APPENDIX: Description of Methodology for Pension Projections
This appendix describes the methodology and the assumptions underlying the projection of pension schemes’ financial situation in Belgium until the year 2050. Projections cover the old-age pension scheme for the wage-earners and the old-age scheme for the public sector. The coverage is not complete: survivor’s pensions, early retirement, guaranteed minimum income for the elderly, and self-employment schemes are not taken into account. 40/
We are grateful to Liam Ebrill, Robert Hagemann, Frank Lakwijk, Joaquim Levy, and Max Watson for helpful comments and discussions. Assistance with obtaining data by the Federal Planning Bureau, the National Bank of Belgium, the National Office for Pensions, and ASLK/CGER Bank is gratefully acknowledged.
About one-sixth of the private sector employees scheme, or less than one percentage point of GDP.
To the extent that early retirement schemes were implemented to relieve unemployment pressures, the anticipated decline in the working age population will reduce incentives to maintain such schemes, since aging raises incentives to increase the overall participation rate.
It is important to note that the pension schemes for both civil servants and wage-earners are run by the government and that in this paper the term “private sector pensions” denotes pensions paid to retired employees of the private sector, not supplementary pension paid on a voluntary basis through a scheme operated by the private sector.
The elderly dependency ratio is defined as number of persons over 65 divided by the population between 20 and 64 years. Table 1 also indicates that the ratio of the very elderly, e.g. the fraction of persons over 75 years in the population over 65, also rises dramatically. Depending on the indexation rules governing the pension system, this compositional effect within the group of retired people can have significant financial implications. Although it is outside the scope of this paper, this could also have major implications for the evolution of health care expenditures over the next 50 years.
For a detailed overview of the Belgian pension system, see Eeckhout, Van Gool and Verdyck (1995); Claeys, Geeroms, Rigo and Delgado (1995); and Gauthier (1994). For a good analysis of recent trends in pension expenditure in Belgium, see National Bank of Belgium (1996).
The adjustment before 1975 was de facto very similar to the CPI adjustments afterwards and the CPI is therefore used in our simulations to adjust salaries before 1975.
Before 1991, the retirement age for men and women was 65 and 60 years respectively. The pension was reduced by 5 percent for each year of retirement before reaching this official retirement age.
Limited supplementary benefits are granted in May each year. These are not taken into account in the simulations presented in this paper.
The calculations in this paper abstract from this problem since they are based on the number of pensions, not pension payments per pensioner.
The system covers civil servants in the Federal Government, civil servants in the administrations of the Regions and Communities and the local authorities, and certain public enterprises. In the simulations below, we assume that the features of the civil servants’ pension scheme apply to all employees of public enterprises.
Additional pension benefits are not taken into consideration.
Assuming that the studies period is assimilated to 4 years of employment (Movement Ouvrier Chrétien, 1995).
Since all the parameters of the model, including the features of the pension schemes, are fully adjusted for inflation, the inflation rate does not affect the results.
Replacement rates are computed here before taxes; net-of-taxes replacement rates are higher.
With P denoting pension outlays, AP the average pension, NP the number of beneficiaries, W the wage bill, AW the average wage and NW the number of employees/contributors, the equilibrium rate (ER) can be expressed as follows:
ER = P/W
ER = (AP * NP)/(AW * NW)
ER = (AP/AW)/(NW/NP)
Weemaes (1995) also provides simulations for public sector pension expenditures in the long run. Her study provides simulations for the pension bill for the administration (excluding defense and education) based on a refined distribution of retired civil servants over the different government agencies.
Although the methodology, assumptions and base year differ substantially, it is interesting to compare these results with the projections developed by the Bureau du Plan. Since we consider only retirement pensions and not survivor’s pensions, we obtain a significantly lower level of expenditures throughout. The difference in level is, however, consistent with the recent fraction of survival pensions in total pensions, around 30 percent in 1995. Adjusted for the omission of survivor’s pensions in this study, the evolution over the next half century is broadly similar: A steady rise in expenditures from 1995 until 2010 and a faster rise thereafter towards a new plateau from 2030 onwards. Moreover, the Bureau du Plan study also finds a more rapid growth for public than private pension expenditures. See Englert, Fasquelle and Weemaes (1994a and b) for the results of the Bureau du Plan study and Claeys, Geeroms, Rigo and Delgado (1995) and Delville, Verplaetse, Defourny and Janssens (1995) for other simulations on pension expenditures in Belgium.
The accumulated debt concept should be used with caution in this context. In principle, this concept should be used as a measure of the net pension liabilities that arise from moving from one steady state to another, in this case regarding the demographic evolution. Since it is not clear whether the current situation constitutes a steady state and whether the new steady state will have arrived in 2050, this figure should be used only as indication of the nature of the problem. Furthermore, the numbers generated by this measure are highly sensitive to the maintained interest rate assumption used in the compounding (see below).
It is important to note that this required fiscal surplus stabilizes but does not lead to a decline in the ratio of general government debt to GDP. In order to reduce the debt-GDP ratio to 60 percent of GDP by 2015, a primary surplus on the general government accounts of around 6 percent of GDP needs to be maintained.
As mentioned before, this excludes self-employment and minimum pension schemes, as well as survivor’s and disability pensions.
Delbecque and Bogaert (1994) obtain a consolidated required primary surplus of 7.2 percent of GDP, on the basis of higher projections of pension outlays (15.5 percent of GDP in 2030 compared to 11 percent of GDP in our baseline scenario). This is due to a broader coverage and more generous assumptions about increase in real terms of pension benefits and of the ceiling on wage-earners’ benefits.
The nature of these reform options implies that their quantitative impact on the sustainability of the pension system is quite different. Hence, no comparison on their relative effectiveness should be drawn from the simulations presented in this section.
The four options are only indicative of the type of reforms that could be considered. In particular, the ceiling on pensions in the public sector could be harmonized over time with the ceiling in the private sector. In addition, the different treatment along types of professions within the public sector and along marital status within the private sector could be abolished.
To the best of our knowledge, there is no measure of the potential CPI bias in Belgium.
Again, this measure does not affect private sector pensions compared to the baseline scenario.
Currently, about half of male pensioners enjoy the 75 percent replacement rate for one pension couples; almost no female pensioner is head of a household. The burden of survivor’s pensions (“droits dérivés”) would also be reduced with a higher female participation rate.
However, it is difficult to influence the participation rate. The retirement is determined not only by legal prescriptions, but also by social preferences and the firms’ behavior.
See the appendix for description of the methodology and the data.
‘Defined contributions’ means that the risk related to the return on the accumulated assets is borne by the contributor.
A former minister of the budget called the crowding-out of tax collection resulting from the tax deductibility of social security contributions the ‘cuckoo’s effect.’
As generous pensions are perceived as a compensation for lower wages in the public sector, this may have implications on the civil servants’ wage policy. Liquidity constrained civil servants would prefer higher wages and lower pension benefits.
The revenue effect of eliminating these tax expenditure exceeds one percentage point of GDP, or about the half of the estimated financing gap.
The methodology reflects the main characteristics of the two old-age schemes; however, many of the detailed provisions of the old-age schemes were neglected. Simulations are based on the schemes as described in section 3 of the main text. As an illustration, for the public sector scheme, we ignore, inter alia, the ceiling on a maximum pension, lower tantièmes for some categories of civil servants, and years of study assimilated to the work career. We also assume that the provisions of the public enterprises’ pension schemes are identical to those for the civil service.
Data on the age and gender distribution of the average wage could not be found for Belgium.
Except in the policy scenario where indexation is limited to 80 percent of the CPI.