indicators,” December 13, 2023, OECD Publishing, Paris. Two aspects of the Australian superannuation system are particularly worthy of attention. First, it is large relative to the Australian financial system, raising questions about its interlinkages with the banking system and potential to trigger or amplify systemic risk. Yet Australian superannuation has different risk properties compared to many other countries’ pension systems, as most members have defined-contribution accounts, which means key risks are borne by the members rather than the financial system. Second, the superannuation system is maturing, following three decades of significant expansion; however, substantial further development is needed for the system to address retirees’ needs and risks effectively. Given the ageing of the population, there is an urgent need for this development.
The development and structure of the superannuation system
Three factors have contributed to the significant growth of superannuation funds: the introduction of compulsory employer contributions, preferential tax treatment and strong asset returns.
Three factors have contributed to the significant growth of superannuation funds: the introduction of compulsory employer contributions, preferential tax treatment and strong asset returns. Compulsory employer contributions (the Superannuation Guarantee) were initially 3 percent of an employee’s wages or salary, or 4 percent for large employers, when introduced in 1992, with stepped increases to 12 percent by 2025. No further increases are planned. Members’ voluntary contributions are small relative to employers’ contributions (Figure 2). Voluntary contributions are incentivised by superannuation’s preferential tax treatment. (Space constraints limit addressing the complexities of the taxation of superannuation. For more details, refer to the Parliamentary Budget Office’s 2023 summary.2Parliamentary Budget Office: “How is super taxed? PBO budget explainer,” April 27, 2023.) A low tax rate of 15 percent applies to most contributions out of pre-tax earnings and to investment earnings up to age 60, after which investment earnings in the retirement phase pay no tax.
Compulsory employer and member contributions exceed benefits paid because the superannuation system is still maturing. Once the system fully matures, net contributions will be negative, as retirees will have had high contribution rates throughout their entire careers, and so their benefits, drawn on their contributions and investment returns, will exceed the contributions of younger generations.
However, with the substantial growth of funds under management, investment income has grown to, on average, far exceed net contributions. Strong investment returns, averaging 7.3 percent, or 4.4 percent after inflation, over the past three decades reflect that almost three-quarters of funds are allocated to growth assets.3Association of Superannuation Funds of Australia (ASFA): “Superannuation Statistics: March 2025.” Given the long investment horizon for superannuation, a significant portion of these growth assets is allocated to unlisted assets, allowing funds to capture an illiquidity premium. Overall, around one-quarter of superannuation funds are invested across unlisted shares and property, private debt, infrastructure and alternatives. Given this asset allocation, Australian superannuation funds invest less in fixed income than many other pension systems.
Another important element of strong net investment returns has been a focus on reducing expenses. This saw total administration and expenses, relative to total assets, fall by almost half to around eight basis points over the decade to 2021, where they have remained since. Part of the reduction in fees can be attributed to the expansion of MySuper products. Each fund must offer one of these simple default options, which include a diversified investment strategy and fee restrictions. By March 2025, 42 percent of prudentially regulated superannuation funds were invested in MySuper products. Individual superannuation funds have taken different approaches to reducing their costs, with some, mostly larger, funds preferring to internalise asset management, while others see greater value in external management. Overall, slightly less than one-third of prudentially regulated superannuation funds are internally managed, with just over two-thirds externally managed.4Association of Superannuation Funds of Australia (ASFA): “ASFA Explainer: The Australian Superannuation System,” June 2024.
There are four main types of superannuation funds in Australia. Public-sector funds and for-profit (retail) funds both have around AUD 800 billion in funds under management. Profit-for-member funds, each jointly controlled by representatives from unions and employer groups, have experienced substantial growth in recent years, reaching a total of around AUD 1,500 billion. This includes the two largest Australian superannuation funds, Australian Super and Australian Retirement Trust—each with well over AUD 300 billion in funds under management. These three classes of superannuation funds are prudentially regulated by the Australian Prudential Regulation Authority (APRA), with the exception of some public-sector funds.
The fourth class of funds is unique to Australia. Self-managed superannuation funds (SMSFs) can have at most six members, although, in practice, most usually have only one or two members. There are more than 600,000 SMSFs in Australia, with around 1.2 million members, collectively managing AUD 1 trillion. Each member must be either a trustee or a director of a corporate trustee of the fund. Because of this close relationship between the members and the fund, SMSFs face a less onerous regulatory regime overseen by the Australian Taxation Office (ATO) rather than by the APRA. SMSFs can invest in almost any asset, providing their trustee members with substantial flexibility in directly managing their own retirement savings.
With greater size comes bigger risks.
Many of the systemic risks typical of pension systems are mitigated in Australia by its largely being a defined-contribution system. Fewer than 5 percent of member accounts in Australia have any defined-benefit component, and almost all defined-benefit schemes are closed to new members. (See Table 7b in the Australian Prudential Regulation Authority’s “Annual superannuation bulletin June 2015 to June 2024”, published on January 30, 2025.5Australian Prudential Regulation Authority (APRA): “Statistics: Annual superannuation bulletin – superannuation entities, from June 2015 to June 2024.”) With a defined-contribution system, a sharp decline in asset prices does not lead to individual funds being underfunded, nor do market moves in interest rates or spreads result in differences in the valuations of assets and future liabilities. Rather, the funds that members can draw on in retirement depend on their own contributions and the returns on their own accumulated funds. This reduces the systemic risks associated with superannuation funds but results in members individually bearing significant investment, longevity, sequencing and inflation risks.
Other potential financial risks from the superannuation system stem from its large size relative to the rest of the financial system and domestic financial markets.
One risk often cited in Australia relates to the potential for superannuation funds to withdraw funding from banks, given that they hold a large share of the claims on banks. Collectively, superannuation funds hold over one-quarter of banks’ domestic short-term debt and equity. They also hold around 10 percent of banks’ domestic deposits and debt (Figure 3). Notably, SMSFs, which comprise around one-quarter of total system funds, account for around half of superannuation funds’ bank deposits and 43 percent of equity holdings, given the investment strategies of their typically older members. While superannuation funds could rebalance their portfolios away from banks, as any investor could, the risks to banks of a withdrawal of funding from superannuation funds are, in some sense, mitigated by the limited number of other assets available for superannuation funds to rebalance into, given their investment home bias and size.
Superannuation funds also face liquidity risk. There is essentially no “run risk” for the system. Prior to retirement, members’ funds cannot be withdrawn from superannuation. Even for those in the retirement phase, there are significant tax incentives to keep funds in superannuation.
However, individual funds do face a run risk. Members can change superannuation funds, and as a result, an individual fund could experience a large outflow triggered, for instance, by actual or even rumoured poor performance, cyber events or governance issues. A “run” could also occur within a fund as members switch from a growth strategy, which includes illiquid assets, to a defensive option, such as holding cash and fixed income. While most younger members currently pay little attention to their superannuation, the potential for a run will increase as members become more engaged with their superannuation balances and technology makes switching easier. The risk of a run is reduced by the prudential regulation of superannuation funds. The implications of a run on an individual fund are significant for members who are the last to run, given the substantial holdings of illiquid assets.
Superannuation funds also face potential liquidity risks from policy changes. During the COVID-19 pandemic, the government enabled members to withdraw AUD 20,000 if they had a 20-percent decline in income or received specific Social Security payments. This led to the first episode of negative net contributions. An early withdrawal of superannuation on this scale had not previously occurred; thus, it was an unplanned liquidity need. Funds were initially concerned about the potential scale of these withdrawals. Ultimately, the economic recovery was faster than anticipated, limiting total withdrawals to AUD 38 billion—less than 1.5 percent of total superannuation funds.6Australian Government/Australian Taxation Office: “COVID-19 Early release of super,” August 1, 2023. Withdrawals, and thus the liquidity drain, were, however, larger for funds with a larger share of members financially affected by the pandemic—for example, hospitality workers. This episode highlighted that policy changes could pose a significant liquidity risk for superannuation funds. This risk is greater for smaller funds with less diversified membership, as well as those with older members and those experiencing negative net contribution flows. (The Reserve Bank of Australia’s [RBA’s] Financial Stability Review addressed these issues in an article, “Box C: What Did 2020 Reveal About Liquidity Challenges Facing Superannuation Funds?”, published in April 2021.7Reserve Bank of Australia/Financial Stability Review: “Box C: What Did 2020 Reveal About Liquidity Challenges Facing Superannuation Funds?”, April 2021.)
As total superannuation funds have grown relative to the Australian financial system, the drive to invest internationally has increased. Over the past decade, the share of funds invested internationally increased sharply from 14 percent to 24 percent. The Australian dollar has typically depreciated during risk-off events, providing an incentive not to currency-hedge all international assets. However, a large share of international assets is currency-hedged, and so larger currency-hedge positions have increased superannuation funds’ need for liquid assets to post as collateral. Specifically, in a risk-off event with falling asset prices, the depreciation of the Australian dollar results in superannuation funds having to post more collateral in a strained market. The scale and significance of this risk continue to be debate points. To manage this and other liquidity needs, the APRA imposes liquidity requirements on superannuation funds.8Australian Prudential Regulation Authority (APRA): “Prudential Standard SPS 530 Investment Governance in Superannuation,” July 20, 2023.
Meeting the evolving needs of superannuation members
The superannuation system was designed to increase Australians’ savings for retirement, reducing the public pension’s draw on the government’s finances. Starting with an underdeveloped system, the initial focus was understandably on designing the accumulation phase of the superannuation system, with little attention given to the retirement phase.
Retirees face significant investment, inflation, sequencing and longevity risks. Yet there is very limited availability and take-up of products that guarantee a lifetime income or directly protect against inflation.
However, there has been a significant increase in the share of superannuation funds held by Australians of retirement age (Figure 4). Over the past decade, the share of superannuation funds held by members aged 65 and above has increased from 21 percent to 29 percent, outpacing the increase in their share of the population from 15 percent to 18 percent. By 2050, these older Australians will account for one-quarter of the population and an even larger share of superannuation assets. As noted earlier, given Australia has a defined-contribution superannuation system, retirees face significant investment, inflation, sequencing and longevity risks. Yet there is very limited availability and take-up of products that guarantee a lifetime income or directly protect against inflation. Rather, many superannuation funds currently offer retirees investment options that simply shift towards fixed income as they age, leaving them exposed to longevity and inflation risks. Currently, only around 3 percent of Australian retirees have annuity-style products.
The Australian Government aims to address this urgent need to improve the retirement phase of the superannuation system. (In 2023, the Department of the Treasury issued a discussion paper, “Retirement phase of superannuation,” which raised the issues of meeting members’ needs in retirement.9Australian Government/The Treasury: “Retirement phase of superannuation,” Discussion paper, December 2023.) Key elements of its focus are on increasing retiring Australians’ access to financial advice and boosting the supply of retirement products that meet their needs.10Australian Government/The Treasury: “Improving the retirement phase of superannuation: Raising the bar for superannuation in retirement,” November 19, 2024.
Superannuation’s future
The growth of the Australian superannuation system is reducing the cost of public pensions, an important achievement given the ageing of the population. The defined-contribution basis of superannuation mitigates many of the systemic risks of pension systems, such as those resulting from liability-driven investment. The cost of the superannuation system’s stability is that it is individuals who carry significant investment, inflation, sequencing and longevity risks that they are ill-equipped to manage. A better balance will see the superannuation and financial systems take on some of these risks through a well-developed supply and take-up of retirement-income products. Addressing this deficiency would complete Australia’s admirable superannuation system.
References
1 Organisation for Economic Co-operation and Development (OECD): “Pensions at a Glance 2023: OECD and G20 Indicators,” December 13, 2023, OECD Publishing, Paris.
2 Parliamentary Budget Office: “How is super taxed? PBO budget explainer,” April 27, 2023.
3 Association of Superannuation Funds of Australia (ASFA): “Superannuation Statistics: March 2025.”
4 Association of Superannuation Funds of Australia (ASFA): “ASFA Explainer: The Australian Superannuation System,” June 2024.
5 Australian Prudential Regulation Authority (APRA): “Statistics: Annual superannuation bulletin – superannuation entities, from June 2015 to June 2024.”
6 Australian Government/Australian Taxation Office: “COVID-19 Early release of super,” August 1, 2023.
7 Reserve Bank of Australia/Financial Stability Review: “Box C: What Did 2020 Reveal About Liquidity Challenges Facing Superannuation Funds?”, April 2021.
8 Australian Prudential Regulation Authority (APRA): “Prudential Standard SPS 530 Investment Governance in Superannuation,” July 20, 2023.
9 Australian Government/The Treasury: “Retirement phase of superannuation,” Discussion paper, December 2023.
10 Australian Government/The Treasury: “Improving the retirement phase of superannuation: Raising the bar for superannuation in retirement,” November 19, 2024.
Dr. Jonathan Kearns is Chief Economist and Head of Regulatory Affairs at Challenger, where he also serves on the Investment Committee, and is an Adjunct Fellow at Macquarie University. He spent 28 years at the Reserve Bank of Australia (RBA) in senior roles across several departments and led its climate-change work. He has also worked at the Bank for International Settlements (BIS). Dr. Kearns holds a Ph.D. from the Massachusetts Institute of Technology (MIT) and a Bachelor of Economics (Honours) from the Australian National University (ANU).