Turnering The Screw

The Turner Report is about to appear. The Turner in question is the UK peer Lord Adair Turner, and the subject of the report the future of the UK pensions system. Although the final report is not due till the end of the month, the FT has been ‘ leaking’ some of the possible contents.

The commission will apparently suggest that the age at which workers can claim their full state pension should, over time, rise from 65 to 67. The increase is intended to come in stages, starting after 2020 when the UK’s women’s state pension age is set to be aligned with men’s at 65. Thereafter, state pension age should rise in line with increasing longevity, the commission will say. Now this idea seems to me to be a very important one, and I’d just like to take the time out to explain why I think this.

Before I do so, a bit more background may be in order. The report, we are informed, is likely to suggest that at least nine million people in the UK are estimated to be saving too little for their old age. In fact, in its its interim report, the commission has already drawn the conclusion from this that unless tomorrow’s pensioners are, on average, to be poorer, either taxes will have to rise, people will have to save more, or working lives would have to be longer.

The most probable response to this connundrum will be a mix of the three of these.

The important point to note about the UK situation is that it still has time to work on all this, and to try and get the balance right. Older countries like Germany and Japan are already having to face up to some of the unpleasant policy options involved. In Germany the incoming government is about to raise the VAT consumption tax by three percentage points, while in Japan PM Koizumi is pressuring hard on the Bank of Japan not to lift its monetary easing regime (or raise the zero percent interest rates in the short term) since the Finance Minister there also wants to address fiscal issues by raising consumption taxes, and a mixture of higher taxes and higher interest rates could easily derail Japan’s fragile recovery (also the ECB would do well to follow this debate, since raising rates in Germany would also imply a bi-fecta there).

Similarly Angela Merkl’s coalition is set to raise the retirement age in Germany to 67 (towards the start of the next decade IIRC) , while in Japan there is no upper limit, and participation rates at 75 are already in the 25% region.

Predictably the rumour that the UK retirement age may rise has proved controversial, with the Trades Union Congress being strongly opposed, using the not entirely unreasonable argument that any such rise would hit the poorest hardest because their life expectancy tends to be lower.

I favour raising the age (it is inevitable) but doing so by using a ‘moveable feast’ framework.

Now obviously the background to these pension decisions is a demographic one., and the ‘stylised facts’ of our present demographic situation seem to be that:

1/ We live longer, and will continue to increase our life expectancy.
2/ We have lower fertility
3/ We spend more years studying, and tend to leave the maternal nest later.

Actually I think all three of these may be connected in some way (but that’s for a later post). Right now I think the implications of this are that we need to displace the retirement age forward on a continuing basis. I think in a way it is a mistake (or a bad use of debate resources) simply to go for another revision of the retirement age to 67. This way of doing things is fraught with difficulty as each time you raise the age you need to confront the hostility of those immediately affected, who, it should be recalled, with a permanently inverted pyramid will always be disproportionately numerous (at least to some extent).

What we need is some sort of sliding scale. One way of doing this, for example, would be to remove the limit on retirement age completely. Have pensions systems based on years of contributions, which can be made at any age, and have the number of contributing years flexibilised depending on what is actuarily necessary to balance the fund in the long term based on the constant revisions of life expectancy.

In other words, every year, as well as existing pensioners being told how much their pension goes up (or down) depending on changes in the CPI, those working could be notified how many years of contribution are currently required in order to comply with the minimum conditions for retirement.

Contributing years are also relevant to address the kinds of concerns raised by the TUC. In fact those with lower life expectancy are normally also those with less education, and those with less education in principle start work earlier, so logically, under a contributing years system they could also retire sooner.

I also think there’s another advantage to putting life expectancy in relation with education rather than level of income, since some might think that being poor is something they can do little about, whilst being pooorly educated has a much more obvious and immediate solution.

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About Edward Hugh

Edward 'the bonobo is a Catalan economist of British extraction. After being born, brought-up and educated in the United Kingdom, Edward subsequently settled in Barcelona where he has now lived for over 15 years. As a consequence Edward considers himself to be "Catalan by adoption". He has also to some extent been "adopted by Catalonia", since throughout the current economic crisis he has been a constant voice on TV, radio and in the press arguing in favor of the need for some kind of internal devaluation if Spain wants to stay inside the Euro. By inclination he is a macro economist, but his obsession with trying to understand the economic impact of demographic changes has often taken him far from home, off and away from the more tranquil and placid pastures of the dismal science, into the bracken and thicket of demography, anthropology, biology, sociology and systems theory. All of which has lead him to ask himself whether Thomas Wolfe was not in fact right when he asserted that the fact of the matter is "you can never go home again".

11 thoughts on “Turnering The Screw

  1. While I think there’s a good idea in here, the implementation you describe heavily penalizes women who choose child-rearing over wage-labor: every year spent raising children must is a year that must be spent again in labor before retirement is possible. Actually, it’s worse than that: as long as the number of years of required contribution is increasing, every year spent raising children is more than one year than must be spent again in labor before retirement is possible.

  2. I think the US has been doing the sliding scale thing since the early-to-mid-1980s. Not, as far as I know, using the “contributing years” idea, but just a simple slowly rising retirement age.

    One of the spanners in this whole works, however, is the prevalence of early retirement, especially in things like corporate restructurings. This tends to mean that significant numbers of people are not working all the way to retirement. It seems like there’s little gain from raising the statutory retirement age if the effective retirement age is actually sinking.

    There’s also a question of age discrimination in hiring for people who may take buy-outs but who are not ready for full-time retirement.

    I don’t know how to do the sums of these micro issues, but I suspect that they do add up to a macro effect.

  3. Dropping the retirement age altogether in combination with a small statepension would be my suggestion. Instituting a bare “minimum” (I mean really bare! So it forces people to think about their own pension, plus it shows the importance of getting a job) state pension that rises in stages according to agecohorts and giving people the option to choose their own “retirement age” would probably be the best option.

    The big problem with that individual pension plan is that there needs to be a functioning private pension system. Only the UK and the Netherlands come to mind. A state controlled pensionsystem can never offer that sort of flexibility and they shouldn´t even try (too much chance for rentseeking behaviour from all parties involved).

  4. Interesting observations, thanks.

    Robert

    “the implementation you describe heavily penalizes women”

    Good point. I think this is why good laws are better made in committee. Obviously I don’t want to penalise anyone. This of course raises the whole issue of family structure and how we treat it. And it raises the fact that all labour isn’t equal, since one half of the population carries the reproductive responsibility, in part, on behalf of the other. We obviously still have a long road to travel yet here. But I can’t even vaguely hope to get to grips with this here.

    Beyond the issue of the women who chooses to work, and who then has a break in the work-history when she becomes a mum, there is the woman who may choose not to, and who may also have pension needs one day. Again, I can’t handle this here, especially since I’m no pensions expert :). All I’m trying to do is advance one very simple general principle, a principle which I think will help us structure what we have to do next. In particular we need to move away from thinking about the working life as being from x to y, since these goalposts are constantly moving, and debates about pensions, if held permanently, are likely to divert a lot of otherwise useful social energy.

    Doug

    “I think the US has been doing the sliding scale thing since the early-to-mid-1980s.”

    Well yes, you did see the problem coming, and you did make a first reform (in 1988 I think) and your retirment age is going up to 67, but are there more changes decided for after that?

    Obviously like the UK and France, this starts to become an ongoing issue in the US after 2020 (you do have a blip coming soon with the large boom cohort).

    “One of the spanners in this whole works, however, is the prevalence of early retirement, especially in things like corporate restructurings.”

    Well this is a general problem, but you do seem to have higher participation rates post 55 than we do generally here in Europe. This is what the Lisbon agenda is all about.

    “There’s also a question of age discrimination in hiring for people who may take buy-outs”

    This may change in the rapid ageing counries as the labour market tightens and young people become scarce.

    CapTVK

    “Instituting a bare “minimum” (I mean really bare!)”

    A number of issues here. First there is the question of inter-generational justice. You can introduce new systems without problem for new labour market entrants, but then this won’t have any real impact until 2050, so it isn’t going to help too much with our immediate problems. Of course, you can change existing arrangements, and this is what most of the proposed reforms are about, but then starting from which age group now do these changes really start to bite.

    In Germany they seem to have a real problem in the relation between the minimum pension payment for the person who has paid contributions and the minimum guaranteed income, they can’t reduce what they pay on the contributory pensions much without hitting the floor of payments available in the general social security system.

    Of course, in the background, there is the whole issue of private and public systems, but again I’m deliberately trying to sidestep this one, and simply look at how we think about working life and retirement.

  5. As one piece of evidence in support of why we need to move forward on all this, I would point to the following from the FT today:

    “Two important pieces of Italian economic reform are at risk of failing to become law because of disputes in the government of Silvio Berlusconi.”

    “The reforms concern Italy’s bulky state pension system and its weak regulatory system for financial markets. If the measures collapse, it will be hard for Mr Berlusconi to point to a single piece of serious structural economic reform, apart from some changes to the labour market, that his government has passed in almost five years in power.”

    “In the case of Italy’s financially over-stretched state pension system, a reform that was originally approved by parliament in July 2004 is hanging by a thread now because of a last-minute row among the four parties of the government coalition over how to expand private and occupational pension schemes.”

    “The centre-right government was supposed to approve the new pension schemes at a cabinet meeting on Friday. But for reasons that remain obscure even to Roberto Maroni, the welfare minister involved in the pension reform, the item was taken off the cabinet’s agenda.”

    “Mr Berlusconi insisted on Thursday that the cabinet would approve the reform at another cabinet meeting on November 25 – the same day that Italy’s three biggest trade union movements will hold a four-hour general strike in protest at the government’s economic policies.”

    “Some of the loudest opponents of the pension reform are in Italy’s insurance industry, which complains that the measure discriminates against them. As it happens, Mr Berlusconi’s business empire includes a significant minority stake in Mediolanum, one of Italy’s biggest insurers and fund managers.”

    Nuff said, I think.

  6. To expand upon Doug’s prior comment, one odd development in the United States is that average retirement ages continue to fall, even as demographic trends would seem to call for the opposite. Retirement at 55 is commonplace nowadays and even 50 is far from unusual. And note that Social Security retirement benefits aren’t available until age 62, and even then in reduced form. More and more people are using savings and private pensions to retire when barely into middle age. How much longer this can be sustained is another question.
    Speaking of demographic trends, there is another one – in addition to longer life expectancy, longer time spent in the educational system and lower fertility – that should (but of course doesn’t) lead to later and later retirement. In the last couple of generations, the percentage of American jobs that are physically demanding, using a _very_ leinient definition of the term, has dropped from over 40% to less than 10%.

  7. “the percentage of American jobs that are physically demanding, using a _very_ leinient definition of the term, has dropped from over 40% to less than 10%.”

    OK, thanks Peter, interesting and possibly useful point.

  8. Well yes, you did see the problem coming, and you did make a first reform (in 1988 I think) and your retirment age is going up to 67, but are there more changes decided for after that?

    I think that the sliding scale is permanent, at least in the sense that there is no automatic cap. But I’m no expert on these things.

    There was of course an attempt for more change this year by the Bush Administration. We learned that Social Security is in fact still the third rail of American politics. But mostly that was because the Administration proposals were incomplete and/or almost too dumb for words.

    The problem in America is that the general budget has been borrowing from the Social Security surplus for quite some time now. It will soon (in a demographic sense) be time to reverse that relationship. Obviously, it will take a different Congress and different President to spend the people’s money sensibly. If the US government does not renege on the deal that was made in ’83, then the shortfall is not such a big deal out to a time frame of 2042 or so.

    This is what the Lisbon agenda is all about.

    More signs of life in the Lisbon agenda would be good news all around, I think.

  9. “First there is the question of inter-generational justice…”

    Well, well, well. Show me how to find justice in a Ponzi scheme. Show me.

  10. “Show me how to find justice in a Ponzi scheme..”

    Pavel, I don’t basically disagree, I wouldn’t put it as abruptly as you do, but essentially paygo is a Ponzi scheme. But that is precisely why there are inter-generational justice issues which arise.

    And this cuts both ways. You can’t tax the young people to death just to pay for the old – and anyway the tax wedge simply becomes unbearable and firms move – but nor can you simply abandon all those older people who have in good faith paid into the scheme and now find it doesn’t work.

    This is true whether the issue is public or private pensions with defined benefits, as we are seeing in cases like United Airlines, Delphi and General Motors in the US. In the end the state has to step in and pick up the responsibilities.

    If you want a philosophical demographic take on this you could do worse than:

    Lindh, Thomas, Malmberg, Bo & Joakim Palme, Generations at War or Sustainable Social Policy in Aging Societies?

    http://www.framtidsstudier.se/aktuellt/2005.15.pdf

    and, imagining that you come from the Czech Republic, you might like to read some of the work of your best known young demographer, Thomas Sobotka:

    “Ten years of rapid fertility changes in the European post-communist countries. Evidence and interpretation”

    http://www.rug.nl/prc/publications/workingPapers/download/WP_02_1.pdf

    Abstract

    “This paper provides a detailed evidence on recent fertility changes in the countries of Central and Eastern Europe and offers an interpretation of these changes. It focuses on the ten-year period of 1989-1999, which witnessed the most intensive changes in childbearing patterns, such as rapid decline in period fertility rates, postponement of childbearing and an upsurge in the proportion of non-marital births. Changes in fertility are analyzed with the use of data collected by national statistical offices, further complemented by evidence from the FFS surveys (Fertility and Family Survey) and RHS surveys (Reproductive Health Survey). The paper discusses the notion of a socialist greenhouse – an artificial environment that shaped people’s lives during the communist era. Changes in fertility and family formation over the 1990s are perceived as results of the collapse of the socialist greenhouse, which was mutually facilitated by two basic dimensions: broader social changes and new economic constraints. Particular attention is paid to the rapidly evolving differentiation of fertility patterns across Eastern Europe and the role of the cultural-religious tradition in this differentiation.”

    Understanding your fertility process is the key to understanding what happens to you next.

  11. Peter made an interesting comment above that deserves more attention. It is not at all uncommon to find Americans retiring at 50 or 55, even though the age at which Americans can collect full social security has risen. It seems likely that this is a result of the unreliability of social security and the fact that so many Americans no longer even consider social security in their retirement plans. Neither my husband nor I count on getting a dime from social security, we’re planning for retirement completely outside of the system. Many others are too. As a result, many people are able to retire when they want to, not when social security says they may.

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