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Pensions, the “then” and the “now”

16 January 2013 By Edward Hadas

What is the right size for pensions? That question can be approached in two ways: “then” and “now”. Pensions, and other economic arrangements to support elderly people, may be considered repayments for what they did back then, when they were young. Alternatively, these payments may be considered as a share of output right now. In rich countries, the two approaches are in conflict. The “then” logic, which is based on promises made long ago, supports higher pension payments than the “now” logic, which is mindful of rapidly ageing populations. Politicians struggle to find acceptable compromises between the two approaches.

Until 60 or 70 years ago, politicians did not have to worry much because governments played a minimal role in supporting the few people who lived long enough to be unable to earn their keep. The elderly mostly relied on their own families for support. Moralists provided a “then” justification for this obligation: children had a duty to the parents who gave life, the young owed the old more than could ever be repaid for the provision of nurture and wisdom.

Philosophers and religious teachers often claimed that the duty of children to parents was as natural as that of parents to their children. However, many people must have remained unpersuaded. Otherwise, the injunction would not have been repeated so often in such solemn tones.

Perhaps the popular desire to shed some of these unwanted personal loads lies behind the last century’s great pension shift – from families to the state. While children in rich countries still often take some care of their elderly parents, direct financial support has become rare. Rather, the old now usually depend on some combination of their own savings, state-regulated private pension plans, income from government retirement plans, and state benefits such as free or heavily discounted medical care. Americans rely more than Europeans on private means, but even in the United States the government has become the predominant source and arbiter of income in old age – and the “then versus now” pension question has become highly political.

The “then” arguments have changed. There is less talk of unquantifiable inter-generation debts and more of the just repayment of past financial contributions. The larger the past contribution, the larger is the correct size of the current pension. Whatever its ethical value, this then-and-now picture of pensions is economically misleading. While individuals who contributed more in the past may be given higher pensions, a whole society cannot really save for old age. Pensions are always “now”, a share of total current income.

In other words, when a society increases the share of GDP which is given to old people, younger generations’ share must decline. This reality is clear in the small society of an extended family. The ethics of giving Granny the warmest bed or nicest piece of meat may be “then”; the practice is “now”. This reality can be harder to see in a nation, where pension payments are determined by a formula based on past incomes, and medical care is allocated on the basis of perceived needs. However, there is no escape from the division of consumption goods. Whatever the non-working elderly receive is not available to the rest of the population.

In the political debate over pensions and health care, too little attention is paid to this “now”. Instead, there are extended debates about the economic details of “then”, about past choices and promises. Those debates lead only to arbitrary and unjust allocations, because times have changed – higher GDP, longer life expectancies and quite different investment returns. Past expectations are almost irrelevant to current conditions.

Politicians and rule-makers could make pensions more just by dealing exclusively with the hard ethical questions of “now”. The United States and most other rich countries have already moved in this direction, for example by increasing the official retirement age, despite past commitments. However, the debate is still distorted by misleading “then” claims of supposed injustice to old people who paid so much and receive so little. In reality, these details are a distraction. The only “then” arguments which matter are the traditional ones about society’s obligations to its older members.

A more philosophical political debate would be welcome, but I have a more radical suggestion for reform: admit the great pension shift – from individuals, families and communities to governments – has been a move in the wrong direction. It saves no money; it substitutes bureaucracy for personal ties; and it has not clearly promoted justice. Society would be stronger, and no less just, if the state reduced its role in the determination of pensions. Let the government do no more than alleviate misery, and let the people take care of themselves and of each other. They can decide how best to turn “then” into “now”.


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