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Pensions: a comprehensive reform is urgently required.

A major pension reform is urgently required to ensure fiscal sustainability, eliminate distortions against working at older ages and deal effectively with poverty issues.

First, pension expenditure is projected to increase to mid-century by more than for any other OECD country. Reform is required not only to ensure fiscal sustainability, but also because pension expenditure will otherwise account for more than one-fifth of (unrevised) GDP and inevitably crowd out other social outlays which are needed to support social cohesion and structural objectives. Judged against projections for other EU countries a fall in pension benefits relative to average wages is likely to bear the brunt of any adjustment, although the extent of this adjustment can be limited by reforms which reduce disincentives to continue work in old age and curtail the many alternative early retirement pathways.

Second, incentives to retire early are among the highest in the OECD, and have led to a low employment rate among older workers. There are tenuous links between contributions and benefits and a range of special provisions that allow early retirement before the "normal" retirement age of 65. To remove disincentives, pensions should be linked to lifetime contributions and greater actuarial fairness ensured, while the wide range of early retirement schemes should be phased out.

Third, despite high aggregate pension outlays, the diversity in replacement rates across different funds means that pension expenditure is not always targeted to those most in need. Reducing overall pension expenditure while improving the safety net against poverty in old age is likely to require that any safety net pension--whether means-tested, based on some criteria such as residency or based on the current minimum pension--is strictly available only at the official age of retirement, in contrast to the current situation where minimum pensions are available at much earlier ages and so severely distort incentives to retire early.

The pension system is highly fragmented

Pensions are almost entirely provided by a large number of earnings-related schemes run by the public sector on a pay-as-you-go (PAYG) defined-benefit basis with practically complete coverage of the population. A defining characteristic of the pension system is the high degree of fragmentation both across sectors of employment and economic activity and across types of protection (primary and supplementary pensions as well as separation payments).

There are three main primary insurance funds providing cover for retirement, disability and survivor pensions: IKA, the Social Insurance Institute, is the single largest provider and covers most private sector employees; OAEE covers most of the self-employed; and OGA covers farmers (Table 3.1). In addition there are over 20 other smaller specialised primary funds covering people such as lawyers, engineers and mariners. Civil servant pensions are paid directly out of the budget, while public enterprises and banks have enterprise-specific funds. Many of these organisations also provide health care insurance. In addition there are many more auxiliary funds providing supplementary pensions in addition to those from the primary funds. A significant reform in 1992 provided some degree of uniformity by imposing similar rules across all sectors (except agriculture) for all employees who began working after 1 January 1993. At the same time the system became less generous. This does, however, add a further layer of complication because of "grandfathering" rules, relating to these and other changes to the system, including mergers between providers. Fragmentation has a number of direct costs:

* There is considerable inequity in terms of substantial differences in pension levels, government subsidies and returns on contributions both across occupations and income levels, particularly in respect of pre-1993 labour market entrants. For example, retired lawyers and civil servants benefit from government transfers equal to more than three-quarters of the average pension received, whereas the equivalent share for private sector employees is less than one-fifth (O'Donnell and Tinios, 2003).

* The high degree of fragmentation in combination with PAYG financing and a range of cross-subsidies (including tied taxes) leads to a lack of transparency, which is further aggravated by a paucity of statistics for many of the smaller funds. This obscures budget constraints on individual funds and blunts incentives to control expenditure; it may also be a major obstacle to reform, even if the overall constraint on public finances becomes increasingly visible (Borsch-Supan and Tinios, 2001).

* Having many funds, including many smaller ones, substantially raises administrative costs.

The pension system is a fiscal time bomb

Total public spending on old-age pensions as a share of GDP is currently among the highest in the OECD at around 12 1/2 per cent of (unrevised) GDP (Figure 3.1). Using the revised GDP data, such spending would be 10% of GDP, which would still rank Greece in the top quartile among all OECD countries. A major concern is that, according to the latest official national projections, the long-run increase in public spending on pensions, at over 10% of GDP to mid-century, is also among the largest in the OECD. Furthermore there is more uncertainty about such projections for Greece than for most other EU countries because they have not been updated recently. In particular, Greece was the only EU15 country which did not take part fully in the recent projection exercise concerning the long-term fiscal costs of ageing conducted by the Economic Policy Committee of the EU (EPC, 2006).

[FIGURE 3.1 OMITTED]

Comparing the last official projections, which were made in 2002, with the 2006 EU EPC projections for the EU15, (1) the increase in pension expenditure as a share of GDP to 2050 is 10.2% of GDP for Greece but only 2.8% of GDP for the EU15 (Figure 3.2, upper panel). A part of this difference is explained by demography: while the old-age dependency ratio more than doubles to 2050 in both the EU15 and Greece, the increase is greater for Greece and adds about 2.5% of GDP to pension expenditure by 2050 (Figure 3.2, second panel). Some of this additional cost is offset by slightly more optimistic employment rate projections for Greece, although the difference is small. An OECD revision of the pension expenditure projections for Greece, which assumes the same profile for the pension benefit ratio as in the 2002 official Greek projections, but uses updated projections for the dependency ratio and the employment rate, implies a slightly larger increase in pension expenditure of 11.2% of GDP to 2050, because of a slightly more pessimistic projection of the employment rate (Annex 3.A1).

[FIGURE 3.2 OMITTED]

By far the most important reason explaining the larger increase for Greece relative to the EU15 is the different profile of the "pension benefit ratio" (defined as average pension expenditure per person aged over 65 as a share of output per worker) which declines by 8% until 2050 for Greece, but by 35% for the EU15 (Figure 3.2, lower panel). These changes are most marked for those EU countries which have already enacted major pension reforms (especially Austria, France, Germany and Italy), particularly through making indexation rules less generous as well as increasing statutory retirement ages, curtailing access to early retirement, indexing benefits to longevity and reducing financial incentives to leave the labour force.

Given the scale of the spending increase, it is almost inevitable that ensuring future fiscal sustainability will require a reduction in pension income (relative to average wages) over coming decades or else a hefty rise in contribution rates. Given the already high tax burden on labour income, the former seems more reasonable as well as being consistent with pension reforms in other EU countries. The required adjustment will, however, depend on the capacity of the pension system to raise revenues by lengthening contribution periods and reducing disincentives to work at older ages--issues which are the focus of the remainder of the chapter.

The employment rate of older workers has remained low

The employment rate of older workers is low in international comparison (Figure 3.3). Moreover, there has been little trend improvement, in contrast to developments in most other OECD countries and particularly across most of Europe where there has generally been greater scope for catch-up; the average increase in the employment rate of workers aged 55 to 64 over the last decade has been 8 percentage points across all EU15 countries, but only I percentage point for Greece. For some countries this reflects reforms that tightened eligibility to early retirement pathways and/or improved incentives to work longer, while in Greece no major pension reform has been implemented since the early 1990s.

[FIGURE 3.3 OMITTED]

The main pension system for employees (IKA) provides strong incentives to retire early

At the "normal" age of retirement of 65 for men, the statutory replacement rate in Greece and level of pension wealth (normalised on a measure of average wages) is among the highest in the OECD across a range of earnings levels (Box 3.1 and OECD, 2006). However, only around 15% of men retire on a full pension at the "normal" retirement age (Table 3.2), because the system provides both strong financial incentives and the means to retire early through a variety of early retirement pathways and consequently the effective replacement rate is typically much lower than the statutory rate.
Box 3.1. Key features of the main employee pension scheme (IKA)

The system described here is that applying to labour market
entrants from 1993.

Contribution rates

The standard contribution rates for a primary pension are 6.7% for
the employee, 13.3% for the employer and 10% for the government.
Higher contribution rates apply to jobs in "arduous and unhygienic"
occupations. For supplementary pensions the standard rates are 3%
for the employee and 3% for the employer.

Qualifying conditions

The notional standard age of retirement is 65 for men and 60 for
women, equalised at 65 for women entering the labour force from
1993, and at this age requiring a minimum of 15 years of
contributions. Workers with a contribution record of 37 years can
retire on a full benefit regardless of age. There are concessions
for people who work in arduous or hazardous occupations and for
women with dependant or disabled children. The minimum social
pension requires 15 years' contributions.

Benefit formula

For labour market entrants from 1993, the primary pension is 2% of
earnings for each year of contribution up to 35 years. There is
therefore a maximum replacement rate of 70% for people retiring at
the normal age or earlier. It should be noted that based on Law
3029/ 2002, the replacement rates for those insured before 1993
with 35 years of contributions will also converge to 70% by 2017.
However, if people work after age 65 and up to 67, there is a
higher accrual of 3% per year, but there is no accrual rate for
those working after 67 (implying a maximum replacement rate of
76%).

On top of this primary pension, a full supplementary pension is 20%
of the earnings measure under the main component of the
earnings-related scheme for workers with 35 years of contributions.
The pension is proportionally reduced for shorter contribution
periods, implying a linear accrual rate of 0.57%. The value is
increased by 1/35th for each year of contributions (300 days)
beyond 35 years.

The earnings measure against which the pension is calculated is the
average over the last five years before retirement. However, for
employees insured before 1993, the formula is based on the best
five years of the last decade.

Minimum and maximum pensions

The minimum pension is set as 70% of the minimum wage for a
married, full-time employee, equivalent to around 40% of average
earnings.

There is a maximum pension, which, for a full-career worker, is
equivalent to a ceiling on pensionable earnings of 325% of average
earnings.

Late retirement

It is possible to retire after the normal pension age of 65. An
increased accrual rate of 3% is applied in the main component and
the maximum replacement rate and pension do not apply. The
supplementary component also continues to accrue. It is possible to
combine work and pension receipt as long as earnings are below 700
[euro].

Taxation of pensioners

In general, benefits are subject to taxation with no special tax
allowances or credits for older people.

Source: OECD (2007), Pensions at a Glance: Public Policies across
OECD Countries, OECD, Paris.


* Early retirement after 35 years of work. A maximum of 35 years of contributions counts towards the primary earnings-related public pension and early retirement without any reduction of benefits is possible once 37 years of contributions have been paid. Thus for a worker beginning a career at age 20 (the representative case considered in most OECD comparisons) there is no gain from the main public pension benefit from remaining in work beyond the age of 57. Under the supplementary earnings-related pension, more than 35 years of benefits can accrue and so the replacement rate continues to increase. However, once the individual qualifies for early retirement without benefit reduction (after 37 years of contributions) the overall implied change in pension wealth from continuing to work (in particular taking into account the additional years in which no pension is being received because of postponing retirement) is strongly negative. The strength of the disincentive effect to continue work, as summarised in measures of the "implicit tax on continuing work" (2) between the ages 55 and 60, as well as between 60 and 65, is among the highest in the OECD (Figure 3.4, upper two panels). This result needs to be qualified as it depends on the age at which the individual's career is assumed to begin; if the career begins at age 25 or 30 rather than 20, then disincentive effects are substantially reduced (OECD, 2007).

[FIGURE 3.4 OMITTED]

* Early retirement on an actuarially reduced pension at age 60 or 55 with at least 15 or 35 years, respectively, of contributions. While actuarial reductions are applied for early retirement (Table 3.3), what makes this option attractive to many workers is that the actuarial reduction is not applied to the minimum pension and, because the minimum pension (equivalent to about 40% of average earnings) is received by two-thirds of all IKA pensioners, it follows that the full actuarial adjustment is not applied in most cases. The high proportion of minimum pensions paid by IKA may be partly explained by irregular work histories, such as work abroad or in the case of successive insurance. It also probably reflects contribution evasion, as there are strong incentives to contribute the minimum 15 years of contributions and then leave the regular labour market to continue working in an undeclared job. This is further accentuated by high pension contribution rates and the existence of a large shadow economy.

* Early retirement from occupations classified as "arduous or unhygienic". Retirement on a full pension is possible at age 55, provided the retiree has 35 years of contributions including 25 years working in "arduous" occupations. Alternatively, men are entitled to a full pension at age 60, and women at the age 55, if they have worked for 15 years with at least 12 years in an arduous occupation. There is a valid argument for preferential treatment (quantifiable on an actuarial basis) when employment in a particular occupation leads directly to a lower life expectancy. However, the scale on which these provisions are currently used (by 40% of all men retiring on an IKA pension and 16% of all women) as well as the extensive list of over 150 occupations to which they apply, suggests that the current provisions go far beyond this rationale. (3) Following a recent legislative provision this list of occupations is, however, currently being reviewed with a view to proposing a revised list by the end of 2007. Comparing this early retirement pathway with the dominant "alternative" (in the sense of being outside the regular old age pension system) early retirement pathways in other OECD countries (usually through unemployment, but sometimes through disability) again suggests that the disincentives to continue work are high in international comparison (Figure 3.4, lower panel). This is consistent with Greece having the highest share of any EU country of total pension expenditure accounted for by early retirement pensions (partial old age pensions or early-retirement benefit for labour market reasons, excluding disability) (Kubitza, 2005).

* Women with dependent or disabled children can retire at 50. Mothers of dependent or disabled children are eligible for a full pension at the age of 55, and a reduced pension at the age of SO, provided they have made contributions for at least 20 years. Again, the actual reduction for earlier retirement, in this case at age SO, may be small given that reductions are not applied beyond the level of the minimum pension. Mothers of disabled children get a full pension after 25 years of contributions without any age limit. Women with three or more children are eligible for full pensions at ages between 50 and 56, (calculated as 65 minus three years for every child up to a maximum of 15 years) after 20 years of contributions.

* Early retirement through disability. The age distribution of new disability retirees bears a close resemblance to that for old-age pensions leading Borsch-Supan and Tinios (2001) to argue that it is not consistent with being entirely caused by health status, but rather that disability pensions may also be substituting for regular old age pensions in cases where the retiree does not have sufficient contributions. The share of new IKA retirees retiring under conditions of disability is 20%, although this is not exceptional compared with some OECD countries. Nevertheless, strict gate-keeping through the use of independent specialised medical assessment is important, and may become more so, judging by the experience of other OECD countries, if access to other early retirement pathways is tightened.

* Retirement under other special provisions. About 10% of new IKA retirees are subject to a large number of special regimes. For example, Olympic Airways flying personnel receive full pension at age 45, with each year of contributions counting double (Borsch-Supan and Tinios, 2001).

One feature of employees' pensions which should be highlighted, given its divergence with increasingly common practice in other OECD countries (OECD, 2007), is that pensions are based on the last five years' earnings, rather than lifetime earnings. Establishing a clearer link between lifetime earnings, contributions and pensions will be important in reducing incentives to under-report income and evade contributions.

The main pension system for self-employed

Given that the self-employed represent nearly 40% of total employment, the pension arrangements for this group are of considerable importance in assessing the overall system. From 1999 the three main pension providers for the self-employed--TEBE (craftsmen and other professionals), TAE (retailers) and TSA (lorry drivers etc)--have been progressively integrated into a single fund, OAEE.

For post-1993 labour market entrants the parameters of the main pension system for the self-employed are similar to those for employees, but with some important differences with respect to how the assessed income against which contributions are determined and the pension is evaluated. Pension contributions are 20% of assessed earnings, (4) but these are unrelated to actual earnings and instead correspond to notional income classes which, depending on the fund, increase with years of experience. The calculation of pension rights is then based on the income classes over which contributions have been made. The resulting share of total social security contributions in aggregate appears low compared to their weight in total employment, and also in comparison with other European countries (choosing comparator countries where private pensions are also not widespread) (Figure 3.5). This would suggest that the level of notional incomes used to determine contributions should be raised. Ideally it would make sense to switch the basis for self-employed pensions from notional to actual earnings or some proxy measure such as turnover. (5) A prerequisite for such a change would be further improvement in the tax auditing of the self-employed, or, if this is difficult to reliably check, then some proxy measure such as turnover. If such a switch is not feasible, then the level of notional income bands against which the self-employed make contributions would need to be raised.

[FIGURE 3.5 OMITTED]

Poverty in old age is relatively high

Reforms to the pension system over the last decade have focused on improving its safety net role. In particular, in 1998 a new government pension plan was introduced for farmers, previously a group particularly vulnerable to poverty in old age, which will eventually provide a full pension replacement rate of 50% to 70%. In 1996 a means-tested supplementary pension "EKAS" was introduced for those over the age of 60 (Box 3.2).
Box 3.2. EKAS: A means-tested social solidarity benefit

This scheme, introduced in 1996, is a non-contributory, means-tested
benefit payable to low-income pensioners eligible under most schemes.
Eligibility requires that total annual net income from all sources is
less than 7 165 [euro] (in 2006), total taxable income must not exceed
7 656 [euro] and the total taxable family income, 11 913 [euro].

Income level,
  lower limit        0          6 526 [euro]   6 782 [euro]
Benefit
  per month        160 [euro]     120 [euro]      80 [euro]

Income level,
  lower limit    6 952 [euro]   6 562 [euro]
Benefit
  per month         40 [euro]       0

The number of beneficiaries covered by this scheme in 2006 was 347 000.


Despite these reforms and high overall pension outlays, the diversity in replacement rates across different funds means that pension expenditure is not always targeted to those most in need. The at-risk of poverty rate for those aged over 65 in 2005 was among the highest in the EU both in absolute terms and relative to the rest of the population (Table 3.4). (6) This suggests that a further reason for pension reform is to ensure a more effective safety net to prevent poverty in old-age. Summary poverty statistics may, however, exaggerate hardship; in particular, low money incomes in rural areas may seriously overstate lack of resources because they neglect in-kind rents for home owners (97% of households in rural areas), consumption from own production and transfers within families and social circles (Borsch-Supan and Tinios, 2001). Nevertheless, long-term trends in demography and urbanisation are likely to increasingly weaken the cohesiveness of family and other informal support networks. Indeed, there has already been a marked fall in the number of the elderly still living with their adult offspring since the 1980s. At the same time the current high level of public expenditure on pensions, crowds out other forms of social transfers which may be in increasing demand in the future. For example, the combination of an ageing population, urbanisation, and the low fertility rate (implying the elderly of the future will have fewer children to care for them) is likely to increase the demand for formal long-term care services for the elderly. It will be difficult to contemplate meeting such demands from public expenditure if, as expected in the absence of reform, public expenditure on pensions almost doubles as a share of GDP to mid-century.

One option to provide a more cost effective safety net would be to strengthen EKAS so that it provides a minimum means-tested level of income in old-age, only available at the official age of retirement, while phasing out the minimum pensions which are guaranteed by each pension fund. While this would have the advantage of being cost-effective--which must be a paramount consideration given the current starting point--excessive reliance on means-testing does have the drawback of providing disincentives to save for retirement (OECD, 2005). An alternative option would be to provide a form of universal or citizen's pension (as in New Zealand). In the case of Greece, to avoid the risk of "benefit shopping", it might be necessary to supplement this with some form of legal residency requirement. Yet another alternative would be based on current minimum pensions, but ensuring they were strictly only available at the official age of retirement.

There are large potential gains to labour force participation from pension reform

A number of cross-country studies have found that financial incentives implied by old age pension systems as well as other early retirement pathways provide a strong effect in explaining retirement behaviour (Blondal and Scarpetta, 1998; Duval, 2003; Bassinini and Duval, 2006). Using such empirical results, the effect on labour force participation rates of reforming the retirement income system to an actuarially fairer basis can be estimated (Figure 3.6). These estimates suggest that the participation rate of older males (aged 55-64) could be raised by as much 25 percentage points, which would raise Greece from its current position below the OECD average to be among the leading countries. For older females the participation rate might rise by 18 percentage points which would bring it up above the OECD average, although still well below that in Nordic countries. The overall effect on aggregate labour force participation would tend to increase through time as older age groups become a larger share of the population of working age. On the basis of the demographic structure expected in 2050, the aggregate labour force participation rate could rise by 5 percentage points. Assuming this increased labour force participation translates into an equivalent increase in the employment rate, then the same level of pension expenditure would support a pension replacement rate around 8% higher than it otherwise would have been. More generally, this illustrates that removing the current distortions against continued working would also make a significant contribution towards ensuring long-run financial sustainability of the pension system and place less of the burden of adjustment on a less generous replacement rate.

[FIGURE 3.6 OMITTED]

Encouraging the development of private pensions

Voluntary saving via private pensions is currently negligible. Cross-country evidence suggests that this is mostly explained by the generosity of the mandatory pension system; countries with high pension replacement rates typically have little need for private pensions and workers are more likely to be liquidity-constrained where contribution rates are high (OECD, 2007). Thus, it is likely that if replacement rates are scaled back in the mandatory system, some of the slack would be taken up by growth in private pensions. In these circumstances the tax treatment of private pension savings will begin to matter more. Until recently, retirement saving was penalised in the tax system compared with other forms of saving, in contrast to the practice in most OECD countries. Saving in private pension funds was not deductible from taxable income, the associated investment income was not sheltered from taxation and withdrawal of the accumulated funds was also liable to tax at the same rate as earned income but unlike disposal of other financial assets. The Pension Act of 2002 has put in place tax arrangements for second-pillar occupational pension funds that are more in line with practices found elsewhere in the OECD. Thus, contributions are now exempt from taxable income, but pension payments are subject to tax. Furthermore, two new bodies, the Occupational Insurance Division of the Ministry of Employment and Social Protection and the (independent) National Actuarial Authority have been established and put in charge of supervising occupational pension funds.

Summary and recommendations

There has been no major reform of the pension system since the early 1990s, although the government has announced a consultation process on the long-term sustainability of the system, but will only introduce reforms after the next election.

Given the existing fragmented structure of pension funds, two very different strategies for reform could be envisaged. The first strategy would be to pass full responsibility for the financial sustainability of pensions back to the individual pension funds (subject only to prudential regulation), effectively "privatising" them. This would involve some once-for-all financial settlement from government, which would depend on the circumstances of the individual fund and would be made on condition that the pension fund became fully funded (or else met some other sustainability criteria) at a specific date, say in 15 years. The merit of such a strategy is that it would make a virtue out of the current diversity of funds, which would come to resemble the private occupational funds which exist in other OECD countries, leaving the government to focus on the provision of a safety net against poverty in old-age. In practice such a strategy goes against the broad thrust of reforms which have been enacted since the early 1990s which have instead aimed to merge pension funds. Indeed, if government is to retain responsibility for the financial sustainability of pensions then there is a compelling need for pension funds to be merged and the parameters under which they operate made homogenous. Otherwise, while the lack of sustainability may be apparent at the macro level, how adjustment is divided between individual pay-as-you-go funds is likely to be unclear with a risk that such decisions become politicised.

Given the scale of the impending fiscal imbalance, it is almost inevitable that ensuring future fiscal sustainability will require a reduction in the total pension income (relative to average wages) received by the average pensioner over coming decades or a rise in contribution rates. Given the already high tax burden on labour income it would be preferable if the brunt of any such adjustment came about through lower accrual rates and a lower implied replacement rate, rather than through increased contributions.

The required adjustment to replacement rates will, however, depend on the capacity of the pension system to raise revenues by lengthening contribution periods and reducing disincentives to work at older ages. In order to maximise these effects, the general principles of any future pension reform should be to eliminate, or at least severely limit, the provisions that allow early retirement for a range of special groups, while at the same time ensuring that decisions to retire earlier or later than the "normal" retirement age are appropriately penalised or rewarded in close accordance with actuarial principles. This should entail pensions being explicitly linked to lifetime earnings, and the phased elimination of current minimum pension arrangements. Once the normal age of retirement has been established as a genuine benchmark against which earlier or later retirement is judged and appropriately compensated, then consideration should be given to periodically increasing it in line with increases in life expectancy.

Finally, as the mandatory public pension system becomes less generous there should be greater scope for the development of private pensions which hitherto have probably been crowded out by the generosity of the public system and further discouraged by their unfavourable tax treatment. To facilitate their development, the authorities need to remove the remaining tax disadvantages on private pensions and ensure regulatory and supervisory arrangements foster trust in the system.

A summary of more detailed recommendations for reform of the retirement income system is given in Box 3.3.
Box 3.3. Recommendations for pension reform

There are a range of possible options for reform. However, one way or
another, many of the following will need to be implemented:

* To ensure fiscal sustainability statutory replacement rates, which
are high in international comparison, need to be reduced by lowering
accrual rates, although consideration should be given to raising
accrual rates beyond the official retirement age. The scale of the
required adjustment will depend on how successful other reforms are in
reducing disincentives to continue working.

* Pensions should be based on lifetime earnings, as in the case of
self-employed, rather than on the last five years' earnings as at
present (for employees insured after 1992), in line with the
majority of OECD countries.

* The length of a worker's career should not be allowed to override
eligibility conditions based on age of retirement.

* Reducing overall pension expenditure while more effectively tackling
poverty in old age is likely to mean that any safety net pension
benefit will be available only at the official age of retirement in
place of the current minimum pension arrangements which severely
distort incentives to retire early. There is a range of options
for the safety net pension; it might for example be means-tested
(through expanding EKAS) or alternatively could be universally
available subject to legal residency requirements or could even
be based on current minimum pensions (but only available at the
official age of retirement).

* The conditions for early retirement from occupations which are
"arduous or unhygienic" should be restricted to those occupations
where there is clear evidence that such work reduces life expectancy.

* Special conditions which encourage early retirement of mothers with
dependent or handicapped children should be ended, and any support
through public expenditure made independently of the system of
retirement income.

* Access to a disability pension should be strictly enforced on
medical criteria, judged by independent and specialised doctors.

* Some indexation rule for uprating pensions should be established (at
present the uprating is discretionary and has varied considerably
year-to-year and with the level of the pension). Given the need to
reduce the generosity of pension benefits, awarded pensions might be
routinely indexed to consumer prices or some mixed index of prices
and earnings.

* Increase periodically the normal age of retirement in line with
increases in life expectancy.

* Ideally it would make sense to switch the basis for self-employed
pensions from notional to actual earnings or some proxy measure such
as turnover. A prerequisite for such a change would be further
improvement in the tax auditing of the self-employed. If such a
switch is not feasible, then the level of notional income bands
against which the self-employed make contributions would need to
be raised.

* Accompany public pension reform with further encouragement of private
pension arrangements through incentives to employees and employers as
well as strong regulation and supervision based on OECD principles.


ANNEX 3.A1

Pension expenditure projections

This annex explains why the projected increase in public pension expenditure for Greece is so large compared with other EUIS countries and also explains how the 2002 official projections have been updated by the OECD to take account of more up-to-date demographic projections and alternative labour market projections.

Comparing official Greek and EU15 pension projections The last official Greek projections, which were made in 2002, are here compared with the 2006 EU EPC projections for the EU15. The 2002 Greek projections of pension expenditure are taken from the 2002 Greek Report on Pensions Strategy which included updated demographic projections relative to those used in the 2001 EU EPC report on the fiscal effect of ageing. For the purposes of this comparison the share of pension expenditure in GDP is decomposed into three components as follows:

(1) Pension expenditure / GDP = Pension benefit ratio x Dependency ratio x 1 / Employment rate

where:

Pension benefit ratio = Pension expenditure/Population 65+ / GDP/Employment

Dependency ratio = Population 65 + Population 15-64

Employment rate = Employment / Population 15-64

The increase in pension expenditure as a share of GDP to 2050 is only 2.8% of GDP for the EU15 as compared to 10.2% of GDP for Greece (Figure 3.2, upper panel). A part of this difference is explained by demography: while the old-age dependency ratio more than doubles to 2050 in both the EU15 and Greece, the increase is greater for Greece and adds about 2.5% of GDP to pension expenditure by 2050 (Figure 3.2, second panel). Some of this additional cost is offset by slightly more optimistic employment rate projections for Greece, although the difference is small.

By far the most important reason explaining the larger increase in pension expenditure for Greece relative to the EU15 is the different profile of the "pension benefit ratio" [defined as in expression (1)] which declines by 8% until 2050 for Greece but by 35% for the EU15 (Figure 3.2, lower panel). The much larger decline in the benefit ratio in the EU15 reflects both a fall in the average pension relative to the average wage, as well as a decline in the number of people receiving a pension relative to the population aged over 65. These changes are most marked for those EU countries which have already enacted major pension reforms (especially Austria, France, Germany and Italy), particularly through making indexation rules less generous as well as increasing statutory retirement ages, curtailing access to early retirement, indexing benefits to longevity and reducing financial incentives to leave the labour force.

Updating official Greek pension projections

The pension expenditure projections for Greece were updated by assuming the same profile for the pension benefit ratio as in the 2002 official Greek projections, but using updated projections for the dependency ratio and the employment rate (represented by the third bar in each set in Figure 3.2). The updated demographic projections are the most recently available from Eurostat from which labour force participation projections are derived following the OECD method described in Burniaux et al. (2004). * It projects participation by age group and sex and, in particular, allows for a cohort effect which tends to increase female participation. To derive a projection for the employment rate it is further assumed that the unemployment rate gradually falls to 7% (the same assumption adopted in the recent EU EPC exercise). The resulting projections for pension expenditure is slightly higher than suggested by the 2002 official Greek projections, rising by 11.2% of GDP to 2050, because of a slightly more pessimistic projection of the employment rate.

* Burniaux J., R. Duval and F. Jaumotte (2004), "Coping with Ageing: a Dynamic Approach to Quantify the Impact of Alternative Policy Options on Future Labour Supply in OECD Countries", OECD Economics Department Working Papers, No. 371, OECD, Paris.

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Notes

(1.) The 2002 Greek projections of pension expenditure are taken from the 2002 Greek Report on Pensions Strategy which included updated demographic projections relative to those used in the 2001 EU EPC report on the fiscal effect of ageing.

(2.) Changes in net pension wealth from working for an additional year (additional benefits minus additional contributions) can be regarded as an implicit marginal tax (if negative) or subsidy (if positive) on continued work, provided that the individual is already eligible for a pension, and that the receipt of a pension cannot be combined with earnings from work. Remaining in the labour market for an additional year implies foregoing one year of benefits. If the cost in terms of foregone pensions and contributions paid is exactly offset by an increase in future pension benefits, the pension system is said to be "actuarially neutral", but if this cost is not offset, there is an implicit tax on continued work.

(3.) There are currently 150 different categories of "arduous or unhygienic work", most of which comprise several occupations. These include, for example, mining and asbestos-related work, but many less expected occupations including work in construction, nursing, car production, production of cheese and salami, production of perfume, make-up or medication, car washers, bakery employees and presenters of the state-run television channels. The percentage of pensioners benefiting from these provisions is expected to decline gradually over time for a variety of reasons: the declining trend in most of the qualifying professions; the stricter eligibility criteria for females insured after 1993 (which have been equated to those for males), combined with the increasing participation of females in the labour market; and the gradual evolution of Greece towards a "services-based" economy. Nevertheless, given the current level of such provisions, this gradual future decline should not be viewed as a reason to avoid reform.

(4.) Corresponding to the sum of employee's and employer's contribution rates under the main employee scheme, IKA.

(5.) Actual earnings are the basis for the determination of contributions and the pension level for the self-employed in a number of OECD countries, including Czech Republic, Hungary, Korea, Portugal, Slovak Republic, Switzerland and the United States, where salaried employees and the self-employed are covered by essentially the same scheme.

(6.) The at-risk-of-poverty threshold, which is held at 60% of national median disposable income (after transfers), but in this context pensions are counted as income before transfers and not social transfers.
Table 3.1. Summary of the main pension funds

In 2006

                               In thousands
                                                   Insured/
                           Insured                pensioners
                           persons   Pensioners     ratio

IKA--Main employees fund    2080        865          2.4
OAEE--Collection of main
  self-employed funds        844        290          2.9
OGA--Farmers fund            721        519          1.4

                                          In % of GDP

                                                             State
                           Income    Expenditure   Assets   subsidy

IKA--Main employees fund     4.5         4.0        2.9       0.9
OAEE--Collection of main
  self-employed funds        1.3         1.4        0.3       0.1
OGA--Farmers fund            0.4         0.4        1.1       1.3

Source: Ministry of Economy and Finance, Budget 2006 and other
national sources.

Table 3.2. New pension awards by legal basis

IKA, per cent of total, 2006

                                           Men   Women    Total

Old age pensions                          82.8    84.9    83.6
  "Normal" case (1)                       15.8    29.6    20.7
  Retirement after 35 years of service     9.1     0.4     6.0
  Actuarially reduced (2)                  4.6    17.0     9.0
  Parent of dependent child (3)           ...     10.1     3.6
  Arduous and unhygienic work (4)         40.3    14.0    30.9
  Other special cases                     13.0    13.8    13.2
Disability                                17.2    15.1    16.4
Total pensions                           160.0   100.0   100.0 (5)

(1.) Men retiring at 65, women at 60.

(2.) Men retiring at 60, women at 55.

(3.) Women retiring at 50.

(4.) Includes construction workers who are
covered under the same legal provision.

(5.) Total new pension awards: 52 723.

Source: Social Insurance Institution--Unified
Insurance Fund of Employees (IKA-ETAM).

Table 3.3. Reductions in pension due to early retirement

Number of years   Eligibility age            Conditions

15                      65                  No reduction
15                      60          With reduction 4.5% per year
35                      55          With reduction 4.5% per year
37                      any                 No reduction

Table 3.4. Poverty risk for those aged over 65 and expenditure on old
age benefits

              At risk of poverty rate
              alter social transfers,
                      (1) 2005              Share of old
                                            age benefits
                           Relative to      (3) in total
                             general       social benefits
           Absolute (%)   population (2)      (%), 2004

Greece          28             140              50.4
Italy           23             121              61.3
Portugal        28             140              47.3
Spain           29             145              43.7
EU15            20             125              45.7

(1.) The share of persons with an equivalised disposable income
below the risk-of-poverty threshold, which is set at 60% of the
national median equivalised disposable income (after social
transfers).

(2.) Index, general population at risk poverty rate = 100.

(3.) Including survivors benefits.

Source: Eurostat database, Population and Social Conditions,
February 2007.
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Title Annotation:Chapter 3
Publication:OECD Economic Surveys - Greece
Geographic Code:4EUGR
Date:May 1, 2007
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