The pensioners will bear the costs of population ageing

According to the report of the European Commission's Ageing Working Group, the ratio of pension expenditures in relation to GDP in Poland will not change significantly between 2016 and 2050. However, the pension replacement rates will dramatically decrease.

Economists have long been discussing the challenges associated with the aging of the society. Our lifespans are increasing and the fertility rate is still below the replacement level. Due to the lowered retirement age, the pension-drawing period was extended and the duration of workers’ professional activity was shortened. At the same time, however, there was an increase in the number of retirees who receive retirement pensions and continue to work. The proportions between the number of persons receiving retirement pensions and the number of workers paying the pension contributions are changing to the detriment of the latter group. And the situation will get even worse in the future.

According to the Eurostat’s projections, the population of Poland will decrease by about 7 million persons until 2070. This is mainly due to the fact that the fertility rate has remained at a very low level since 1990. The Eurostat forecasts that the fertility rate in Poland will rise, but will remain below the replacement level. At the same time, the average life expectancy is increasing. According to the Eurostat’s forecasts, in the years 2016-2070 the life expectancy for people aged 65 will increase by about 7 years for men and by about 6 years for women. This will have serious consequences for the pension system.

The European Commission’s Ageing Working Group (AWG), which deals with the impact of population aging on the public finances of the member states, in its indicates that while in 2016 there were 9.23 million pensioners in Poland, in 2020 there will be 9.95 million pensioners in the country, in 2030 their number will reach 10.79 million, in 2060 there will already be 12.61 million pensioners, and in 2070 their number will once again fall to 11.69 million. At the same time, there will be a steady decrease in the number of employed workers paying the pension contributions. The number of workers will fall from 17.16 million in 2016, to 15.98 million in 2030, 11.87 million in 2060, and 11.15 million in 2070. As a result, in 2016, there will be 53.8 pensioners per 100 employees, and in 2060 there will be 106.3 pensioners per 100 employees, which is twice as many as in 2016.

Deteriorating forecasts

The AWG reports are published every three years, and Poland was included in the report for the first time in 2006. The reports present long-term forecasts, reaching as far as 2070. One advantage of the reports is the consistency in the adopted assumptions and research methods, which allows for meaningful comparisons between the individual European Union member states. On the other hand, the document refers to a period of more than 50 years, and in the case of such long-term projections even a slight change in the assumptions could have a significant impact on the final result.

Antoni Kolek, PhD, the president of the Pension Institute, notes that the forecasts contained in the latest report are less favorable for Poland compared to the AWG forecast from 2015. The key factor here is the lower retirement age. It affects the pension replacement rates, due to the shorter professional careers, and consequently lower accumulated pension liabilities, as well as the longer average length of retirement.

The report indicates that the pension replacement rate will drop from 55 per cent in 2016 to around 26 per cent in 2060 and 25 per cent in 2070. This is natural in a defined contribution scheme, where it is established that future pensions will be divided proportionally, depending on how much a given person paid into the system, but no specific pension amount is guaranteed. With a lowered retirement age and longer life expectancy, the pension replacement rate simply has to fall. This decline will be visible already in 2030, when the replacement rate will amount to 41 per cent. Then a sharp increase in the number of pensioners will be observed, as the generation of “baby boomers”, i.e. people who were born during the post-war baby boom, is gradually retiring.

However, the real value of the received pensions is no less important than the replacement rate. If the economy continues to grow and wages continue to rise, then the pensions will also be higher, even if the pension replacement rate is low.

“The most interesting finding is the return to a path on which the ratio of pension expenditures to the national GDP will not decline in the subsequent years, while at the same time the already very low pension replacement rate will significantly decrease in the future,” says Paweł Strzelecki, an economic expert at Poland’s central bank, NBP.

The ratio of pension expenditures to GDP will remain stable at around 11 per cent (it was 11.2 per cent in 2016, and will reach 11.1 per cent in 2020, 10.8 per cent in 2040, and 11.1 per cent in 2060). The pensions expenditures will not increase in relation to GDP, because the percentage of people who will be retiring immediately after reaching the age entitling them to do so is supposed to decrease. Most people will enjoy increasingly good health, which will allow them to work longer, and the rising salaries will encourage them to remain on the labor market.

There will also be a decrease in the ratio of the average pension to the average salary, i.e. the so-called pension benefit ratio, which is of crucial importance for the relationship between pension expenditures and the GDP.

“From the future pensioners point of view this ratio should probably be called the “disadvantage ratio” instead of the “benefit ratio”, because it shows how much the ratio of their future retirement to the (future) average salary will decrease relative to the ratio of the current pension to the current average salary,” says Marcin Mrowiec, PhD, the chief economist at the Bank Pekao S.A.

Growing pressure to introduce changes

According to the AWG report, the pension benefit ratio (or the “disadvantage ratio”) will drop from 48.5 per cent in 2016 to 27.3 per cent in 2050. This means that the consequences of the ageing of the population will be borne by the future pensioners, and not by the state budget. That is, at least until the pensioners are able to exert pressure on the government to introduce changes in the pension system.

“From the point of view of the state budget, this situation is much more comfortable — as it clearly precludes the possibility of bankruptcy of the pension system. However, this situation is much less favorable from the point of view of citizens who will be retiring in 20 or 30 years, as they will have to bear the consequences of the system’s shortcomings — they will have to come to terms with low retirement pensions,” explains Mr. Mrowiec.

The only problem is that those citizens may attempt to pass the problem onto the state and exert political pressure in order to achieve their goal. Meanwhile, due to the demographic changes, the potential pressure groups in the form of dissatisfied pensioners could prove to be quite numerous.

According to Mr. Strzelecki, the simplest and most sensible way of solving the problem of the very low pension replacement rates and the low retirement age, compared to other European countries, would be to return to the previous political agenda, where the retirement age is gradually raised.

“It seems to me that we cannot afford to transfer the decision concerning the retirement age to inscribed as an inviolable right in the constitution. This is a decision that should be made by specialists who will ensure the stability of the system,” says Paweł Strzelecki. “I have nothing against democracy, but I believe that the majority of the people may not be aware of the consequences of such decisions, such as the low retirement pensions or the necessity of raising taxes. Few people are aware of the fact that with the current retirement age women will spend 20-25 years in retirement on average, that is, 30-40 percent of their adult life,” he adds.

Poland can postpone dealing with this problem, but at some point it will be necessary to resolve it. And it may turn out that there are only two options available: fundamentally reforming the pension system, which would be very expensive, or raising the retirement age in some form. Additional saving programs, such as the employee capital plans, may also be a step towards ensuring that future pensions are higher.

“Our efforts cannot be directed towards “inflating the stock exchange” with an inflow of large sums of money from future retirees. Because in such a case, when these people start retiring and the funds start selling off their shares, their prices will deflate at the worst time possible for the pensioners,” says Mr. Mrowiec. “In summary, whichever way Poland approaches the problem, at the end it will invariably arrive at the conclusion that the country needs to build the competitiveness and innovativeness of the economy in order to ensure that the strong companies and the well-paid citizens have enough resources to support — at a fairly good level — the increasing numbers of pensioners,” he concludes.

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