Pension benefits in Chile: Is it possible to improve adequacy

and solidarity?

Fabio Bertranou

ILO

ILO / IZA Conference “Assessing the effects of labor market reforms – a global perspective”

Geneva – 10-11 March 2016

Chile´s pension reforms: summarized time-table

1979 Pinochet´s military government unifies about 35 pension funds with approximately 150 different

schemes in terms of financing rules and entitlement conditions. These schemes operated under as

pay-as-you-go defined benefit rules.

1980-1981 The military government enacted the Decree Law 3.500 (1980) privatizing the pension system by

creating a fully funded individual account defined contribution scheme.

1990 Chile returns to a democracy

2006 First President Bachelet advisory committee for pension reform, known as “Marcel Commission”

2008 Comprehensive reform is passed. Law 20.255 is enacted in 2008 by ample consensus

2014-2015 Second President Bachelet advisory committee for pension reform, known as “Bravo Commission”

(**)

Report was delivered in 2015

Main problems at the beginning of 2000s

1. Fragmentation and insufficient guarantees for basic economic security.

2. Lack of solidarity, high inequalities and inequities.

3. High costs of administering the private system

The 2008 pension reform

1. A social protection floor was established.

2. The non-contributory and the contributory components were combined in an integrated system.

3. A significant increase in benefits coverage was reached, particularly by the non-contributory component

1. Adequacy: the system continues paying low benefits50% of retirees, between years 2007 and 2014, receive monthly benefits that were equal or less than $ 82.650 (approximately US$ 150, or about 40% of the minimum wage, in 2014). These benefits already include the tax-financed additional solidarity benefit.

50% of retirees received benefits that, at most, were equal to 34% of their average last ten years wages.

2. Coverage gaps have not been eliminated Of the total population employed, 69.3% make wage contributions, however, contribution densities are below 50% for the population affiliated to the pension system. Self-employed workers continue being excluded from the mandate to contribute. Their mandatory inclusion was postpone until 2018.

3. Insufficient (contributory) financingThe wage contribution rate for social security-pensions (10% of taxable income) is relatively low compared to countries with similar or higher development.

4. Significant benefit inequities remainFor those receiving old age benefits, the risk borne by the insured depends on the modality of benefit chosen. Those that opt for the phased withdrawals have pensions benefits decreasing over time, which goes against the objective of consumption smoothing and exposes affiliates to two major risks, fund investment and longevity.

The pension system includes rules that affect men and women differently. One of these is the mortality tables differentiated by sex used to calculate annuities which are separately built based on the life expectancy of men and women, i.e. annuities for women are substantially lower than for men.

Persisting problems post-2008 reform

Total Men Women

Actual replacement rates (2007-2014)

- Self-financed pension (*) 34 48 24

- Self-financed pension + public benefit (APS) 45 60 31

Projected replacement rates (2025-2035)

- Self-financed pension (*) 15 24 8

- Self-financed pension + public benefit (APS) 37 41 34

Median replacement rates

Ten last wages; 2007–2014 and projected 2025–2035; in percentages

(*) Obtained from the individual pension savings account.

Source: Mesa-Lago and Bertranou (2016) based on data from CAPSP (2015).

The 2015 Pension Reform Advisory Commission Report:

Two distinct proposals (Proposals “A” and “B”)

Status quo

Proposal “A”

Mixed system

Proposal “B”

First tier Non-contributive component Non-contributive component

Second tier

Mandatory contributions into

individual pension savings

accounts

Mandatory contributions into

social insurance

Third tier

Voluntary contributions into

individual pension savings

accounts

Mandatory and voluntary

contributions into individual

pension savings accounts

The debate on what is a mixed system?

Current structure of benefits

(Proposal “A”)Non-contributory

Contributory

(only fully funded

individual

accounts)

Benefits

No contributions

required

Eligibility: poorest

60%

PBS -

Some

contributions

required

Eligibility:

Poorest 60%

APS PCI

Fully contributory - PCI

Proposed structure of

benefits (proposal “B”)

Non-

contributory

Contributory

Social

insurance

Fully funded

individual

accounts

Benefits

No

contributions

required

PBS- -

Workers with

wages up to

the median

earnings

distribution ($

350.000)

PBS PSS -

Workers with

wages above

the median

earnings

distribution

PBS(affluence test

to exclude

richest 20%)

PSS PCI

PBS: basic non-contributory pension benefit (“pension básica solidaria”)

APS: tax financed supplementary or additional pension benefit (aporte provisional solidario)

PCI: pension benefit derived from individual pension savings or the so-called “self-financed pension benefit” (“pensión autofinanciada”)

PSS: social insurance benefit

Current and proposed structure of benefits

• The social insurance component is transformed in the core part of the pension system

• Financing is tripartite: 10% workers; 3-4% employers; and matching contributions by the state

• It is organized based on “citizenship” social security accounts; witch could take the form of notional accounts

• The proposal keeps two current components:

• the basic solidarity pension (non-contributory), increasing its horizontal and vertical coverage

• the individual fully funded scheme for about 50% of workers contributing to the system, covering earnings above the median income.

Proposal “B” consists in moving towards a “mixed” system with a social insurance component

1. An increase in coverage and the amount of the non-contributory benefit (PBS);

2. Maintain the contribution mandate for self-employed workers and accelerate their inclusion in the pension system;

3. A gradual equalization of the legal retirement age for men and women, and periodically review the age of retirement;

4. The elimination of gender specific life tables for pension annuities;

5. The introduction of a state subsidized contribution mechanism for caregivers of children and seniors;

6. Changes in pension fund investment and portfolio alternatives in order to reduce the excessive insured exposure to market risks.

Beyond differences between Proposal A and B, there was agreement in recommending:

1. There is a call for further reforms in order to continue rebalancing the risk that is borne individually and socially by the insured population.

2. Putting the system into a track to improve not only solidarity but also adequacy is crucial to allow socially acceptable parametric reforms, much needed in the short run.

3. A structural reform seems to be necessary as maintaining the present structure of the system gives little room for tangible changes.

4. It seems that within the current configuration, it would be difficult to pass legislation for a parametric reform to make the system financial and socially sustainable.

Conclusion

Thank you !