Pension Policy in Central and East Europe: Reforms and Reve - PowerPoint Presentation

Slide1

Pension Policy in Central and East Europe: Reforms and Reversals

IGOR GUARDIANCICHConversations on EuropeCenter for European Studies – European Union CenterThursday, January 19, 4 pm1636 International Institute

1Slide2

Structure of the presentation

The ‘new pension orthodoxy’Averting the Old-Age CrisisCriticism and reassessmentPension privatization in Central and East EuropeDiffusion and variationThe financial crisis as dual exogenous shockImpact of the crisis

Impact of the Stability and Growth Pact

Reform reversals

Theoretical implicationsCroatia, Hungary, Poland and Slovenia compared

2Slide3

Part I - The ‘

new pension orthodoxy'3The World Bank’s three pillars

Redistributive plus coinsurance

Savings plus coinsurance

Savings plus coinsurance

Objectives

Means-tested, minimum pension guarantee, or flat

Personal savings plan or occupational plan

Personal savings plan or occupational plan

Form

Tax-financed

Regulated fully funded

Fully funded

Financing

Mandatory publicly managed (first) pillar

Mandatory privately managed (second) pillar

Voluntary (third) pillar

 Slide4

Criticism: Economics

4First-order impact is nil‘privatization without prefunding would not increase returns at all, net of the new taxes needed to pay for unfunded liabilities

.’

(Geanakoplos et al., 1998)‘Funded pensions face similar problems as PAYG schemes, and for exactly the same reason – a shortage of output. The only difference is that with funding the process is less direct and hence less transparent.’

(Barr, 2002)

Second

-order

impact is doubtful

More

saving, more investment, more growth

Increased labor

supply and improved reporting of earnings

Lower

cost through competition between funds

Internationalization

of risk: exporting capital

vis-à-vis importing laborSlide5

Criticism: Politics

5The backlash of losers‘too often the Bank has not addressed sufficiently the primary goal of a pension system to reduce poverty and provide adequate retirement

income within

a fiscal constraint. It has also focused

insufficient attention on the income of the aged.’(World Bank, IEG, 2006)

Persistence of moral hazard

private funds are

tempting

for politicians,

as they accumulate

many years of

contributions

(as

opposed to

less than one

year in PAYG

plans);

renationalization as quick budget fix (Argentina, Hungary).Slide6

Criticism: Transition costs

6Transition costsduring transition government pays public pensions while workers accumulate their own funds.Four views

Deduction of transition costs

Counting transition costs

Support for privatization

CEE governments

World Bank

Opposition against privatization

ILO (?)

IMF

Adapted from Casey

and

Simonovits

(2012

)Slide7

Part II -

Pension privatization in CEE7Slide8

The socialist pension systems and transformational crises

8Three layersBismarckian core retirement became the extension of the constitutionally guaranteed right to

work

post-war socialist social

solidarityPAYG system and reinforced stratificationimported Stalinist centralizationmonolithic public administration

Crisis under socialism

financial strains

low retirement age and long assimilated periods (e.g. maternity leave)

benefits calculated according to best- or last-years

formulae

cross

-subsidization of other budget

expenditures (e.g

. social

assistance)

poverty in old age

the ‘old portfolio’ problem, due to insufficient indexation

Crisis during the transformation

demographic emergency

‘great abnormal pensioner booms’multiplication of contributors, output decline and tax evasionpolitical exploitation of losers and pampering of core constituenciesSlide9

Three reform phases

9Refinancingrapid increase in social security contributions (PL 25% in 1981; 38% in 1987-9; 45% in 1990)discontinued due to declining international competitiveness

Retrenchment

arbitrary freezing of indexation of all but minimum benefits

struck down by Constitutional Courts (lack of exceptional circumstances) Restructuringpolitically superior, allows for quid-pro-quosresonates with the public (equity as individualization)

obfuscates cuts in public pillarSlide10

Diffusion and variation

10Different types of privatizationSubstitutive (KO)Parallel (LT

)

Mixed (

BG, HR,

EE

– not only carved out,

HU

– reversed,

LV

,

MC

,

PL

,

RO

– stalled,

SK

– partly reversed

)Voluntary (AL, CZ, SI – quasi-mandatory, SR)CoverageMandatory for young workers (HU only new workers)Voluntary for intermediate cohorts (PL 30-50; HR 40-50)Not available to older employees (HU rare exception, active errors)SizeSubstantial (HU 68/33.5; LV 2



10/20;

PL

7.3/19.52;

SK

9/18)

Medium (

BG

2



5/23;

HR

5/20;

EE

4+2/20;

LT

2.5



5.5/18.5;

RO

2.5



6/28)

Small (

SW

2.5/18.5)Slide11

Impact of privatization on deficit/revenues

11Country

Budget balance

Transition cost

Balance if no reform

Lost revenues 2007-60

Bulgaria

0.1

-0.7

0.8

45

Estonia

2.6

-1.3

3.9

64

Latvia

-0.3

-0.8

0.599Lithuania-1.0-0.9-0.143

Hungary

-5.0

-1.2

-3.8

93

Poland

-1.9

-1.3

-0.6

167

Romania

-5.4

-0.3

-5.1

67

Slovakia

-1.9

-1.0

-0.9

106Slide12

Part

III - The financial crisis12Shrinking demandMost of CEE are small and open economies (<1M – 10M people).

Banks became illiquid in late 2008.

Fall

in international orders triggered an economic collapse.Asset bubblesHungary and Baltic states had excessive exposure to foreign-denominated mortgages.

Country

BG

HR

CZ

EE

HU

LT

LV

PL

RO

SK

SI

2008

6.2

2.23.17.50.92.9-3.3

5.1

7.3

5.9

3.6

2009

-5.5

-6.0

-4.7

-3.7

-6.8

-14.8

-17.7

1.6

-6.6

-4.9

-8.0Slide13

Stability and Growth Pact

13Maastricht criteria for EMU membership:inflation max 1.5 pp higher than the average of 3 lowest-inflation Member Statesbudget deficit <3% of GDPgovernment debt <60% of GDP

long-term interest rate max 2.0

pp

higher than in 3 lowest-inflation Member StatesERM II joined for 2 years prior to accession, no devaluationStability and Growth Pact (SGP)Enhanced monitoring procedures

Sanctions through Excessive Deficit Procedures (EDPs)

Renegotiation and increased flexibility in 2005Slide14

SGP and Pensions I

14SGP should not encourage or discourage any particular economic structure (pension system).Reform of SGP

(2005

), special

treatment in EDPs:granting time for the adaptation of fiscal policy to the front-loading of deficits;

excluding

the

compensation for

systemic pension

reforms (assets of funds not offsetting government debt);

introducing

a transitory period of 5 years (

2005

-

9

)

application

of

a

degressive scale, ifdeficit is close to 3% and excess reflects the costs of the reform.Slide15

SGP and Pensions II

15Criticism: triggered by expiry of the transition period, soaring budget deficits;2

nd

pillars mature in 40-50 years, 5 years are insufficient;reformers should not be penalized with regards to the Maastricht criteria.

Demand

for SGP

revision

letter of 8 CEE countries plus

Sweden

change

the statistical treatment

of private pension funds;

deduct

fully the costs of implementing systemic pension reforms from the budget deficit in the context of the

EDP;

refusal of interim relief

(deviations from accounting rules must be limited, comparability with similar measures, statistical certainty);

new draft rules allowing for flexibility for virtuous countries.Slide16

Reforms and reversals

16Temporary measuresmany CEE countries froze the indexation of pensions (wages of public employees, social transfers) during 2010-12Parametric reformsvarious CEE countries introduced a number of ‘overdue’ parametric reforms:

higher retirement age

fewer early retirement venues

lower regular indexationReversal of privatizationgovernments prefer to spend for Keynesian measures than for transition costsSlide17

Reversals of privatization

17Bulgaria

Contributions:

frozen at 5% during 2007-14

, rising to 7% in 2017

Switching back:

early retirees brought back to PAYG system

Estonia

Contributions:

suspended temporarily (employees can pay in 2%)

Hungary

Contributions:

diverted back to public pillar

Switching back:

strong incentives to all

pension fund members

Latvia

Contributions:

reduced

from 10% to 2% temporarily

Lithuania

Contributions:

reduced

from 5.5% to 2% temporarily

Poland

Contributions:

reduced

from 7.3% to 2.3%, rising to 3.5% by 2017

Switching back:

allowed in 2006 for early retirees

Romania

Contributions:

frozen at 2%

Slovakia

Switching back:

allowed to all pension fund members, no mandatory entry for new workers Slide18

Part

IV - Theoretical implications18Political sustainabilityEven before the financial crisis there was extreme heterogeneity with respect to the vulnerability of reforms to changes in power.

Political

sustainability of reforms in time, and

implementation in general, have so far received insufficient attention.Two possible variables of interestPolitical polarization

Authority concentrationSlide19

The majoritarian systems

19Croatiasemi-authoritarian system under Tuđman’s HDZunilateral decision-making in 1998

disproportionalities (Homeland War combatants)

obfuscation (2

nd pillar unable to compensate for 1st pillar cuts)

reversals, but no elimination of funded pillar (no SGP?)

Hungary

super-majority under

MSzP-SzDSz

(Horn)

clientelistic decision-making in 1997

internal affair with successor union

MSzOSz

opposition parties uninvolved, even

SzDSz

voted against

too much effort for 2

nd

pillar, 1

st pillar amateurishextreme political budget cyclesspectacular reversalsall fiscal savings nullifiednationalization of the 2nd pillar (only 3% of original members remained)Slide20

The consensual democracies

20Polandafter 1997 parliamentary system, checks and balances, SLD-PSL coalitiondepoliticized Plenipotentiary (Bączkowski

,

Hausner

, Lewicka) and cross-parliamentary, cross-governmental consensus in 1997-8professional, innovative Security through Diversity

few disproportionalities, but incomplete reforms

marginal reversals, political capital to finalize reforms disappeared, 2

nd

pillar temporarily reduced

Slovenia

only neo-corporatist democracy in CEE

unilateral decision-making by LDS (

Rop

) in 1997-9

impossible to reach an agreement with successor union ZSSS

dilution of the White Paper and elimination of 2

nd

pillar

quasi-mandatory pillar for public employees legislated in 2003

marginal reversals, political capital for further reforms disappeared;failure of the 2010-11 pension reform.Slide21

An institutionalist perspective

21High polarization and concentration of authoritylower the time and transaction costs of reforms;may reduce the

adaptability of reforms to changing socioeconomic circumstances, due to

built-in ‘disproportionalities’;

decrease the resilience of reforms to changes in political power, due to wide ideological swings between subsequent governments.Low polarization and dispersion of authority

increase the time and transaction costs of reforms;

may increase the adaptability of reforms, due to inter-temporal quid-pro-quos;

increase the resilience to changes in political power;

render future reforms and adjustments difficult.