Pension Reforms in Germany
The discussion of pension reforms is especially relevant in anticipation of an increase in dependency ratios over the next 15 years, with nearly 60% of the population becoming dependent on the working-age population. The Forum opened with Alexander Ludwig introducing the distinguished speakers for the event: Jörg Asmussen, CEO of the German Insurance Association; Monika Queisser, Head of the Social Policy Division at the OECD; and Michel Vellekoop, Professor at the University of Amsterdam. The participants shared insights on critical issues such as reforms to the pay-as-you-go system, contribution rates, indexing retirment age to life expectancy, the Dutch pension system, and intergenerational pension funding in Germany.
Alexander Ludwig began the discussion by addressing proposed measures for the reform of the public pay-as-you-go component of the German pension system. The Council of Economic Advisers recommended indexing the retirement age to life expectancy, tightening the adjustment formula to demographic developments, and improving the distributional components of the system.
Monika Queisser highlighted that the OECD does not see a massive need or urgency for structural reforms in the German pension system. According to OECD's "Pensions at a Glance" publication, German pension expenditure it not particularly high compared to other countries such as Greece and Italy, which allocate a more significant portion of their GDP to pensions. Additionally, she suggests that Germany's approach to dampening increases in the contribution rate through the sustainability factor has contributed to challenges in funding the pension system adequately. Exploring alternative revenue streams, such as levying contributions on rents and income from financial investments, akin to approaches adopted by countries like France, could potentially alleviate the financial pressure on the pension system. The discussion further explored the idea of indexing the retirement age to life expectancy, a measure already adopted by some OECD countries like the Netherlands, Denmark, Estonia, Italy, and Sweden. Nevertheless, Monika Queisser argued that Germany might not necessarily need a structural reform of the pension system. Instead of considering raising the retirement age to 70 or more, Germany should prioritise targeted reforms aimed at increasing the labour force, such as improving childcare infrastructure and promoting a fairer distribution of unpaid care work. The particular emphasis should thus be on increasing labour force participation and hours worked, especially among women. In response to this, Alexander Ludwig asked if increased working hours for women could lead to a substitution effect, causing men to work fewer hours. Monika Queisser shared findings on a study she conducted for the federal Ministry of Family Affairs, indicating that when German men become fathers, they tend to significantly increase their working hours, while women reduce theirs, resulting in a substantial gap in unpaid work. She emphasises that women’s working hours need to be increased and that this would allow men increasing their working hour by less after childbirth.
Following Monika Queisser’s insights, the floor was given to Michel Vellekoop to provide the Dutch perspective on pension systems, particularly focusing on the transitioning Dutch pension system. Michel Vellekoop began by explaining the ongoing pension reform in the Netherlands, noting the system's three pillars: state pension, occupational pensions, and private pension schemes. The occupational pensions (second pillar) recently shifted from a collective defined benefit (DB), where individuals contributed, and upon reaching retirement age, received a pension based on their accumulated savings, to a more flexible collective defined contribution (DC) system. In this new system, individuals contribute to individual accounts, providing flexibility in investment choices. The shift aimed to address the perceived unfairness in the previous system, where individuals of different ages accrued the same pension entitlement despite variations in the time their contributions had to accumulate interest.
In response to Alexander Ludwig’s question about generational equity concerns, Michel Vellekoop explained that despite the move to a more individualised system, there are still elements of risk-sharing and intergenerational solidarity. There are solidarity buffers within the new system, allowing for the sharing of risks and resources between different generations (15% cap on the use of buffers for intergenerational solidarity). Michel Vellekoop concluded by acknowledging that the ongoing pension reform in the Netherlands faces uncertainties, particularly due to the outcomes of recent elections and potential challenges in implementing the intended changes.
After that, Alexander Ludwig raised an intriguing question about indexing the retirement age, suggesting a connection to lifetime working expenses, as proposed by e.g. Ursula Engelen-Kefer, a former German union representative. Monika Queisser referred to the French experience and warned about the complexity of a dual-condition system based on both years of contributions and retirement age. She acknowledged the theoretical appeal of abolishing a fixed retirement age but expressed concerns about potential challenges in practical implementation, and it’s potential to individualise the pension system, raising concerns about solidarity within the system. Michel Vellekoop echoed these concerns, highlighting the difficulty of implementing and modifying such a system once established. He mentioned that discussions in the Netherlands considered distinctions based on the toughness of certain occupations, like manual labor, but deemed it too intricate for accurate assessment and effective implementation.
The discussion them shifted to Jörg Asmussen for insights into the private components and other pillars in the German pension system. Specifically, Alexander Ludwig addressed the proposal for generational pension funding in Germany. The proposal aims to build up a stock of 200 billion euros in assets by 2035, generating a potential excess return of two to three percent. In the event of a higher return, this could lead to a mild subsidy of 0.4 percentage points in the pension system.
Jörg Asmussen acknowledged the importance of increasing the funding of future pension entitlements. However, he pointed out that the proposed intergenerational capital plan is a toned-down version of the original plan, lacking individual accounts and serving as a modest subsidy to the pay-as-you-go pension system. Due to constitutional court rulings and budget crises, the implementation has been postponed, and its revival remains uncertain. He emphasised the need for additional pensions from the second and third pillars to complement the pay-as-you-go system. While supporting the idea of guarantees in private pension schemes, Jörg Asmussen highlighted the urgent need for reforms in the third pillar, particularly focusing on lifelong pensions to cover expenses throughout retirement.
On the need for private pensions, Alexander Ludwig questioned whether everything could be organized within occupational pension schemes. Jörg Asmussen argued that both the second and third pillars are essential, as they cover different groups of the population. Occupational pensions traditionally cover males above 50 in large manufacturing companies, while the third pillar extends coverage to women, lower-income individuals, and families with children. Jörg Asmussen proposed specific strategies to increase coverage in both pillars, emphasizing the need for annuity payments in the payout phase to prevent underestimation of life expectancy. He suggested products with guarantees, ideally around 80%, to strike a balance between security and return. Additionally, simplifying the subsidy payment system and focusing on voluntary, flexible, and lifelong pension products were highlighted as key features for future reforms.
After opening the discussion to audience questions, concerns were raised about the value-for-money aspect in the third pillar, particularly regarding life insurance products. Jörg Asmussen acknowledged the complexity of addressing these concerns, emphasizing the challenge of balancing inflation protection and compliance to the Product Oversight and Governance Regulation (POG) rules. Moreover, Jörg Asmussen discussed the challenges associated with recently introduced value-for-money concepts, including those in the retail investment strategy. He highlighted the gradual acceptance of funded systems like the social partner model in Germany's second pillar, despite initial difficulties. The social partner model has gained acceptance, showcasing the variety of tools available in occupational pensions.
The discussion also touched upon alternative risk management tools, with Michel Vellekoop sharing insights from the Dutch experience. In the proposed new system in the Netherlands, there is a greater focus on life cycle planning, allowing for more flexibility in risk based adjustments on factors such as age. The shift towards real terms considerations and a focus on optimizing the asset mix throughout the life cycle were highlighted. The Dutch experience suggested a move away from nominal guarantees, with a recognition that guarantees should be evaluated in real terms, considering the impact of inflation on purchasing power.