Social Security is vital for social cohesion and begs for a major political effort towards its reform, along with educating citizens about the future of pensions. While France is spearheading the effort, the risk of the system’s collapse stretches across the continent.
Are public pensions a guarantee in the future? Absolutely. Are public pensions as we know them guaranteed in the future? Not at all.
This might very well be a summary of the state of retirement benefits that Europeans receive and will receive in the coming years and decades. Social Security systems, one of the basic pillars of the Welfare State, are treading water, and governments are now striving – perhaps too late– to try to redirect them to avoid drowning government accounts. In Spain, for example, pension payments already account for 12% of GDP, and they continue to grow.
The issue is that a reform will inevitably lead to a reduction in the benefits to which citizens feel they are entitled to, and they are reluctant to lose these rights. This is what has led a large part of French society to recently demand that the Government withdraw its reform proposal, which they see as harmful.
France’s reform plan
Basically, Macron’s plan to reduce the public pension deficit foresees an increase in the retirement age from 62 to 64 in 2030, an increase in the contribution period from 42 to 43 years in order to receive a full pension, ensure a minimum pension of 1,200 euros per month –it is currently 916 euros– and eliminate certain privileges for some groups such as workers in the energy and transportation sectors. It also intends to standardize pensions, putting an end to the current model which includes more than 40 different pension modalities, which range enormously in their amounts.
The French system is one of the most generous in Europe with retirees, and in 2021 it represented an expense of 14% of the country’s GDP. Government workers remain on strike, and unions, opposition parties and students demonstrated last week against a reform that, be it with Macron’s measures or other measures, is essential. As is the case in Spain, Germany and in Italy.
A model designed for another era
Why is the current European pension model unsustainable?
In the first place, because it was designed for another era. During almost the entire 20th century, when the current systems were implemented, demographic growth meant that there were more working people than retirees in societies. Thus, it was relatively easy for the contributions of the employees to cover the retirement benefits. Now, the population pyramid has become drastically inverted and there are far fewer workers contributing compared to retirees. In certain regions of Spain, for example, there is already one contributor per pensioner. And this is unsustainable.
While today’s pensions are not in danger, without a radical change, future generations will receive crumbs from their governments
Furthermore, the average life expectancy of the retiree receiving a pension was much shorter than it is today. Thus, the collection of a pension over 10 to 15 years has jumped to 15 to 20 years, a significantly higher expense.
Thirdly, the acquired rights of retirees such as their replacement rate – the difference between their last salary and theirfirst pension payment – or the annual increase in pensions will require contributors receive higher incomes, something out of reach in today’s economy. Thus, for example, in 2022, the average pension in Spain was 1,250 euros gross per month -about 1,000 net euros- while the average gross salary -with taxes and contributions- was just over 2,000 euros -around 1,500 euros in net terms.
The system is, therefore, unsustainable, and a responsible government must consider its reform. Not because current pensions are in danger, but because without a radical change, future generations will receive crumbs from the State. In fact, on the current Social Security spending’s track, the government won’t be able to pay the pensions of anyone under 50 today without assuming debt.
Inevitable cuts
Solutions to this problem might look different, but they all will have the same outcome: and that is that the pensions of the future will be lower than the current ones. How much they drop will depend on the measures that are enacted today, although this process should have started a few decades ago. In Spain, for example, the Pact of Toledo was launched in Parliament in 1995, with the intention of withdrawing the issue of pensions from the political debate and developing the reform of the system through it. The Pact of Toledo has made several advances, but clearly they haven’t been enough. And this reform is urgent throughout all of Europe, because before we know it, the Baby Boomers–those born between the late fifties and early sixties– will begin to retire, a large generation born when European families’finances began to start looking up after the ravages of World War II –or the Civil War in Spain’s case.
“My generation had few children and we barely saved” (Monika Schnitner, Chair of the German Government Advisory Board of Economists)
Only with an incredible increase in the birth rate in Europe in the coming years would it be possible to maintain the existing public pension system, something no study foresees at the moment. In addition, when it comes to actually feeling the effects of a hypothetical birth rate jump, (something countries such as France and Sweden are beginning to see) any repercussions would still take several decades before actually being felt.
A privileged generation
The debate about the present and future is largely the same throughout Europe. Monika Schnitner, president of the German Federal Government’s Advisory Board of Economists, stated a few days ago: “My generation has lived beyond its means; we have had few children and we barely saved”. And now that same generation is beginning to retire and is going to receive a good pension for a good long while.
The Council of Economists has proposed a series of changes in the system to the Scholz government to guarantee thesystem’s future, which are in line with France’s reform: delay the retirement age, decouple the increase in pensions from the increase in salaries and reduce the highest pensions.
At the moment, the German state transfers about 100,000 million euros per year for pensions to Social Security, a quarter of the public budget. Experts calculate that, if this progression remains unchanged, by 2050 half of German public spending will be dedicated to passive members of the country, withdrawing resources from education, infrastructure, research and development, and employment. “This situation will strangle the economy,” says Schnitzer. Yet the mere proposal of a reform has already generated a wave of protests throughout the country.
Immigration isn’t enough
Can mere economic evolution alleviate the precarious situation of our public pension systems? It’s clear that a continuedcycle of economic boom would improve productivity and increase the levels of employment, increasing the incomes forcontributers, but the Social Security deficit issue would pop up again as soon as a period of simple economic slowdown returned. Not to mention a drop in economic activity. Favorable economic evolution would inevitably help improve government accounts, but it fails to address the root of the problem: the need for a model which is able to respond to growth and recession.
Some experts point to immigration as another source of income for the public system by bringing in new workers. But it is not easy to make forecasts about the incorporation of immigrants in the medium and long term, because there are many factors that affect their arrivals and departures: types of jobs, political situation and evolution of the economy in their home countries… For example, in Spain there was a strong entry of working immigrants during the last stage of growth at the end of the 20th century – which helped, for example, to fill the so-called pensions ‘piggy bank’ up with 18,000 million euros. But as soon as the crisis began in 2007, the first to lose their jobs were immigrants, and millions of them returned to their countries in the following years.
If government pensions are going to decrease in the coming years, citizens have the option of saving for their retirement if they want to maintain their standard of living once they’ve retired. In addition to private financial products –which depend on a citizen’s ability to save–, some States have systems that deduct a percentage of workers’payrolls when they enter the workforce that is invested in a pension plan backed by the State and managed by financial institutions, which the worker has throughout their professional career and which can only be redeemed after retirement. This sort of mechanism is one of the proposals of the Spanish Ministry of Social Security in its reform plan. A measure that may be acceptablefrom the citizen’s point of view because it provides them with resources, yet it still fails to directly address the need for reform.
Social Security is so important for social cohesion in Europe that it deserves in-depth reflection among politicians to come to a common position on its reform and work to raise awareness on why guaranteeing public pensions in the future will mean working more today and receiving a lower pension tomorrow. But there’s no other way out of this as long as the current conditions don’t change.