The pension crisis approaching will be widespread and particularly acute in Spain. Although the root problem is demographic, the measures to avoid bankruptcy are fiscal and labor, and urgent. Developed countries are quickly going to reach a point where committed pensions cannot be paid. A recent study of 21 countries concluded that to cover the pensions of retirees in 2050, they would lack 15.8 trillion dollars. That huge gap will be equivalent to 23% of world GDP in that year.
How did we get to this situation? The main key is demographics: people live longer and longer and have fewer and fewer children. In 2050 our country will be the one with the highest ratio of retirees to people of working age in the OECD: according to United NationsIt will have 78 people aged 65 and over for every 100 between 20 and 65. This means only 1.3 people of working age for each pensioner. If we add inactive or unemployed, the ratio approaches one retiree per worker, a clearly unsustainable situation.
The drop in birth rate means that as the number of older people grows, the number of workers contributing to the system stagnates or decreases. Spain has one of the lowest birth rates in the world: 1.3 children per woman. The coincidence of these demographic phenomena makes the current system unsustainable.
Also, the moment of crisis is approaching faster since the financial crisis because interest rates are historically low. Previously, a pension fund provided returns of around 7% per annum, whereas with zero and even negative rates a classic fund combining investments in stocks and bonds does not give more than 2.9% per annum.
In this situation, and with large populations depending on pensions to survive, what can be done? Obviously, birthrate must be encouraged. In Eastern Europe, where population is lost, they have introduced generous incentives to have children. In Hungary, a woman with four children or more does not pay personal income tax for the rest of her life (yes, you read correctly). France has always offered substantial support to families, and the results are evident in her robust birth. Measures such as these or others such as linking the pension to the number of children could slow down the birth rate.
Future pensioners must be prepared to live on a lower public pension, encouraging savings and complementary pension plans. Here the government should improve tax breaks instead of considering their reduction or elimination.
The most politically costly reforms deal with income, payments, and retirement age. We need to work more years to make the system sustainable: it is recommended that the retirement age be raised 4-6 years before 2050. At the same time, the amount of pensions must be reduced to help the system balance. A post-retirement income equivalent to 60% of the previous income is recommended, instead of the 79% -83% currently projected for Spain.
There are ways to incentivize people to charge less and contribute more. If a person sees that his pension will be much lower if he retires earlier, he will probably decide to continue working, for the good of all. If the non-contributory pension were really minimal, incentives would be created to find formal jobs that contribute to the system and to work longer years. The taxpayer must perceive a clear relationship between how much he formally works and how much he receives. It is logical in the interest of equality that there is some distribution and some caps, but if the incentives to work and contribute are eliminated, the system will end up collapsing.
The necessary reforms are unpopular, such as strikes in France against the president’s plan Macron have shown. And over the years, as older people make up an increasing percentage of voters, it will be increasingly difficult to implant them. But they are essential if you want to sustain a system that has managed to turn the poverty of the elderly and their total dependence on children into a mere memory. What is certainly not going to solve the problem is ignoring it and doing nothing for fear of the political cost.
Gayle Allard is Professor of Economics at IE University