IMPLICATIONS OF PROGRESSIVE PENSION ARRANGEMENTS UNIVERSITY OF WUERZBURG
CONTENTS 1/18 CONTENTS 1. MOTIVATION 2. THE NUMERICAL GENERAL EQUILIBRIUM MODEL 3. SIMULATION RESULTS 4. CONCLUSIONS
MOTIVATION 2/18 MOTIVATION Fenge (1995): Question: First answer: Here: Intragenerational fair paygo system is Pareto-efficient! Why do we observe progressive pension systems in many countries? Progressivity is determined by the voting outcome (Casamatta et al., 2000 or Conde-Ruiz and Galasso, 2005). Pension progressivity is efficient due to it s insurance properties!
MOTIVATION 3/18 Net replacement rates by Basic individual earnings level allowance Multiple of average in % of 0.5 1.0 2.0 average wage Germany 61.7 71.8 67.0 10.0 a Italy 89.3 88.8 89.1 Netherlands 82.5 84.1 83.8 Poland 69.6 69.7 70.5 Spain 88.7 88.3 83.4 Australia 77.0 52.4 36.5 France 98.0 68.8 59.2 Ireland 63.0 36.6 21.9 55.4 Japan 80.1 59.1 44.3 UK 78.4 47.6 29.8 22.8 USA 61.4 51.0 39.0 a currently proposed
MOTIVATION 4/18 RELATED LITERATURE Pension reforms: Huggett/Ventura (1999), Støresletten et al. (1999), De Nardi et al. (1999), Conesa/Krueger (1999). Income tax reforms: Conessa/Krueger (2004), Smetters/Nishiyama (2003).
THE NUMERICAL GENERAL EQUILIBRIUM MODEL 5/18 THE NUMERICAL GENERAL EQUILIBRIUM MODEL Households work for 8 periods (i.e. 40 years) and can live up to 16 periods (i.e. up to age 100), Liquidity constraints, unintended bequest; Closed economy without population ageing; Cobb-Douglas production function with capital and labor, Government issues debt and levies progressive income taxes, corporate taxes and adjusts consumption taxes endogenously.
THE NUMERICAL GENERAL EQUILIBRIUM MODEL 6/18 V j (z) = max l j,c j INDIVIDUAL DECISIONS u(c j,l j ) 1 1 γ + s j+1 1+θ π(e j+1 e j )V j+1 (z ) 1 η ej+1 1 1 γ 1 η 1 1 1 γ State variables: z =(ep j,a j,e j ) earning points, assets, and productivity Budget constraint: a j+1 = a j (1 + r)+(1 l j )we } {{ } j (1 τ j )+p j T (y j ) (1 + τ c )c j + b j w j
THE NUMERICAL GENERAL EQUILIBRIUM MODEL 7/18 MODELLING OF FLAT BENEFITS AND BASIC ALLOWANCES Computation of earning points at age j: ep j = ep j 1 +min[w j / w;2.0] (1 λ)+λ Computation of individual pension at age j j R : p j = ep jr AP A Computation of individual contribution rate τ j : 0 if w j <β w, τ j = τ[w j β w]/w j if β w w j 2.0 w, τ[2.0 β] w/w j if w j > 2.0 w.
THE NUMERICAL GENERAL EQUILIBRIUM MODEL 8/18 CALIBRATION: THE INCOME PROCESS Table 1: Markov transition matrix Current productivity level 1 2 3 4 5 6 1 0.40 0.24 0.17 0.09 0.05 0.04 2 0.17 0.35 0.33 0.09 0.04 0.02 Past 3 0.08 0.13 0.41 0.24 0.10 0.04 productivity 4 0.06 0.03 0.19 0.39 0.25 0.08 level 5 0.04 0.02 0.10 0.22 0.41 0.22 6 0.04 0.03 0.05 0.06 0.20 0.63 Source: Authors own calculations from 1998/2003 SOEP data
SIMULATION RESULTS 9/18 Table 2: The initial equilibrium Model Germany 2003 pension benefits (in % of GDP) 13.0 12.7 pension contribution rate (in %) 19.3 19.5 Tax revenues (in % of GDP) 20.9 20.7 income tax 7.7 7.4 consumption tax 11.4 10.7 corporation tax 1.8 1.7 consumption tax rate (in %) 18.0 interest rate p.a. (in %) 3.1 capital-output ratio 3.1 3.5 *Source: Institut der deutschen Wirtschaft (2004).
SIMULATION RESULTS 10 / 18 Model Table 3: Income and Wealth Distribution Percentage shares Gini Lowest 10% Highest 10% index Net income 3.4 22.2 0.287 Assets 0.0 30.4 0.518 Net income 3.1 23.9 0.299 Germany Assets 0.2 44.2 0.613 * Source: DIW (2005, 202)
SIMULATION RESULTS 11 / 18 Table 4: Macroeconomic effects of progressive pensions (β =0.3,λ =0.5) Period 2005-09 2025-29 2045-49 Employment -5.2-4.1-4.1-4.1 Capital stock 0.0-5.5-6.6-7.4 Wage a 1.6-0.4-0.8-1.1 Contribution rate 9.6 9.3 9.3 9.8 Consumption tax 2.0 2.0 2.2 2.3
SIMULATION RESULTS 12 / 18 Figure 1: Welfare effects of progressive pensions! ) L A H = C A 9 A B= H A + D = C A I E! ' '! # ' $ ' & #! # ; A = H B* EH JD 9 EJD K J 5 4 ) 9 EJD 5 4 )
SIMULATION RESULTS 13 / 18 Table 5: Compensated welfare changes: Benchmark β λ 0.00 0.25 0.50 0.75 1.00 0.0 0.00 0.55 0.97 1.14 1.32 0.1 0.69 1.12 1.43 1.64 1.61 0.2 1.37 1.76 2.04 2.05 2.06 0.3 1.73 2.00 2.13 2.04 1.73 0.4 1.75 1.84 1.77 1.46 1.05 In percentage of remaining resources.
SIMULATION RESULTS 14 / 18 DISAGGREGATING THE EFFICIENCY GAIN Sensitivity Analysis: Insurance + liquidity + labor supply effect } {{ } } {{ 1.49 } } {{ 1.00 } 2.13 γ : 0.5 0.25 2.87 (Liquidity effect ) ρ : 0.6 0.7 1.41 (Labor supply effect ) η : 4.0 2.0 0.70 (Insurance effect )
SIMULATION RESULTS 15 / 18 Figure 2: Voting without increasing debt 2 H. H =? JE B+ D H JI 8 JA H I & $ " ' ' '! ' " ' # ' $ ' % ' & ; A = H B* EH JD 2 H. H =? JE B+ D H JI 2 H. H =? JE B8 JA H I
SIMULATION RESULTS 16 / 18 Figure 3: Welfare effects with increasing debt " ) L A H = C A 9 A B= H A + D = C A I E!! ' '! # ' $ ' & #! # ; A = H B* EH JD 9 EJD K J 5 4 ) 9 EJD 5 4 )
SIMULATION RESULTS 17 / 18 Figure 4: Voting with increasing debt 2 H. H =? JE B+ D H JI 8 JA H I & $ " ' ' '! ' " ' # ' $ ' % ' & ; A = H B* EH JD 2 H. H =? JE B+ D H JI 2 H. H =? JE B8 JA H I
CONCLUSIONS 18 / 18 CONCLUSIONS Tax-benefit linkage of the German pension system should be reduced! Result is robust and reinforced by sensitivity analysis! However, such a reform will not find political support! Future work: pension privatization; optimal progressivity of tax and pension system; mandatory vs. voluntary retirement accounts;