Chapter 8. Who bears the pension loss?
References [ CPB | General | Scientific ] SummaryAuthors
Jan Bonenkamp, Casper van Ewijk, Thijs Knaap, Harry ter Rele & Ed WesterhoutContact: Jan Bonenkamp
In this chapter
Unequal distribution of loss of consumption by year of birth
Considerable uncertainty in loss of consumption
Loss of the young larger because of lower lifetime labour income
Distribution of the loss less unequal in theory
References
CPB
General
Scientific
Summary
The Dutch pension system has a large funded component, run by independent occupational pension funds. These funds take in a fraction of their members' wages, convert the money to assets and keep those until retirement. The coverage ratio is the main indicator of the health of these funds: it is the ratio of assets over discounted future benefits. The credit crisis caused the average coverage ratio to drop from 149 percent to 90-95 percent. This corresponds to a loss of EUR 200 billion. With the coverage ratio below unity for more than half of the funds, they can respond in three ways: increase premiums, stop increasing benefits to keep pace with wages (so-called wage indexation), or cut benefits outright.When the pension funds put their money in risky assets, they traded uncertainty for a higher expected return. While they made it clear that these higher returns would ensure higher future benefits, most funds neglected to communicate the higher risks to their members. These members are understandably upset about the limited, and painful, set of options that the pension funds now have to choose from.
To find out who ultimately bears the consequences of the loss in pension assets, we compute the effects of the most likely scenario of slightly higher premiums and a prolonged pause in indexation. The loss is expressed as the percentage decrease in consumption that each generation will experience. We find a highly imbalanced distribution, with the brunt of the losses borne by those born between 1940 and 1950. While there is much uncertainty about the size of the loss (owing to future volatility in assets), the distribution over generations is stable.
The financial pension loss is accompanied by a loss in human capital for those generations who will be active in the labour market in the years after the credit crisis. For reasons explained in chapter 4, productivity will be lower than expected, resulting in an estimated 5-percent decrease in the total wage income of younger generations. Taking the losses in financial and human capital into account, we find a slightly more even distribution, but baby boomers will still have to carry a disproportionate share of the burden.
Using the insights of Merton and Samuelson, we posit that an optimal distribution of the loss would involve each generation suffering an equal (expected) relative decrease in consumption. If the loss is shared among currently active generations, this would involve a 9.25 percent drop in consumption for each individual (including a 5 percent loss in human capital). Sharing the losses among all current and future generations will reduce this figure to just over 6 percent, but introduces a discontinuity risk.
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Contents
- Ch 1: The emergence of the crisis
- Ch 2: How a small problem became a big one
- Ch 3: Global trade in reverse gear
- Ch 4: Temporary crisis, permanent damage?
- Ch 5: The housing market during the crisis
- Ch 6: Try and try again on the labour market
- Ch 7: Throwing caution to the wind!
- Ch 8: Who bears the pension loss?
- Ch 9: Keeping banks in check
- Ch 10: Credit crisis and climate crisis: the one doesn't resolve the other
- Ch 11: How painful is the crisis?
- Ch 12: Learning from the crisis
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