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This chapter begins with a brief discussion of the introduction of a state-sponsored pay-as-you-go (PAYGO) pension system in Germany over a century ago, and pension reform in Latin American countries. It then considers the shift in the process of pension reform in organizations such as the World Bank and the International Monetary Fund, and countries such as Chile, beginning in 2004. An overview of the succeeding chapters is presented.

This chapter discusses pension reform in Argentina. Argentina instituted a major pension reform in 1994 following an extremely serious macroeconomic crisis. Partly inspired by Chile's experience, it replaced its PAYGO system with a mixed model that incorporated elements of both public and private systems. It is argued that the pension reform was actually a combination of four separate but interdependent reforms: a number of parametric changes, which resulted in stricter requirements for receiving benefits; a shift from a DB formula tying benefits to previous earnings to a DC structure; a re-introduction of a funded scheme; and a set of institutional changes that created both pension fund management firms and public supervisory agencies. Coverage rates as well as indirect economic effects, such as the impact on capital and labour markets are considered, and key policy challenges with respect to coverage, institutional design and efficiency, and system fragmentation are reviewed. While these issues were exacerbated by the 2001-2 financial crisis, it is shown that the pension funds have produced reasonable returns over time.

The increasing life expectancy in the United States and in other industrial countries is creating a major problem for traditional unfunded social security pension programs. In such pay-as-you-go programs, the cost of providing any level of benefits varies directly with the ratio of retirees to employees. This book explores three issues: the administrative costs of a funded system, the distributional effects of shifting from a pay-as-you-go system to an investment-based system, and the market risks associated with any investment-based system. In particular, it examines whether social security can improve its future solvency problem via investments in private securities, the effect of investment risk on prefunding of social security, the effect of pay-when-needed minimum-benefit guarantees on the impact of social security privatization, and whether market and voting institutions can generate optimal intergenerational risk sharing. The book also looks at the social security trust fund, the riskless interest rate, capital accumulation, financial engineering and social security reform, and the role of real annuities and indexed bonds in an individual accounts retirement program.

This introductory chapter begins by discussing the pension crisis in Europe and the United States. It then describes the three parts of the book. The first part focuses on the reform of key structural features of existing pay-as-you-go (PAYG) systems. The second part addresses the sustainability of PAYG systems in a democratic context, in which reforms have to be voted and pension plans face the pressures of systems competition. The third part analyzes policy issues that are specific to the private, funded systems, which increasingly are perceived to supply necessary compensation for the diminishing benefits of PAYG systems. The chapter concludes by examining the reform strategy of successive German governments since 2001 and the new direction proposed by the Blair government in the UK in its May 2006 White Paper, “Security in Retirement: Towards a New Pensions System”.

This chapter presents a discussion that seeks to identify through which different channels aging and pensions affect the Dutch economy, how these effects propagate, what the feedback effects are, and how the income distribution across and within generations is affected. It also seeks to quantify these effects through simulations that will allow one to assess the relative importance of different channels. Population in the Netherlands is expected to age in the coming decades as a result of low birth rate, lower mortality rate, and the baby boom generation. Pension system in the country consists of government-run pay-as-you-go (PAYG) system, funded compulsory occupational pension schemes, and voluntary private savings. The chapter explains the IMAGE model, benchmark path, policy instruments for pension funds, fixed premium, valuable indexation, career average pensions, government policy options, aging and labor participation, and lower rates of return.

This chapter presents a discrete time model, the overlapping generations (OLG) model. It starts by presenting the most classic OLG model, wherein each family lives over two periods and overlaps only with the previous family (when young) and the next one (when old). It defines the market equilibrium of this economy, and also reveals that a few equilibria can be Pareto dominated. Additionally, it evaluates the important issue of pensions. The chapter then discusses the two classic pension systems: the fully funded system and the pay-as-you-go system. Lastly, it investigates the dynamics of the economy when agents can accumulate capital and government debt.

Most social security systems around the world are operated on a pay-as-you-go (PAYGO) basis. Taxes collected from working people today are routed directly to pay the benefits of current retirees. Now these systems are faced with rapidly aging populations, increasing the number of retirees relative to the number of persons in the labor force. In addition, employees in most countries are leaving the labor force at younger and younger ages, further increasing the ratio of retirees to employed persons. The combination of these two trends, together with generous retirement benefits in many countries, has placed social security systems around the world under enormous financial stress. This chapter explains the nature of the problem faced by social security systems and then describes the various approaches that might be used to address the problem, commenting on the economic features of each. A commentary and discussion summary are also included at the end of the chapter.

This chapter explores the transition from a pay-as-you-go system of social security pensions to an investment-based system in an economy in which portfolio returns and capital profitability are both uncertain. It analyzes the effects of investment risk on a proposal for prefunding social security put forward in earlier work by Martin Feldstein and Andrew Samwick. Feldstein and Samwick examine the effect of adding modest contributions to personal retirement accounts (PRAs) — initially set at 3 percent of earnings. Over a seventy-five-year transition period, as PRA savings accumulate, payroll taxes could decline to zero, and the PRA contribution rate could rise slightly to a steady-state 4.25 percent level. The chapter also assumes that the PRA portfolio is invested 60 percent in equities and 40 percent in corporate bonds, and suggests that investment risk in this portfolio can be handled by a combination of a higher PRA contribution rate, to shift the distribution of retirement benefits upward, and a government guarantee that total benefits under the new system will be at least as large as those under the current system.

Using the overlapping-generations model, this chapter examines a different type of risk: the demographic risk that a generation will be unexpectedly large or small. In a closed economy, a large generation tends to drive down the marginal product of labor and therefore receives relatively low wages; conversely, a small generation tends to receive high wages. The chapter argues that a defined-benefit pay-as-you-go system helps generations share this risk more efficiently than defined-contribution or privatized systems. The chapter also considers other types of demographic shocks, including anticipated future demographic changes and shocks to the life expectancy of an existing generation. In addition, it considers the ramifications of missing annuities and accidental bequests, argues that efficient risk sharing often requires the adjustment of current social security benefits in response to news about future demographic trends, and discusses the effect of elastic labor supply on demographics.

This chapter discusses pension reform in Poland. The program for pension system reform was launched at the beginning of 1997, and emphasized that pension reform must combine a first, pay-as-you-go pillar; a second, mandatory, fully funded pillar; and a third, voluntary, funded pillar. Currently, the main problem with pension reform in Poland is the organizational inefficiency of the Social Insurance Institution and the fact that this institution has failed to set up a comprehensive, computerized information system. The first and second pillars cannot operate without such a system, since it would be impossible to maintain individual accounts. The pension companies estimate that by the end of 1999 the Social Insurance Institution had transferred barely 50 percent of contributions to them, and that about 40 percent of members' accounts are dormant (i.e., not a single contribution has been paid in).

The pension system of the Netherlands consists of three pillars: (1) a state-financed basic pension at minimum wage level, supplemented by (2) a collective pension financed by employees and employers typically at a level of 70 percent of prepension gross earnings (compulsory pension funds); and (3) an old age provision financed by an individual person (free choice of saving, investment, and life insurance products). The basic pension is financed on a pay-as-you-go basis through premium payments as well as through the general government budget, while the financing of both of the supplementary pension components is funded on a capital basis. Section 9.2 of this chapter summarizes the financial challenges for the Netherlands pension system given the prospective population aging. Section 9.3 discusses the main features of the three-pillar system, while reform issues are considered in Section 9.4. A commentary and discussion summary are also included at the end of the chapter.

This chapter discusses Swedish pension reform and what it means for individuals and for society at large. The whole reform package in Sweden represents a paradigm shift in thinking about public pension provision, and examining how the Swedish reform evolved is a valuable exercise in itself. Sweden's national defined contribution idea spread quickly, first to Latvia and Poland, then to a number of other countries, leading to the question: What is so enticing about this pay-as-you-go system? A commentary and discussion summary are also included at the end of the chapter.

In 1981, Chile replaced a mature, traditional, government-run, pay-as-you-go defined benefit system with a new multipillar system that included a defined contribution plan along with a public benefit in the form of a minimum pension guarantee (MPG). The old system was insolvent, having promised benefits that increasingly exceeded contributions. Many workers and employers evaded the payroll tax, exacerbating the fiscal problem. The objectives of the reform were to make the system largely funded and therefore fiscally sustainable; to manage the funds privately in order to avoid political manipulation; to link benefits more closely with contributions, thereby reducing the tax element and the vulnerability of the system's finances to evasion; and to make the redistributive element explicit and better targeted. This chapter analyzes whether women in Chile were helped or hurt by this reform.

In 1997, Mexico replaced its old, traditional, pay-as-you-go defined benefit system with a multipillar system that included a funded defined contribution component. This chapter analyzes how women fared in this process. It shows that the defined contribution plans in the new systems have subtle features that favor women, such as the heavier weight given to earnings early in adulthood. These are reinforced by the joint annuity, which transfers income from husbands to wives, and the public benefit, the social quote (SQ), which redistributes to low earners. As the lowest earners in each education category, women will inevitably benefit from such redistributions.

As the population ages in the major continental countries of Europe, a larger proportion of gross domestic product will have to be spent to finance pay-as-you-go (PAYGO) systems. The problem of the PAYGO system is an issue not only of financial sustainability, but also of labor market distortions and resulting unemployment. Contributions to the pension system have an incidence similar to an explicit tax on labor; they weaken the demand for labor, which in turn implies a lower net wage. This chapter first reviews the efforts of European governments to deal with the pension crisis, which involve finding new sources of financing for their public systems and changing the supply of labor. It then proposes solutions to the problem including the reduction of the benefit level and introduction of a “funded pillar”. It concludes with a discussion of some specific issues of the pension system in an increasingly integrated Europe.

This chapter discusses the lack of consensus in the reform of the French pension system. At one end of the spectrum are those who are convinced that the pension problem is a real one and argue either that economic growth is uncertain, or that it will be of only marginal help in solving pension imbalances. At the other end of the spectrum are those that advocate the implementation of partial funding on top of existing pay-as-you-go (PAYGO) schemes, but with some variance about the way this should be done: through traditional life insurance contracts, pension funds, employee saving plans, or the accumulation of reserves within existing PAYGO schemes. This chapter examines the steps that led to its current state. It distinguishes three main (and partially overlapping) stages of the pension debate. The first began around 1990, with the publication of Livre Blanc sur les Retraites (the White Book on Pensions), and finally led, in 1993, to the Balladur Reform concerning the general pension regime. A commentary and discussion summary are also included at the end of the chapter.