Italy may be on the verge of overhauling its pension system, but there are signs the reform project lacks ambition 

The election of the president of the Italian Republic, the head of state, scheduled to take place in late January, was foreshadowed by weeks of political machinations. He, or less likely she, will lead the country towards a key general election in 2023. Italian policymakers took an extended break from government business to focus on finding a worthy successor to Christian leftist Sergio Mattarella. 

One crucial discussion was kept alive, however. Between January and February, the government, led by former European Central Bank (ECB) president Mario Draghi, was scheduled to hold several meetings with the three main trade unions – Confederazione Generale Italiana del Lavoro (CGIL), Confederazione Italiana Sindacati dei Lavoratori (CISL) and Unione Italiana del Lavoro (UIL) – to discuss a deep reform of the pension system. 

Pensions are always high on the agenda for Italian governments, the whole political class as well as the public. However, in recent years successive governments have merely tinkered with the existing framework. So far, they have been wary of making significant changes, due to the complexity of the equation that they need to solve. 

While the fiscal sustainability of the public pension system is to be maintained, policymakers must ensure that pensions are adequate in the future, particularly for young people and women. At the same time, there is a need to rejuvenate the working population. The former element calls for discipline and a limit to the flexibility with which workers access retirement. The second means helping companies lay off older staff, to cut costs and boost productivity, without weighing on the public purse. 

The unions, and a sizeable section of the political spectrum, want significant change to the framework, starting with the statutory retirement age, which is around 67 years and rising. 

The current rules were set by the ‘Fornero’ reform of 2011, approved as Italy was on the brink of default, at the height of the European sovereign debt crisis. The reform is named after labour and welfare minister Elsa Fornero, a member of Mario Monti’s technocratic cabinet. It was aimed at getting pension spending under control, in an attempt to convince the European Union that the country’s policymakers were serious about fiscal discipline. 

Life is not so sweet for all pensioners

Life is not so sweet for all pensioners

Since the reform, Italy’s pension system is deemed to be sustainable, but workers are paying a high price. The reform raised the retirement age and linked it to rising life expectancy. It also converted the public pay-as-you-go (PAYG) system from a defined benefit to a notional defined contribution (NDC) arrangement. 

The plan to do so had been written into law by an earlier reform, as far back as 1995, but the actual switch had been postponed. Fornero took it upon herself to make the transition. As a result of her government’s reform, workers who began their careers after 1996 will see their whole retirement benefit calculated according to an NDC method. For those who started work before then, benefits are calculated with a hybrid DB/DC method. 

The shift inevitably means lower pension benefits in the long run and a benefit gap between generations, as well as a rising retirement age. These effects weigh heavily on the collective memory of the reform as one of the most severe measures taken by Monti’s government. Many Italian citizens feel the reform’s far-reaching social implications were disregarded to comply with the EU’s overly strict budget rules. 

While to some extent that perception may be reflective of the harsh reality of living in an imperfect union, the sustainability of Italian pensions was always uncertain. A case in point is the large number of retirees whose benefits are significantly higher than their contributions. This partly reflects the once common practice by state-owned companies to retire workers at a young age, as early as 40, to cut costs or restructure businesses.

Time to negotiate

The stated purpose of the ongoing negotiations between trade unions and the government is to reform the system, as opposed to pushing piecemeal change. The parties agree that the reform will leave the NDC arrangement intact, but unions are determined to seek simpler and more durable solutions to provide early retirement options. 

Ideally, the unions want the minimum age for early retirement set at 62. Alternatively, they ask that workers are allowed to retire after 41 years of contributions to the system. The government has already signalled that it is not willing to accept those requests, due to the cost, and has set 64 as the starting point of a negotiation. 

In a recent document, Istituto Nazionale della Previdenza Sociale (INPS), the public pension fund proposed that, whatever the minimum, the DB share of the accrued pension benefit is cut by 3% for each year until the statutory retirement age. 

Claudio Pinna, head of retirement consulting at Aon in Italy, argues that the proposal is ill-advised. He says: “In a PAYG system with no reserves, it does not make actuarial sense to cut the accrued pension benefit in order to diminish the impact on the system, particularly if there is no guarantee that retired workers are replaced. Retirees pay tax on their pensions that goes into the system, so reducing their income will not achieve anything.”

The institution also proposes to streamline the various early retirement options, despite the evidence that each of the methods available have been used extensively by employees and employers alike.

Unions also raised the issue of how pension spending is calculated. Italy spends around 16% of GDP on pensions, but many contend that the figure unfairly bundles together pensions and other welfare benefits, relating to unemployment and disability, for instance. This gives the false impression that Italy’s pension expenditure is significantly higher than other countries, leaving little room for manoeuvre in financing pensions alone.

All roads lead to early retirement

In the sweeping 2011 pension reform approved by Mario Monti’s technocratic government, as Italy was heading for a default, the statutory retirement age was raised to 67 and further rises were planned to keep up with rising life expectancy. Since then, a large part of Italy’s electorate has demanded a return to normal, when retirement took place closer to 60 years of age. 

In reality, there are already several options for workers to access retirement well in advance of the statutory age. Until the end of last year, a number of workers could take the ‘Quota 100’ option, allowing retirement at 62 with 38 years of contributions to the system, in exchange for slightly lower benefits. This was a temporary three-year measure, and was replaced by a less generous ‘Quota 102’ in the latest budget law. 

Under Quota 102, workers can retire at 64 years of age and 38 years of contributions, but this is another temporary measure that will only be available this year. Without a reform or further tweaks to the framework, from next year the majority of workers will have to wait until 67. 

Interestingly, the number of workers who took the Quota 100 route into retirement was less than expected, as was the share of the government budget needed to finance the measure. Until the end of September, around 355,000 workers had applied for Quota 100, which equates to €19.5bn of payouts, or around half of the earlier estimates, according to Istituto Nazionale della Previdenza Sociale (INPS), the public pension fund. This is perhaps because most eligible workers have decided to wait until the statutory retirement age in order to maximise their benefit payments. Indeed, choosing Quota 100 implies lower benefits. 

Eligible workers can choose ‘APE Sociale’, an early retirement benefit for those who reach 63 years of age and meet certain requirements, such as disability, having been made redundant or having worked certain jobs. Meanwhile, women can choose ‘Opzione Donna’, allowing them to retire at 58 (59 for the self-employed) having contributed for 35 years.

The existence of several options for early retirement means that the actual average retirement age is significantly lower than 67, and closer to 64, according to INPS. The average, however, hides a complicated picture, whereby many employees who would be reasonably expected to retire, due to their personal circumstances, have to continue working, while others may leave prematurely. 

On their part, companies have more than one option at their disposal to retire older workers. In most cases, restructurings require ad-hoc agreements with trade unions, but lawmakers have foreseen a number of standard methods. 

The ‘contratto di espansione’ allows companies to retire workers five years before they reach retirement age and replace them with younger hires. Companies must then pay them the equivalent of the state unemployment benefit until they reach their retirement age. The state covers the difference with the employee’s pension benefit, so that workers effectively receive the equivalent of a full pension. The measure was scaled up by the government in response to COVID-19 and is a temporary one that will likely be retired in the near future.

The ‘isopensione’, which predates COVID-19, allows workers to retire up to seven years before the statutory retirement age, under certain circumstances, but places a greater burden on employers, compared with the contratto di espansione. Employers have to cover the full employment benefit for the period until the employee reaches retirement.

Both methods have been used by many employers in recent years, partly in response to the pressures of the COVID-19 crisis, according to Claudio Pinna, head of retirement consulting at Aon in Italy. ENEL, the electricity and gas manufacturer and distributor, in particular has used the ‘isopensione’ method several times over the past few years. ENI, the oil and gas giant, has used the contratto di espansione. 

Within the banking sector, employers have used ‘fondi di solidarietà’ (solidarity funds). These essentially consist of sector-wide funds, collectively financed by sector members, to finance the early retirement of employees that are laid off due to restructurings. There have been discussions, so far inconclusive, on the implementation of solidarity funds in other sectors. 

Another way to access early retirement that is different from all those mentioned above is the Rendita Integrativa Temporanea Anticipata (RITA). This is available to workers that are members of a second-pillar fund and are no more than five years away from retirement. RITA essentially allows workers to use all or part of their accrued pension capital to finance the early retirement.

 A parliamentary commission was convened at the beginning of last year to study the issue and recently stated that the separation between pensions and welfare is impossible. This is not only because INPS manages the whole public welfare system, but also because of the existence of many types of ‘hybrid’ benefits. Retirees earn additional benefits on top of pensions that are an integral part of their income but are calculated in a different way from pensions, and there is no ring-fencing of workers’ contributions towards the PAYG system.

The parties have agreed to address two key areas – the future-proofing of pensions for the current generation of workers, particularly women, and second-pillar pensions. For younger generations of workers, who may get benefits upon retirement of as low as €650 per month in many cases, CGIL has proposed a ‘guaranteed pension’. This is essentially a mechanism whereby young workers with intermittent careers are paid a minimum pension for the years that they have spent outside of work or have been unable to contribute. 

Second pillar to the rescue

Few details have emerged so far about the all-important area of second-pillar pensions. No suggestions of an automatic employment mechanism, to raise membership from the low current levels, have emerged so far. This is despite the positive impact that the temporary auto-enrolment season in 2007 had on the system. Membership increased significantly in the following years, but growth slowed down afterwards. To this day, around a third of the working population is covered by a second-pillar pension.

The way in which increasing the membership of second-pillar schemes can help address the issues at stake is exemplified by a measure approved in 2016, the Rendita Integrativa Temporanea Anticipata (RITA). This allows workers to use all or part of their accrued pension capital to finance the early retirement, up to five years before retirement and under other special circumstances.

Aon’s Pinna says that RITA is perhaps the most convenient way into early retirement, also due to its favourable tax treatment. Figures by Aon show that workers who contribute 10% of their gross annual salary to a pension fund, including employer contributions, can earn up to around 150% of their salary when they retire early, using RITA for the years until statutory retirement. The payout is of course linked to the amount of capital accrued, meaning that workers that have been members of a second-pillar fund the longest benefit the most. 

Claudio Pinna

However, the RITA is available to the relatively few workers who are members of second-pillar funds and have already accrued significant capital. As such, its impact on the pension system and on the labour market has been limited so far. 

Nevertheless, the number of workers choosing this option has been trending upwards. In 2020, 14,900 RITA benefits were paid out, up from 8,600 the previous year. In nearly 80% of cases, the entire accrued capital was paid out as RITA. This offers a glimpse into a world where most workers are members of a second-pillar fund and can navigate retirement in a more comfortable manner.

Before further details about the negotiations come to the fore, it will be difficult to say whether the proposed reform can have any impact on the system. However, Aon’s Pinna says that the initial signs are not convincing. “Once again, this reform project lacks vision, and therefore ambition. There is no indication that the government is taking a holistic approach to the matter. Any serious reform of the pension system should require an integrated approach involving all three pillars, one that sets clear objectives for each pillar,” he says.

“For instance, in order to address the issue of poor adequacy of future pensions, the best way is to ensure young workers are enrolled into second-pillar schemes. The proposals being made around ‘guaranteed pensions’ may end up being nothing but empty promises, given the constraints of public finance.”