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IPE special report May 2018

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Study finds “very weak” case for funded pensions

EUROPE - A new academic study has found a "very weak" theoretical case for funded pension schemes over traditional pay-as-you-go systems.

And the authors reject the idea that PAYG will not be viable in the near future - and recommend reforming standard PAYG.

"Longer life expectancy and lower fertility rates will lead to an ageing population in most Western countries," say Eladio Febrero and María-Ángeles Cadarso of the Universidad de Castilla-La Mancha.

"This is thought to make earnings-based defined-benefit pay-as-you-go pension schemes unviable in the near future."

Febrero and Cadarso note that some economists suggest shifting towards a capitalized funded system, a proposal grounded in three advantages. These are: (i) it raises national saving, thus leading to a faster rate of accumulation and a larger per capita income; (ii) it offers a higher rate of return on savings; (iii) it is immune to demographic shifts.

"In this paper we explore the fundamentals of these advantages, and conclude that the theoretical basis supporting them is very weak," Eladio Febrero A1 and María-Ángeles Cadarso say.

The comments come in ‘Pay-As-You-Go versus funded systems. Some critical considerations'. They go against some of the received opinion in the pensions industry - just last month, UK Pension Commission chairman likened PAYG to "pyramid selling" schemes.

"We base our theoretical standpoint on the Sraffian-based capital critique and the theory of endogenous money," the researchers say.

"Additionally, we defend a parametric reform of a standard PAYG using figures that correspond to the Spanish economy for the period 2001-70."

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