European handling of implicit and explicit government debt as an obstacle to the funding-type pension reforms
| Published date | 01 March 2017 |
| DOI | 10.1177/1388262717697746 |
| Date | 01 March 2017 |
| Author | József Banyár |
| Subject Matter | Articles |
Article
European handling of implicit
and explicit government debt as
an obstacle to the funding-type
pension reforms
Jo
´zsef Banya
´r
Corvinus University of Budapest, Hungary
Abstract
In light of an analysis of Hungarian experience and as a result of the lessons that can be learned
from it, I show in this article that the terms of the Stability and Growth Pact (SGP, the so-called
‘Maastricht criteria’) are barriers to a desirable reform of pay-as-you-go (PAYG) type pension
systems. Following on from this, a proposal to modify these criteria so that this problem is
eliminated is presented. The main problem with the SGP is that it only deals with explicit
government debt and ignores implicit debt. Although it renders reforms politically palatable, it will
increase overall debt in the curse of reducing the explicit one. I also review the rationale and
possible types of funding of pension systems and propose a simple model for identifying the likely
time-span of the transition from a PAYG system into a fully funded one.
Keywords
Stability and Growth Pact (SGP) pension reform, funding, explicit government debt
Introduction
In this article, on the basis of an analysis of the Hungarian example and by generalising from the
lessons that can be learned from it, I show that the terms of the Stability and Growth Pact (SGP, the
so-called ‘Maastricht criteria’), are barriers to achieving the most desirable reforms of reforms to
pay-as-you-go (PAYG) type pension systems. In addition, a proposal to modify these criteria in
such a way that this problem is eliminated is put forward.
The structure of the article is as follows: in Part 2, I outline the Hungarian pension reform that
aimed at partial funding, emphasising its macroeconomic significance and looking at why a
reversal was politically rational (while still noting that, in the long run, it was not advantageous).
Corresponding author:
Jo
´zsef Banya
´r, Corvinus University of Budapest, 8. F}
ova
´mte
´r, H1093, Budapest, Hungary.
E-mail: banyarj@gmail.com
European Journal of Social Security
2017, Vol. 19(1) 45–62
ªThe Author(s) 2017
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DOI: 10.1177/1388262717697746
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In Part 3, I deal with the role of the Maastricht criteria in this reversal, I look at the rationale behind
reversing the reform suggestions and consider how they might develop so that their (non-desirable)
incentive effects are avoided. In Part 4, I briefly describe (partial) funding as a possible reform of
the PAYG pension system and critically engage with the arguments against such solutions that
have appeared in the literature. In Part 5, I examine the possible methods of funding in general and
calculate (with the help of a simple model) how quickly any changes could be achieved. This is
followed, in Part 5.4, by a critical analysis of the partial funding solution recommended by the
World Bank.
2. Hungarian pension reform
2.1. The main characteristics of the 1998 Hungarian pension reform
In 1998, Hungary launched its pension reform (as recommended by the World Bank
1
). The aim of
the reform
2
was to introduce a gradual, partial funding of the pay-as-you-go (PAYG) system. It was
anticipated that, in a few decades, one quarter of the PAYGsystem would be funded. To attain this,
one quarter of the pension contributions of members of the new, mixed system would be redirected
into individual accounts while three quarters would remain in the PAYG system. As a result,
members of the mixed system would get only three quarters of their previously expected pension
from the PAYG sub-system after retirement and a supplementary pension from the funded sub-
system. This woulddepend on the amount of the member’s capitalat retirement and his/her expected
lifetime duration. The expectation was that a member who had spent at least 15 years in the mixed
system would get a supplementary pension from the funded sub-system, which would supplement
the pension from the PAYG sub-system thereby making bringing it up to the same level.
The funded sub-system
3
of the new mixed system differed from the old system (which,
under the name Pillar I – in a reduced form and as a sub-system – continued to exist) in that
it functioned as a defined contribution (DC) pension scheme. The start of the funded sub-
system was a success and this is demonstrated by the growing number of its members shown
in Figure 1.
In Figure 1 we can see that membership was already well above one million in the first year, and
that it almost doubled in the second year. The popularity of the system contributed to widespread
scepticism about the performance of Pillar I. The popularity of the rising stock market and the fact
that pension savings in individual accounts were inheritable contrasted with entitlements from
Pillar I. This last fact was strongly emphasised in advertisements for the special, no-capital,
cooperative-like institutions known as casses.
Expectations regarding the new system were high and a strengthening of the idea of self-care
and a boosting of the stock exchange were mainly expected. Looking back, neither of these things
1. The theoretical basis of this can be found in World Bank (1994).
2. Regarding reform and the new system, see Fulz (2002), Matits (2004) and Palacios-Rocha (1998).
3. At that time, it was called – erroneously, as the pillar system was established by the WB, and the WB stressed that Pillar
II is the occupational pension system – Pillar II; and this was wrongly identified because the private pension system was
not occupational. This is why the Pillar I ‘bis’ name was adopted. The subsystem is also termed a ‘private pension casse
system’, after the special institution created to make it function. Thus, internationally, this phenomenon was known as
the Pillar I ‘bis’ system.
46 European Journal of Social Security 19(1)
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