We have presented a simple model of how different types of pension plan affect retirement incentives. The results show a powerful incentive to leave work at the earliest possible age in defined-benefit plans. Defined-contribution plans, in contrast, encourage people to remain in work longer.
E xamining ‘real-world’ defined-benefit schemes, we found many have features that provide more profound disincentives to work, such as
• early retirement programmes that enable people to leave work with no reduction in pension or a decrement that is less than actuarially fair
• non-linear accrual structures or maximum pensions that give a low or zero increment to pension for working at older ages
43 There is some empirical evidence to support this claim. Reimers and Honig (1993, 1996) compare the response of labour-market re-entry behaviour of men before and after age 65 to changes in the earnings limit. These are expected to differ, because of the variance in the actuarial adjustments.
However, they found very similar effects for both age groups. Friedberg could not find an effect from the credit when she included this in the modelling.
44 Leonesio (1990).
45 Simon (1996) and Kristhof (1997).
46 See Gora and Rutkowski (1998).
• final-salary formulae that encourage people to leave the labour force once earnings reach their peak
• pension systems that still levy employer and/or employee contributions even when no additional pension is earned
• earnings tests that prevent people from combining work and pensions and do not actuarially fair increments for deferring a pension claim
9.1 Policy implications
Addressing these problems should be a central part of any pension reform, and these reforms should be informed, at the minimum, by the types of analysis we have carried out here.
The problems in existing public pensions we outlined previously suggest a number of useful reforms. First early retirement schemes should be curtailed. This might involve moving towards actuarial reductions in early-retirement pensions, increases in the age at which they can be claimed or tighter conditions for entitlement, such as duration of employment or participation in training programmes. We recognise that many of these schemes were a response to genuine labour-market problems faced by older workers. However, problems such as age discrimination47 and the lack of appropriate skills are best addressed directly.
Secondly, many of the distortions to labour-supply incentives caused by defined-benefit pensions could be mitigated by moving to pensions based on average salary across the working life rather than a limited number of best or final years. Maximum pensions and limits to the number of years of contributions that earn pensions should be removed to give people an incentive to work beyond these limits. Contributions should not be levied at ages or in years when people do not earn a pension entitlement.
Thirdly, while early-retirement schemes do need to enforce earnings tests to avoid abuse, it should be possible to allow people to combine pensions at the standard age with some work.
Alternatively, people should be able defer drawing their pension at actuarially fair rates.
We briefly considered partial retirement schemes. These might encourage people who would otherwise leave the workforce retire gradually, by moving to part-time work. However, these programmes have rarely been taken up by a significant proportion of the eligible population. There are reasonable explanations for this failure, which suggests that partial retirement is unlikely to be much of a panacea.
9.2 Recent policy initiatives in OE CD countries
We noted in the introduction that more than half of OE CD countries mentioned low effective retirement ages and poor work incentives in the pension system as a matter of policy concern. Only problems with the financial viability, mentioned by three-quarters of governments, were the subject of more widespread worry.
Table 5 shows that more than 80 per cent of OE CD countries have recently introduced reforms designed to promote the employment of older workers. Nine countries will increase the standard age for state pensions by an average of three years. In addition, Australia will raise the
47 See, inter alia, Hutchens (1986, 1988), Hutchens (1986, 1988), Johnson and Neumark (1996), Neumark and Stock (1997), OE CD (1998c).
age at which people can draw private pensions. E ight other countries will increase the age at which women can draw pensions. In seven, this will equalise women's pensionable age with men's. The average increase is over four years.
In practice, most people retire well before the standard pension age in the vast majority of countries. The effective retirement age is on average five years younger than the ‘normal’
retirement age. Twelve countries are therefore aiming to restrict eligibility for early retirement, which may be a more potent policy for raising effective retirement ages than changing the standard pension age. Belgium, France, Greece, Hungary, Italy and Portugal will increase the number of contribution years required to qualify for a pension. Finland, Germany, Hungary, Italy and Poland will increase the minimum age to qualify for pensions. Denmark requires local authorities to offer training and labour-market re-integration programmes before an early retirement pension can be granted. Finally, five countries will introduce or have proposed schemes to encourage people to work after normal pension age, as discussed above in sections 8.3 and 8.4.
9.3 Future developments
The model we have developed is a useful tool for examining the financial rewards to working that generates a number of practical policy conclusions.48 However, it is at the moment simplistic and, although we have examined a number of features of different countries’ pension systems, we have not studied any of these programmes as a whole. Our future work on retirement therefore has two main aims. First, to explore how the incentives generated by pension schemes affect labour-supply behaviour. Secondly, to assess the impact on incentives of a number of countries’ pension systems and how they might be reformed to reduce labour-market distortions and promote work.
48 We will provide the model, implemented in the Stata statistics and data programming language, on request.
Table 5. Recent policy initiatives to promote employment of older workers
Increase in pension age Equalising pension age Discouraging early retirement
Encouraging work after pension age
Australia: from 55 to 60 in age for private pensions (by 2025)
Australia: to 65 (by 2013) Austria: reduced access Australia: deferred pension bonus plan proposed (men 65-70 and women 61-66) Czech Republic: from 60 to
62 for men and 53-57 to 57-61 for women (by 2007)
Belgium: to 65 (by 2009) Belgium: contribution years for retirement at 60 from 20 to 35 (by 2005)
Greece: from 60 to 65 (post-1993 labour-market increm-ents for deferral after age 70 Italy: from 63 to 65 for men
and 58 to 60 for women (by 2000); 57-65 in new scheme
Poland: from 60 to 65 to
Portugal: to 65 (by 1999) Gernany: minimum age to 62 (from 2012)
Korea: from 60 to 65 (by 2033)
Switzerland: from 62 to 64 (by 2005), remains below
United States: from 65 to 67 (by 2027)
Italy: minimum age 52 (from 1997); contribution years increased from 35 to 40 years (from 2008)
Source: Kalisch and Aman (1998), OECD (1997b)
Annex 1. Accrual rates by years of contributions
Dominica
Turkey
Madagascar
Former Soviet Union
1Cameroon, Chad, Venezuela
0 5 10 15 20 25 30 35 40 45 0
1 2 3 4
Argentina
0 5 10 15 20 25 30 35 40 45 0
1 2 3 4
Central African Republic
0 5 10 15 20 25 30 35 40 45 0
1 2 3 4
Zimbabwe
0 5 10 15 20 25 30 35 40 45 0
1 2 3 4
Bulgaria
0 5 10 15 20 25 30 35 40 45 0
1 2 3 4
Austria
0 5 10 15 20 25 30 35 40 45 0
1 2 3 4
1. Belarus, Georgia, Kyrgyzstan, Moldova, Russia, Turkmenistan, Ukraine, Uzbekistan
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