GERMANY – Costs facing German public sector pension funds and employers that cling to a pay-as-you-go (PAYG) system for financing pension liabilities are set to explode, according to a new study released by German independent financial adviser MLP.

To support its assertion, the study cited the example of VBL, a €10bn pension fund for 1.9m public sector employees. It said that VB, along with municipal and ecumenical pension funds, suffered from chronic “old pension liabilities.”

It said that while a VBL employee was entitled to a corporate pension equalling 4% of his or her salary, the fund actually was forced to set aside 10% of the salary.

“The additional six percent is for the sole purpose of financing liabilities from the current pensioner generation,” noted the study, compiled by research firm Berliner Wegweiser.

However, VBL queried the numbers used in the study, saying that while the 10% figure was accurate, the 4% figure was not.

“I can’t cite the exact figure, but it’s greater than 4%,” said VBL spokesman Percy Bischoff. “This means that our ability to finance old pension liabilities is much stronger than the study suggests.”

Turning to public employers, the study indicated that their financial situation was even worse owing to their pensions obligations to civil servants.

“By 2040, pension costs facing German states will rise to the point where every fifth euro taken in as tax revenue will go to pay civil servant pensions,” the study said. It added that as a result, insolvency loomed for those states that are already heavily in debt.

Amid these alarming trends, MLP stressed that public sector pension funds and employers should switch to a capital-based system for their pension liabilities from PAYG.

“There has to be a change of attitude in the next few years,” said Harald Huhn, head of occupational pensions business at MLP. “The fact is that there are huge benefits in most of the cases where capital-based funding is used.”

VBL had been embracing capital-based funding for pension liabilities since 1 January 2002 but the process was partially thrown off track by a court decision in late September.

Under the court ruling, the pension fund must change the method used for calculating pension benefits to “avoid a wide disparity in pension benefits”.

However, the court did not oppose VBL’s right to switch to a capital-funded system.

Nonetheless, VBL has appealed the decision and is confident of winning.

Apart from VBL, the Wegweiser study said that only 6% of public sector pension funds and employers it queried had any plans to abandon PAYG for a capital-funded system.