Preparing Our Pension Systems for the Future: The Case of Germany

Jörn Wesenberg, LL.M. Deutsche Rentenversicherung Bund, Berlin

2

I. Structure of the German Statutory Pension System (GSP)

II. Demographic challenges for GSP

III. The main reforms undertaken so far• 1992/2001/2004/2007

IV. Effects and results of the German reform path• Financial sustainability• Adequacy of pensions

V. Conclusion and outlook

O u t l i n e

3

I. German Statutory Pension System:Characteristics

compulsory system linked to gainful employment insurance principle: equal value of contributions and

pension benefits – income related wage compensation• no minimum/basic pension level within the GSP

financed through mutual contributions of employers and employees (50/50) currently 19,9%

financed on a pay-as-you-go basis (75%/25%) rehabilitation prior to paying pensions mutually self-administered (insured/employers)

Wage and Salary Earners Self-Employed Unemployed

Public Sector Private Sector

Artists

Crafts-man

Farmers Liberal Professions

Others

Workers/

Employees

Workers/Employees

Other Miners

Sectors

1. Pillar: Mandatory Schemes

Civil Servant

Pension

Provi-sion

Statutory Pension Insurance (GSP)

General State Pension Pension

for miners

Farmers

old-age

assistance

2. Pillar:Additional

schemes

Additional Occupational

pension plan for Old-age pension schemes

public sector

3. Pillar:Private schemes

Privately financed pension-plans (savings, insurances, properties)

- promoted by the State

Supplemantary Aid:

basic security benefits in old age (tax-financed & means-tested)

I. Statutory Pension: Who is insured?

Civil servants

Institutes for liberal profession

Contributions paid into GSP by other State bodies/ Institutions

General State Pension

Sector

Profes-sion

5

II. Demographic trends in Germany – birth-rate

Source: Federal Statistical Office, 2006.

per 1000 women

6

II. Demographic trends in Germany – Key figures of pensioners insured in GSP

9

12

15

18

21

24

in y

ea

rs

Women West 10,6 13,8 19,3 17,4 20,2 22,6

Men West 9,6 11,0 15,2 13,5 16,3 19,1

1960 1980 2005Table

1982/84Table

2003/05Projection

2030

Average duration of the receipt of statutory pensions (in years)

Projected life-expectancy for pensioners aged 65

Source: Deutsche Rentenversicherung Bund

7

II. Demographic trends in Germany – Key figures of pensioners insured in GSP

Old-age dependency ratio (ages 65+ as a % of age 20-64 years)

15

20

25

30

35

40

45

50

55

60

65P

erc

en

t

Old-age dependendcy ratio 15,7 18,0 23,4 26,6 23,9 26,8 31,7 34,0 50,0 60,0

1950 1960 1970 1980 1990 2000 2005 2010 2030 2050

Source: Federal Statistical Office, 2006

8

III. Major pension reforms (a)

Reform 1992:

• change to net adjustment of pensions• adjustment of pension formula (target: 70% net income)• raise of the retirement ages 60/63 to 65 from 2001• reductions for early retirement (0,3% per month)• possibility to draw partial pensions• linkage of federal subsidies to contribution rate and pension

level

9

36,6

41,7

26,9

22,9

21,918,7

10

15

20

25

30

35

40

45

in %

Prognos '87 upper Level

Prognos '87 lower Level

with Pension Reform '92

2006 before latest reform

after reform 2007

III. Effects of the pension reforms 1992-2007

10

III. Major pension reforms (b)

Reforms 2001:

• new paradigm: stable contribution rate (2020: <20%, 2030: < 22%) • long-term pension level fall to 67% (2030) of net income

- new (modified) gross adjustment of pensions

• strengthening of capital funded 2. and 3. pillars- 2nd pillar: new right to wage conversion in occupational schemes - 2nd / 3rd pillar: “Riester pension” (promotion through tax benefits and

state bonuses, contributions guaranteed)

• “Basic security benefits” (tax financed + means tested) • annual information of all insured above age 26 of GSP pension sum

11

III. Major pension reforms (c)

Reform 2004:• introduction of „sustainability factor“ into pension formula

- pension rise linked to ratio of standard-pensioners vs. standard-insured (employees)

- sustainability factor can not lead to direct pension cuts

• gross pension adjustment again modified • net replacement rate before tax shall be kept above 43% in

2030 (if below 46% government needs to report to parliament)• modifications: specific retirement ages/educational periods

• gradual reform of pension taxation (pensions vs. contributions) will lead to significant cuts in future level of net pensions

12

III. Projected development of replacement rates for statutory pensions after reform 2004

Per

cen

t

20

25

30

35

40

45

50

55

60

65

70

2005

2006

2007

2008

2009

2010

2011

2012

2013

2014

2015

2016

2017

2018

2019

2020

2021

2022

2023

2024

2025

2026

2027

2028

2029

2030

20

25

30

35

40

45

50

55

60

65

70

Total gross replacement rateNet replacement rate for 1. year pensioners, reform projections 2004Net replacement rate without 2004 reform on taxation of pensionsMinimum net replacement rate level by law (before 2004 reform)Net replacement rate before taxation

year pension payment starts

Per

cen

t

13

III. Major pension reforms (d)

Reform 2007: Pension age

• from 2012 to 2029 gradual pension age rise (6567) • new type of pension from 2012:

- full pension at 65 without reductions for insured having paid contribution for 45 years

• possibility to make up for pension cuts so far not realized:- pension level protection clause modified- from 2011 a rise in wages and in pensions will be partly

offset against cuts not realised since 2005

• government to report regularly on labour market

• initiative „50plus“

14

III. Employment rate of older workers (55-64 years) in Europe (%)

Source: Eurostat

0

10

20

30

40

50

60

70

Poland

Slovakia

Slowenia

Malta

ItalyLuxem

bourg

Belgium

Austria

Hungary

France

Greece

EU25Spain

EU15Czech Republic

Germany

Lithuania

Latvia

Portugal

Cyprus

Ireland

Finland

Estonia

United Kingdom

Denmark

Sweden

2000

2005

15

III. Major pension reforms (e)

Reform 2007 – assessment

pension-age rise 6567 useful measure• missing corner-stone in latest reforms• financially: lower contribution rate (-0,5 in 2030) • effects for sustainability factor higher rise of pensions

problem: new pension for extra long contribution years• however: unjust effects (women; twisted careers; only

contribution years count, not sum of acquired pension credits)• financially: negative effects for contribution rate (+0,2%/2030)

problem: less transparency for pension adjustment

16

IV. Pension reforms: The central elements

paradigm of stable contribution rates • incentives for 2. and 3. pillar schemes

modifications for pension adjustment formula• modified gross adjustment• sustainability factor• reform of pension taxation

prolonging working lives• closing early retirement paths with short transitions• raising statutory pension age to 67• raising the employment rates of age 55+• information campaigns

17

Anstieg der öffentlichen Alterssicherungsausgaben in Prozent des BIP

Quelle: EU Kommission 2001; 2006

4,23,7

5,5

4,1

7,9

4,7

4,04,4

2,1 2,2

6,2

4,1

2,6

-1,1

3,2

-1,2

5,1

1,7

3,3

7,1

3,1

2

6,4

0,4

7,4

3,5

9,7

0,6

2,02,3 2,2

-2,0

2,0

6,0

10,0

AT BE DE DK ES FI FR IE IT LU NL PT SE UK EU15 EU25

Increase 2000-2050

Increase 2004-2050

IV. Pension reforms: Financial effects

Increase in public pensions expenditure,

% of GDP

18

IV. Pension reforms: Adequacy of pensions

13,5

14

14,5

15

15,5

16

16,5

17

17,5

18

DE EU 25

age 0- 64

age 65+

age 75+

Source: EU-Kommission 2006

Current risk-of-poverty rate by age groups (Poverty line: 60% of median equivalised income)

Theoretical replacement rates projected

0

10

20

30

40

50

60

70

2005 2030 2050

Total net replacementrate

Total grossreplacement rate

Gross repl. rate 1.pillar

Gross repl. Rate 2. /3.pillar

19

IV. Pension reforms: Trends in 2. and 3. pillar

more and more 2. and 3. pillar pension schemes:• 46 % of private sector employees (date: 30.06.2004)

• including the public sector a total of 60%

clear rise of contracts for Riester-pensions 2006: 2,4 million new contracts (total: 8 million)

0

1.000.000

2.000.000

3.000.000

4.000.000

5.000.000

6.000.000

7.000.000

8.000.000

9.000.000

Investementfondsverträge

Banksparverträge

Versicherungsverträge

20

V. C o n c l u s i o n

current situation:• system financially sustainable • adequate future pension replacement rates together with 2.

and 3. pillar schemes

possible issues for the future:• rise in discontinuous & flexible work forms outside social

security• sinking entitlements for low wage earners / long-term

unemployed• development of additional pension schemes (2. and 3. pillar)• rise of old-age poverty rates?

21

Further information

Internet:

http://www.bmas.bund.de/Englisch/Navigation/pensions.html

http://ec.europa.eu/employment_social/social_protection/pensions_en.htm

Contact:Joern Wesenberg, LL.M.Deutsche Rentenversicherung Bund- Section 0330 -Hallesche Str. 110963 Berlin, Germanye-mail: joern.wesenberg@drv-bund.de

22

I. Statutory Pension – some key figures

Insured (in 2006) approx. 51.7 million insured persons approx. 34.7 million “actively insured” nearly 80% of all in Germany gainfully in work

Pensions (in 2006) approx. 18.5 million old-age pensions paid-out 1.65 million invalidity pensions 5.9 million pensions for widows and orphans

Finances (in 2005) 231 billion € income 235 billion € expenditures

23

General preconditions

qualifying periods• general waiting period = 5 years of contributions

- Regular pension age (65 years)- Invalidity pensions- Survivors pensions

• specific waiting periods = 15, 20, 25, 35 years specific legal and personal pre-conditions

24

At-risk-of-poverty rate by age groups in EU (Poverty line: 60% of median equivalised income)

0

5

10

15

20

25

30

35

40

45

DE NL AT FR SE DK FI BE UK ES IRL EU25

age 0- 64

age 65+

age 75+