What can Europe do?
This year Italy will spend almost 15% of GDP on public pensions, higher than any other EU country, according to Eurostat, the European Commission’s statistics authority. But according to Tito Boeri, chairman of Istituto Nazionale della Previdenza Sociale (INPS), the Italian public pension fund, that expenditure is financially sustainable.
INPS is the country’s main first-pillar pension scheme, covering 80% of Italian active and retired workers. Historically an unfunded defined-benefit scheme, it moved to a notional defined contribution model in late 2011, affecting new accruals only.
Boeri, an economics professor, was appointed chairman of INPS at the end of last year, after several years in various academic positions, a period as senior economist at the Organisation for Economic Cooperation and Development and consulting work with the European Commission, the IMF, the International Labour Organization, the World Bank and the Italian Government.
Boeri’s key objective at INPS is increasing its transparency. He oversaw the implementation of ‘La mia pensione’ (‘My pension’), the online tool that allows Italian workers to estimate the value of their public pension benefits at any point in their career. Given the complexity of the Italian system, with several different regimes, this was a challenging process until INPS implemented the helpful streamlining tool, which has been used by more than one million workers and has provided a wake-up call on their retirement incomes.
In Boeri’s view, transparency on future pension benefits is no longer simply a national matter, but rather a European one. It is something that should concern other European countries, a point he made earlier this summer in a commentary accompanying INPS’s annual report.
Boeri called on other European countries to be more transparent when disclosing the patterns of public expenditure around the first pillar. He challenged the governments that are signatory to the Stability and Growth Pact – in effect the euro-zone members – to “provide evidence”, like INPS does, that their pension system is sustainable, as it is for Italy, asking that countries show “not just pension expenditure projections for the next 20, 30 or 50 years, but also the entire distribution of benefits over those dates”. In his report, Boeri emphasised that reducing the “social sustainability of a pension system does not count for less than financial sustainability”.
His call came during the peak of a renewed Greek debt crisis, a time when the principle that fiscal rules should be applied equally was being tested by European member states. But the matter has been in the spotlight since 2007, when France, Germany, Italy and Portugal opposed a proposed revision of the European System of National and Regional Accounts. The revisions, which oblige countries to fully report public sector liabilities and end off-balance sheet accounting for governments, were finally adopted by the European Parliament in 2013. At the time, a study by EDHEC-Risk Institute showed countries that complied with the EU’s 3% annual deficit cap were far less “virtuous” if their public pension commitments were taken into full account, compared with high-deficit countries such as Italy or Portugal.
Boeri’s argument supporting his call for more transparency is simple. European fiscal rules are drafted to avoid a situation whereby poor macroeconomic management by certain countries weighs on other countries. In his report he said: “If we want automatic rules, these rules will inevitably appear stupid to those who have to respect them. But we must not exceed in the degree of stupidity. Why prevent flexibility in the ways pension benefits are paid, if such flexibility does not influence public debt, and as such does not burden future generations.” The counter-argument, he admits, is that it is difficult to ensure that flexibility is neutral to public accounts.
But Boeri maintains that cutting pension expenditure is not enough. He sees his call for transparency as fundamental, telling IPE: “Naturally, Italy is still focusing on the public pension system, whereas in other countries private pensions are more important. However, differently from other countries, the public pension rules are sustainable. From a public finance perspective, Italy can assure Europe that the public pension system is sustainable. I would really encourage other countries to do the same.”
Boeri says that, as part of the institute’s commitment to transparency, INPS could calculate the entire distribution of pension benefits for the future. The results of its analysis is an estimate that the number of people falling into a situation of extreme poverty will be 0.4% of the population over the long term, a number that he believes can be managed through other means of social protection. “I think this operation is useful from the point of view of evaluating and co-ordinating fiscal policy across Europe. I do not know how many countries have done this exercise,” he says. Nevertheless, Boeri admits that Italy should gradually move towards a mixed system where private pensions provide risk diversification.
Unsurprisingly, at least in Italy, his appeal has been overshadowed by his proposal for further reforms of INPS. Italy secured the financial future of its public pensions thanks to the 2011 reform of the system, which was approved by Mario Monti’s technocratic government, just in time to avoid default. Although Boeri is not alone in his view that Italy’s public pensions are financially sound, he says more can be done to make the system more socially sustainable.
The 2011 reform, spearheaded by then labour minister Elsa Fornero, moved to a notional defined contribution (NDC) system, linking benefits to contributions for the first time, but in the new regime benefits are falling and many inequalities remain.
That is why Boeri presented five main measures for reforming the way INPS provides pensions, responding to a need for protection and equality in the system. His move was criticised by some, who argued that reform proposals should be in the remit of cabinet ministers.
The first measure in Boeri’s vision is to establish a minimum guaranteed income for people above 55 years of age, which becomes essential for people who lose their job in that period of their life. The aim, for Boeri, is to separate last-resort social assistance, which should be covered primarily by taxes, from retirement and pre-retirement benefits, which should be financed by transfers between generations. Boeri argues that the impact of unemployment on poverty in Italy is much greater than in other countries, including poorer ones. He explains that this measure fixes a fundamental fault in the system, which currently does not support those who have not been able to save enough to provide a pension income above the poverty line.
The second measure concerns simplification: Boeri wants to unify the many different regimes, which means that for every three pensioners the institute pays four pensions, and that pensioners who are part of different regimes bear substantial streamlining costs. Third, Boeri wants to reduce inequality of treatment, which is increasingly obvious to everyone as INPS provides more transparency on benefits.
The fourth and fifth measures, arguably the more radical ones, concern flexibility. Boeri aims to allow workers to retire early, which is a principle that was gradually restricted by the recent reforms in order to contain costs. He says the NDC system is well suited for early retirement, if it can be assured that benefits for early retirees are commensurate with their longer lives post-retirement and that they do not fall below minimum levels as a consequence.
At the same time, the chairman proposes allowing pensioners and their employers to continue contributing to the public system and obtain higher benefits later on in their post-employment life.
These plans have been greeted by scepticism, especially when they involve curtailing higher pensions. Boeri also proposes that higher-earning pensioners pay a ‘solidarity contribution’ to finance in part the increased flexibility of retirement.
The chairman has also called for more transparency on pension benefits earned by Italian members of parliament, although their pensions do not fall under INPS’ balance sheet and are protected by a shroud of secrecy. These proposals have been branded as ‘demagogic’.
The matter is topical, as earlier this year the Italian constitutional court overturned a measure that froze the indexation of pension benefits over a certain threshold, on the basis that they represent ‘accrued rights’. The measure was approved as part of the 2011 reform to enhance cost cutting. The result of the ruling is that INPS will have to finance the indexation of those benefits, and that ‘accrued rights’ will be a basis to reject any proposition that current pensioners – including wealthy ones – should help rebalance the unequal system in the future. Boeri is clear about this issue, saying that the expression ‘accrued rights’ tends to be abused. “I am in favour of a situation where pensions that have been earned in a defined contribution context are never touched by adjustment measures. That does not mean that any benefit that so far has been earned outside a defined contribution context should be taken away, as we have to remember that people above retirement age have more difficulty adapting their lifestyle and income patterns.”
As for MPs’ pensions, Boeri stands his ground, stressing the symbolic importance of providing more clarity on how they are calculated. “We are talking of around 7,000 pensions, so not a huge number. But in terms of their symbolic value, those benefits are a huge weight. It is outrageous that the Parliament has not explained how they are calculated.”