Download 01_sebastian_edwards_english

Crises and Pensions:
Lessons from the Global
Financial Collapse
by
SEBASTIAN EDWARDS
University of California, Los Angeles
May, 2010
The three pillars of Chile’s
economic success
Openness and international competition
 Strong institutions and the application of the
rule of law
 Pension system based on capitalization

Crises and pensions
One of the most remarkable aspects
of Chile’s privately run
capitalization system is that it has
survived the crisis very well…
Much better, indeed, than what some
international commentators and “gurus”
have been arguing in speeches around the
world…
Value of Chile’s five funds in
relation to the pre-crisis level
Valor en comparacion a peak 11-07
21%
14%
7%
0%
-7%
Fondo A
Fondo B
Fondo C
Fondo D
Valor en comparacion a peak 11-07
Fondo E
Any serious analysis of the relative
merits and de-merits of the privatelymanaged capitalization system has to
compare it to the alternative:
government-run regimes…
… and when this comparison is
done, the result are illuminating…
Government-run, defined-benefit,
pension systems are in very serious
shape…
The main reason is that public
sector debts have exploded…
Debt to GDP Ratio
120
100
80
60
40
20
0
USA
Germany
Belgium
France
Canada
Greece
Debt to GDP Ratio
Italy
Portugal
UK
The main reason is that public
sector debts have exploded…
Debt to GDP Ratio
120
100
80
60
40
20
0
USA
Germany
Belgium
France
Canada
Greece
Debt to GDP Ratio
Italy
Portugal
UK
In contrast, Chile’s debt-toGDP ratio is only 9 percent!
… worse yet, prospects are not
good, going forward… projections
for the USA…
100.0
75.0
50.0
25.0
0.0
2008
2009
2010
2011
2012
2013
Net Debt as a Percentage of GDP
2014
2015
2016
2017
2018
Gross Debt as Percentage of GDP
2019
… and this is the “good news”… in
reality things are much worse…




Government-run systems are not “marked to market”
The recent strength of government bond prices hide
the tremendous risks involved (although the Greek
crisis is beginning to change things)….
The true debt of government run programs are
“hidden costs”; contingent liabilities that are not
captured by conventional accounting…
It has been calculated that the “hidden” social
security and Medicare debt in the US is 59 trillion
USD !
In California, the government-run
pension system is in serious
crisis…
It has recently been estimated that
the true shortfall of the three most
important government-run
pension schemes exceeds half a
trillion dollars…
This has affected the lives of
millions of people that have seen
their net salaries reduced, and
their contributions to the pension
system increase…
... it has even happened to modest
university professors…
Hasta la vista, baby!
Where is my pension?
The recent European crisis of the
PIIGS shows that unfunded pension
systems can exacerbate a serious
crisis…
Unfunded pension obligations…
Unfunded pension obligations as percentage of GDP in 2009
900
800
700
600
500
400
300
200
100
0
Portugal
Italy
Ireland
Greece
Spain
Unfunded pension obligations as percentage of GDP in 2009
From the news:

“Reforms in Greece’s pension system envisage
30% cut in the pensions and increase of the
retirement age with up to 15 years, Greek Ta
Nea daily reports”.

“Greece on Sunday announced more austerity
measures … through 2012, to be achieved
through … pension pay cuts…”
/ 20
8/3 05
/2
11 005
/3/
20
2/3 05
/ 20
5/3 06
/ 20
8/3 06
/2
11 006
/3/
20
2/3 06
/ 20
5/3 07
/ 20
8/3 07
/2
11 007
/3/
20
2/3 07
/ 20
5/3 08
/ 20
8/3 08
/2
11 008
/3/
20
2/3 08
/ 20
5/3 09
/ 20
8/3 09
/2
11 009
/3/
20
2/3 09
/ 20
5/3 10
/ 20
10
5/3
Bond yields: Greece, Portugal and
selected Latin American countries
12
11
10
9
8
7
6
5
4
3
2
Greece 5 year Mid Yield
Chile Yld to Mat
Portugal 5 year Mid Yield
Mexico Yld to Mat
Brazil Yld to Mat
Other important
contributions of the
privately-administered,
capitalization systems…
Contributions to long-term
economic growth…
Capital accumulation, requires savings
Productivity growth requires innovation
and dynamic capital markets…
A well-designed privately-managed
system – that is, one with a
“solidarity pillar” – also helps
reduce poverty and inequality…
Challenges and pending
reforms for capitalization
systems
A modest list of possible
improvements
Encourage voluntary savings for old age
 Design properly company-sponsored and
company-funded programs
 Increase coverage
 Implement mechanisms that deal with
people’s behavioral inertia
 Involve independent and informal workers in
the system

Eliminate gender discrimination
 Increase the offer of investment funds
 Add flexibility to portfolios (make
investment limits flexible)
 Regulate the exposure of savings to risk
during years prior to pension decision
 Implement a safety net that, without
discouraging contributions, provides a
minimum pension to poorer people (joint
with negative income tax)

Reduce management costs
 Improve risk management
 Design rules that reduce exposure to
sudden dips in market in period
immediately preceding retirement

Summary
The merits of a system is proved in difficult
times, in times of crises
 The privately-managed, capitalization based
pension regimes have shown to be robust
 To be sure, in many countries they could
improve with reforms aimed at greater efficiency
and better risk management
 However, when compared with government-run
regimes the result are, by and large stellar
 Contrary to what some gurus have said, we need
more capitalization regimes, not fewer
