Pension reform as defined ambition Frank Vandenbroucke University of Amsterdam

Pension reform as defined ambition Frank Vandenbroucke University of Amsterdam Seminar Belgische Petroleum Federatie - Fédération Pétrolière Belge Brussels, 30 March 2017

Resources European Commission, The 2015 Ageing Report, European Economy 3/2015 Belgian Commission on Pension Reform 2020-2040 www.pensioen2040.belgie.be www.pension2040.belgique.be Schokkaert, Devolder, Hindriks, Vandenbroucke, Towards an equitable and sustainable points system. A proposal for pension reform in Belgium, Discussion Paper Series 17.03 Department of Economics, KULeuven, February 2017. Hindriks, Devolder, Schokkaert, Vandenbroucke, Réforme des pensions légales: le système de pension à points, Regards Economiques, numéro 130, Mars 2017. Schokkaert, Devolder, Hindriks, Vandenbroucke, Het pensioen op punten: naar een nieuw sociaal contract tussen jongeren en ouderen, Leuvense Economische Standpunten (forthcoming)

Dependency and demographic change in the EU 160 28 Dependency (old age & total economic) 140 26 120 100 80 60 40 20 16 0 14 2015 2020 2025 2030 2035 2040 2045 2050 2055 2060 Old age dependency ratio, EU Total economic dependency, EU Life expectancy at 65, EU 24 22 20 18 Life expectancy at 65

Old age dependency ratio in Belgium [65+]/[20-64] 001 001 2040 2060 000 000 2010 000 000 000 1950 1953 1956 1959 1962 1965 1968 1971 1974 1977 1980 1983 1986 1989 1992 1995 1998 2001 2004 2007 2010 2013 2016 2019 2022 2025 2028 2031 2034 2037 2040 2043 2046 2049 2052 2055 2058 Belgium Belgium with constant life expectancy

Old age dependency ratio in Belgium [65+]/[20-64] 001 001 2040 2060 000 000 2010 000 000 Postwar baby-boom: certainty Long-term impact migration & longevity: uncertainty 000 1950 1953 1956 1959 1962 1965 1968 1971 1974 1977 1980 1983 1986 1989 1992 1995 1998 2001 2004 2007 2010 2013 2016 2019 2022 2025 2028 2031 2034 2037 2040 2043 2046 2049 2052 2055 2058 Belgium Belgium with constant life expectancy

Dependency and demographic change in the EU Dependency (old age & total economic) 160 140 120 100 80 60 40 20 0 Increasing uncertainty 2015 2020 2025 2030 2035 2040 2045 2050 2055 2060 Old age dependency ratio, EU Total economic dependency, EU Life expectancy at 65, EU 28 26 24 22 20 18 16 14 Life expectancy at 65

Public pension spending, % GDP, EU 20 18 16 14 12 10 8 6 4 2 0 2013 2020 2025 2030 2035 2040 2045 2050 2055 2060 Impact of dependency (no change in coverage, benefit ratio, labour market ratio) actual forecast (incl. interaction)

Public pension spending, % GDP, EU 20 18 16 14 12 10 8 6 4 2 0 Coverage: (pensioners)/(population 65+) Labour market: employment (=> GDP) Benefit ratio: (average public pension)/(average wage) 2013 2020 2025 2030 2035 2040 2045 2050 2055 2060 Impact of dependency (no change in coverage, benefit ratio, labour market ratio) actual forecast (incl. interaction)

Public pensions spending, % GDP, EU - decomposed 20 18 16 14 12 10 8 6 4 2 0 coverage labour market benefit ratio 2013 2020 2025 2030 2035 2040 2045 2050 2055 2060 Impact of dependency (no change in coverage, benefit ratio, labour market ratio) with impact of change in coverage with impact of change in coverage + labour market ratio with impact change in coverage, labour market ratio + benefit ratio actual forecast (incl. interaction)

EU average conceals diversity: pension spending 16 14 12 10 8 6 4 2 70 65 60 55 50 45 40 35 Public pensions in % GDP, Belgium Public pensions in % GDP, EU 0 2013 2020 2025 2030 2035 2040 2045 2050 2055 2060 30

EU average conceals diversity: pension benefit ratio 16 14 70 65 Public pensions in % GDP, Belgium 12 10 8 60 55 50 Public pensions in % GDP, EU Public pensions in % GDP, BR2013, Belgium 6 45 Public pensions in % GDP, BR2013, EU 4 40 Benefit ratio Belgium 2 35 0 2013 2020 2025 2030 2035 2040 2045 2050 2055 2060 30 Benefit ratio EU

Change in public pension benefit ratios, 2013 to 2060 70 60 Benefit ratio 2060 50 40 30 20 10 MT BE CZ AT DK DE NO LT NL UK SK HU SI PL BG IE SE RO EE HR LV LU IT EL FI CY PT FR ES 10 20 30 40 50 60 70 Benefit ratio 2013 No change

Change in pension benefit ratios, including private pensions 70 60 dk nl Benefit ratio 2060 50 40 30 20 10 MT FI BE CZ lt DK DE FR AT NO LT NL UK SK HU SI PL pl BG IE ee ro SE RO lv EE HR LV LU IT EL CY PT pt se ES 10 20 30 40 50 60 70 Benefit ratio 2013 No change Benefit ratio all pensions

Intergenerational risk sharing: the social contract Pensions = managing uncertainty by integrating adjustment mechanisms in the pension system EU Commission: by indexing parameters of pension systems to longevity (e.g. career requirements & retirement age) Options for risk sharing Defined benefit Defined contribution Musgrave rule Fix Pension Contribution rate (net) pension Conditional on macro demographic & economic context benefit ratio Conditional on individual choice Economic risk Risk for workers Shared risk Shared risk Demographic risk Risk for workers Risk for retirees Shared risk

Intergenerational risk sharing: the social contract Pensions = managing uncertainty by integrating adjustment mechanisms in the pension system EU Commission: by indexing parameters of pension systems to longevity (e.g. career requirements & retirement age) Conditional certainty for the individual citizen Stabilize aaaaaaaaaaaaaa nnnnnn pppppppppppppp iiiiiiiiiiii aaaaaaaaaaaaaa nnnnnn iiiiiiiiiiii aaaaaaaaaaaa pppppppppppppppppppp (Musgrave Rule) Conditional on macro demographic & economic context Conditional on individual choice

Pay-as-you-go allows defined ambition, with point system Pension = (number of points) x (value of point) x (actuarial corrections) x (indexation to income growth) Number of points <= career Value of point f (average income employed) Premised on a desirable and sustainable replacement rate for a standard worker with a normal career ; normal career takes into account changes in demography etc. Positive / negative corrections f (career) Indexation f (growth real incomes), with flexibility

Pay-as-you-go allows defined ambition, with point system Pension = (number of points) x (value of point) x (actuarial corrections) x (indexation to income growth) Number of points <= career Value of point f (average income employed) Premised on a desirable and sustainable replacement rate for a standard worker with a normal career ; normal career takes into account changes in demography etc. Positive / negative corrections f (career), given social stratification of age of entry and healthy life yearsty

Defined ambition : in between DC and DB Two objectives: Target replacement rate for standard worker with normal career & stabilisation of income ratio pensioners/employed Stabilisation of the contribution rates on earned income Postponing retirement Alternative funding (tax shift)

Defined ambition : in between DC and DB Two objectives: Target replacement rate for standard worker with normal career & stabilisation of average income ratios pensioners/employed Stabilisation of the contribution rates on earned income Postponing retirement (flexibility in pension system, but!) Alternative funding (tax shift)

Funded pensions in a supplementary second pillar Why funding? => diversification of risk Law on Supplementary Pensions, 2003 Democratization of supplementary pensions Sector approach: coverage of SME Embedded in social dialogue Mobility Guaranteed minimal return

Sustainable reform Requires large consensus Based on sense of common purpose: defined ambition www.frankvandenbroucke.uva.nl