Hand-wringing over who will support future pensioners as the dependency ratio increases is hardly new, writes Jeremy Woolfe. But the new picture as painted for the European Parliament, as part of a far-reaching report looking into the issue by a prominent academic, is even more depressing than most.
The financial crisis is at the forefront of international attention, but there is a issue Europe faces with the potential to make the current economic woes pale into insignificance: its ageing population.
According to a briefing paper for the European Parliament, the economic crisis, while “significant”, is a mere short-term shock, the likes of which has been seen many times before.
This “shock” is also costing the European Union (EU) 6 percent of GDP and has increased unemployment by 10 million. Furthermore, it is causing European governments to contribute 12 percent of GDP to propping up the banking sector.
However grave, this still pales in magnitude to the effect of ageing on pensions systems. Specifically, says the paper, the damage caused by population ageing in the EU is about ten-fold more substantial.
The report was commissioned by the Parliament to its external expert, Professor Axel Böersch-Supan from Mannheim University, for a meeting of its Special Committee on the Financial, Economic and Social Crisis. Social Impact of the Crisis – Demographic Challenges and the Pension System looks into challenges faced by the diverse EU pensions systems.
Biggest financial challenge ever
In terms of shear destructive power, the report states that the “impact of the [2008-2009 economic] crisis on pensions is in the order of 5 percent to 15 percent, while the impact of aging is doubling the burden on the younger generation, an increase in the order of more than 100 percent in many member states… While financial markets were the main culprit of the current crisis, they remain nolens volens [whether one likes it or not] part of the solution in tackling the challenges of demographic change”.
The report finds that while the effect of the financial crisis may be felt “for a decade or more”, population ageing will “not go away… It is a century event”.
It continues that: “The demographic challenge, however, is unique, meaning a danger of far worse than any periodic collapse of trading bubbles.”
Using wording that is strikingly barbed by any standard, especially for use by officialdom, the paper goes on to refer to “ignorance, denial and political opportunism [that] have in many member states undermined a consistent [effort to defuse] the demographic time bomb”.
Among analysis of technical issues expanded on in the briefing, is the comment that the impact of the crisis on pension funds is very different across countries.
It records Organisation for Economic Co-operation and Development (OECD) estimates of a loss of 7.2 percent in the Czech Republic to more than a third in Ireland. It finds that the crisis is estimated to have reduced the wealth accumulated in pension funds overall by 15.8 percent.
The increase in old-age dependency ratio, that is, the number of beneficiaries from old-age pensions divided by the number of individuals who contribute to the pay-as-you-go system in Europe, has increased from 51 percent in Sweden, to about 200 percent in Poland and the Slovak Republic.
Public pension systems unsustainable
The paper comments that no current system can survive a doubling of the cost-to-payer ratio. Pressures will make public pension systems unsustainable all over the EU in a very foreseeable future if no appropriate policy actions are taken in time.
In its conclusion, it warns that “turning the clock backwards on reform”, as has been done in some EU member states in response to the economic crisis, will “badly backfire”. Later reforms will be politically even more difficult than they already are.
Looking at the obvious remedy to coping with ageing and pensions of increasing retirement age, the briefing report cites a “natural” compromise between a fixed retirement age, which adds all gain in longevity to the retirement period, and shifting the retirement age by the entire period resulting from a longer life.
A compromise proposed in the report is to keep constant the proportion between life spent in retirement and life spent working. The author clearly favours some kind of proportionality rule, rather than the conventional proposals to increase retirement age by two years, that change to take place over the next 20 years.
Use of a proportionality system has helped to “sell” a reform in Sweden, in contrast to one in Denmark which tried to change retirement age by a fixed number of years and failed. According to the expert, “a similar fate has undermined the German predefined schedule of retirement age increases, and encountered fierce opposition in France, Greece, and elsewhere”.
Blame for reluctance to reform in the light of clear factual evidence was placed on short-termism in the political systems. A meeting on pension problems held by the European Parliament’s Crisis Committee heard French MEP Pervenche Berès say that democratic governments face a hurdle because they “only have to think about the next election”.
At the same meeting, Edward Whitehouse, head of pension policy analysis at the OECD, asked whether harm has been done by the handing of the management of pension funds on “speculative basis”.
The European Parliament’s 10-page briefing note follows a 175-page report from the Commission in October that delves into country-by-country analyses.
This in turn follows communication from the European Commission Dealing with the Impact of an Ageing Population in the EU, published last summer. That Commission paper portrays a future that is far less stark than that from the Parliament.