Ageing in the Welfare State and the Perfect Social Storm

Ageing as a Central Challenge for the Social Contract

• Two Primary Challenges of Ageing:

  • Financial Sustainability: Determining how individuals will sustain themselves financially after their productive working years.

  • Dependency Care: Determining how individuals will be looked after when they become dependent on others for care.

• The Problem of Uncertainty:

  • Uncertainty regarding the length of life (longevity risk).

  • Uncertainty regarding health status at an old age.

• The Social Contract:

  • The social contract describes how tasks and responsibilities are divided between families, firms, and the government.

  • It encompasses both an intergenerational (between different age groups) and intragenerational (within the same generation) social contract.

Old-Age Dependency Ratio

• Definition: The old-age dependency ratio is the ratio of the number of people older than 64 relative to the number of people in the working-age population ($15-64$ years).

• Data Representation: Data is typically shown as the proportion of dependents per 100 working-age population.

• Historical Global Trends (1980–2020):

  • The world has seen a steady increase in the dependency ratio over the decades ($1980$, $1990$, $2000$, $2010$, and $2020$).

  • This trend highlights the growing pressure on the working-age population to support the elderly.

Objectives of Pension Systems

• Efficiency Objectives:

  • Objective 1: Consumption Smoothing: Individuals desire to maintain their standard of living after their productive years. Pensions facilitate an income transfer from productive years to retired years.

  • Objective 2: Insurance: Individuals do not know exactly how long they will live. While individual life spans are uncertain, average life expectancy is predictable. The basic idea is to pool savings and insure against the individual risk of outliving one's savings.

• Equity Objectives:

  • Objective 3: Redistribution: Pension systems redistribute resources. They generate intergenerational transfers (working to retired) and can be more generous for low earners who contributed less during their careers.

  • Objective 4: Poverty Relief: Pensions serve as a critical instrument to avoid poverty in old age.

Historical Background: Pensions in Belgium

• Pre-industrial Society: Solidarity was primarily intergenerational and occurred within families, particularly in agrarian contexts.

• Industrial Revolution: Urbanization undermined traditional family-based intergenerational solidarity.

• Foundations of Formal Systems:

  • 1865: Foundation of the "Algemene Spaar- en Lijfrente Kas" (ASLK).

  • Purposes of ASLK: To stimulate saving (spaar), provide annuities (lijfrente), and receive government support.

  • Legacy: ASLK eventually became part of BNP Paribas Fortis.

Pension Models: Funded versus Pay-As-You-Go (PAYG)

• Funded Pension System:

  • Mechanism: You pay today for your own pension tomorrow. Contributions are invested to pay for future benefits.

  • Options at Retirement:

    • Drawdown: Withdrawal of funds until the money is depleted (this can be a lump sum withdrawal/all at once).

    • Annuity: A fixed amount paid for the remainder of one's life, serving as insurance against outliving savings.

  • Example: Denmark.

• Pay-As-You-Go (PAYG) Pension System:

  • Mechanism: Workers today pay for the pensions of current retirees. It is essentially a tax on workers transferred to pensioners.

  • The Government Promise: It relies on a promise from the government to tax the next generation of workers to pay for the current workers' future pensions.

  • Example: United Kingdom, Belgium.

• Comparison and Sustainability:

  • Intuitively, funded systems seem more sustainable because they have reserves. In theory, the difference is smaller than it appears.

  • If life expectancy increases, annuities in funded systems decrease.

  • Low interest rates or high inflation negatively affect funded pensions.

  • Funded systems have more clearly defined "property rights" compared to the trust-based PAYG system.

• Transition Issues:

  • PAYG systems allow for immediate pension payouts upon introduction (Belgium introduced PAYG in $1953$ post-WWII).

  • Shifting from PAYG to a funded system is difficult because it requires one generation to pay for two (the current retirees via PAYG and themselves via funding).

Defined Contribution (DC) vs. Defined Benefit (DB)

• Defined Contribution (DC):

  • Has a fixed contribution rate (the fraction of earnings contributed).

  • Replacement rates (benefits) are adjusted based on performance and necessity.

  • Risk: Borne by the pensioners.

• Defined Benefit (DB):

  • Has a fixed replacement rate (the fraction of earnings received as a benefit).

  • Contribution rates are adjusted to meet necessary benefit levels.

  • Risk: Borne by the workers.

The Belgian Three-Pillar Pension System

• First Pillar (Statutory Pension):

  • Provided by the government (social insurance).

  • Compulsory.

  • Based on PAYG and Defined Benefit models.

  • Includes three sub-systems that are slowly converging: Civil servants, Employees, and Self-employed persons.

• Second Pillar (Occupational Pension):

  • Provided by the employer.

  • Voluntary.

  • Based on Funded and Defined Contribution models.

• Third Pillar (Private Savings):

  • Individual savings by the employee.

  • Voluntary, often incentivized with tax deductions.

Details of the Belgian First Pillar for Employees

• Statutory Pension Age Changes:

  • Before January 1, 2025: $65$

  • January 1, 2025 – January 1, 2030: $66$

  • After 2030: $67$

  • Note: Reduced pensions can be accessed from age $60$ onwards for some.

• Benefit Formula:

  • Single: $\frac{\text{Total earnings over career}}{45} \times 60\%$

  • Family: $\frac{\text{Total earnings over career}}{45} \times 75\%$

• Solidarity Features:

  • Non-contributory periods: Pension rights are granted for involuntary unemployment and care tasks.

  • Guaranteed Minimum: Approximately $1500\text{ euro}$ if an individual works for $45\text{ years}$.

  • Ceiling: There is a maximum limit on total earnings used in the formula, effectively capping the maximum pension.

• Survivor’s Pension:

  • A benefit for a spouse after the partner's death.

  • Crucial for the living standard of retired women due to the historical male breadwinner model, longer female life expectancy, and lower labor market participation for women.

  • Only available for married couples.

Minimum Income Protection for the Elderly

• Definition: Income support for persons older than $65$ without sufficient financial resources.

  • Dutch: IGO

  • French: GRAPA

• Nature: Part of social assistance; therefore, it is means-tested.

• Benefit Levels (as of 1/1/2023):

  • Person in a couple: $973.39\text{ •}$

  • Single: $1460.08\text{ •}$

Pension Policy Reform Mechanisms

• Types of Shocks:

  1. Demographic Shocks: Ageing or increasing dependency ratios (more pensioners relative to workers).

  2. Economic Shocks: Growth changes affecting the relative increase in wages compared to pensions.

• Types of Reform:

  • Parametric: Changing parameters in the existing system (e.g., age, rates) while keeping the structure.

  • Structural: Changing the fundamental structure of the system.

• The PAYG Equilibrium Formula:     In a PAYG system, pensions paid must equal contributions received:     $P \times N_p = CR \times W \times N_w$     Where:

  • $P$: Average pension

  • $W$: Average wage

  • $N_p$: Number of pensioners

  • $N_w$: Number of workers

  • $CR$: Contribution rate

• The Replacement Rate Formula:     $\frac{P}{W} = \frac{CR}{EDR}$     Where:

  • $EDR = \frac{N_p}{N_w}$: The effective old-age dependency rate.

• Adjusting to Demographic Shocks (Rising EDR):

  • In a Defined Contribution (DC) system: If $CR$ is fixed, then $\frac{P}{W}$ (the relative pension level) must decrease.

  • In a Defined Benefit (DB) system: If $\frac{P}{W}$ is fixed, then $CR$ (the contribution rate) must increase.

• Specific Policy Options to Balance the Formula:

  • Lower monthly pensions: Reduces the living standards of pensioners.

  • Higher contributions: Reduces the living standards of workers.

  • Later retirement: Increases the number of workers and decreases the number of pensioners.

  • Increase productivity: Raises wages and the tax base.

The "Perfect Social Storm" (Polycrisis)

• Definition: A meteorological event exacerbated by a rare combination of circumstances; applied here to the series of interconnected crises after $2007$.

• Components of the Polycrisis:

  1. Economic Crisis: Financial crisis of $2007-2008$ (caused by predatory lending, risk-taking, and the housing bubble). Followed by the European debt crisis ($2009-2014$) and austerity measures.

  2. Demographic Crisis: Ageing in the Global North and migration/refugee crises.

  3. Ecological Crisis: Global temperature anomalies and rising $CO_2$ emissions leading to intergenerational conflict (e.g., school strikes for climate).

  4. Political Crisis: Expansion of political extremes, shrinking of the center, and polarization/populism.

  5. Epidemiological Crisis: The COVID-19 pandemic.

Migration and the Welfare State

• Migration Terms:

  • Brain Gain: Net gains for the receiving country.

  • Brain Drain: Net costs for the sending country.

  • Remittances: Money sent back to the home country.

  • Return Migration: Returning to the home country.

  • Yield of Education: Increased education pursuit in sending countries resulting from the prospect of migration.

• Migration in Belgium:

  • Post-war: Labour migration from Italy, Greece, Spain, Morocco, and Turkey (guest workers in coal mines).

  • 1974: Migration halt.

  • 1980s: Emergence of the concept of integration.

  • 1991: "Black Sunday" (victory of Vlaams Blok).

  • Secondment: Foreign employers employing workers in Belgium; risk of social dumping as workers are subject to home country (lower) social contributions.

  • Family Reunification: Right of residence based on family ties; accounts for $30-40\%$ of new immigrants.

Political Crisis and Polarization

• Democracy Variants:

  • Direct Democracy: Referendums.

  • Representative Democracy: Parliamentary (election) or Lottocracy (random selection).

• Echo Chambers: Environments where individuals only encounter opinions that reinforce their own, leading to polarization.

• Populism: Movements claiming to represent "the people" against "the elite."

• Post-democracy: Governance that looks democratic but decisions are made by an elite (linked to the "$1\%$ inequality").

Evolution of the Welfare State Generations

• Generation 1.0 (1945–1973): Growing Welfare State; the welfare state as a solution to problems.

• Generation 2.0 (1973–1989): Welfare State Retrenchment; the welfare state as a source of problems.

• Generation 3.0 (1989–2007): Social Investment State; the welfare state as a productive factor.

• Generation 4.0 (2007–Present): Polycrisis; the welfare state as a stabilizer and crisis manager.

Questions & Discussion (PollEverywhere)

• Prompt 1: "I think that the pensions of my generation will be less generous than the pensions of the previous generation."

  • Options: Yes, No, Neither Yes nor No.

• Prompt 2: "Please compare the life of today's young generation with their parents. Life will be better or worse?"

  • Data context: Pessimism is common in advanced economies (e.g., France at $71\%$ worse, Belgium at $60\%$ worse, whereas China is at $78\%$ better).

Supplemental Concepts and Movements

• Gilets Jaunes: Highlighted the interdependency between climate policy and inequality (intergenerational vs. intragenerational equity).

• Socio-ecological Welfare State: A potential move towards an integrated system; includes the EU's "Just Transition Fund."

• School Strikes (2018–2019): Over $6\text{ million}$ participants inspired by Greta Thunberg, representing intergenerational conflict in social contract negotiations.