1. Chile’s 2008 re-reforms: what are they and what are the implications? By Estelle James, Alejandra Cox Edwards & Augusto Iglesias MRRC Research Workshop, April 2010 1

2. Chile is well-known for its 1981 social security reform Mandatory individual accounts—10% of wages invested by private pension companies – Pre-funded, so avoids implicit pension debt – Benefit depends on contributions + investment earnings so reduces implicit payroll tax and encourages work Tax-financed public pillar: – Min. pension guarantee (MPG) for contributors, – means-tested social assistance (PASIS—12% av. wage) for those with no other retirement income 2

3. High returns but problems developed Close linkage between benefits and contributions meant that those who didn’t contribute much got little if any pension. Studies showed low contribution density— typical for low and middle-income countries. Many workers self-employed or informal— contributions not required or enforced Special problems for women because of their low lfpr and wages—their benefits 1/3 males’ 3

4. Remedies in 1981 system MPG and PASIS provided public safety net Survivors benefits and joint annuities covered married women (keep own+joint). But: – MPG didn’t help those with < 20 years of contributions & posed work disincentives once 20 year eligibility was met – PASIS had long waiting list and low pension – Women had lower D&S rates than men, but paid same insurance fees (as % of W) In 2006 presidential candidate Bachelet promised to solve these problems, help women, 4

5. 2008 reform Some expected elimination of IA system but this didn’t happen Instead, tax-financed public benefits expanded, replaced MPG & PASIS, reach 2/3 elderly Incentives to contribute to IAs also increased New policies designed to help women What is the impact on pension distribution, work incentives, fiscal costs, system sustainability? We use CASEN 2006 data and simulations 5

6. 6 Main change--larger public benefit New flat basic benefit for elderly with no own- pension (19% av. wage)— replaces PASIS Phased out at 29.4% rate against person’s pvt pension, =0 when pvt pension=$425 (65% av w) – No contributory requirement; replaces MPG These benefits go only to elderly in bottom 60% of households—almost all in bottom 60% get some public benefit – Most elderly in top 40% have private pensions < $425 but get no public benefit 6

7. 7 Basic benefit = CH$75,000 if private pension = 0 APS = supplemental pension = basic benefit -.294 private pension PAF = private pension Total pension = basic benefit or (APS + private pension)

8. Measures to increase contributions Contributions mandatory for some self- employed Contributions subsidized for young low earners Private pension is only benefit for top 2 quintiles and for retirees < 60W/65M But public benefit is more than half total pension for bottom 3 quintiles >60/65 8

9. Policies designed to help women Major beneficiaries of new public benefits, espec. basic benefit for noncontributors Rebate for D&S insurance into their accounts New baby bonus into pension account Still benefit from survivors insurance + joint annuity Still can start public + private pension at 60 instead of 65 like men—missed opportunity for trade-off 9

10. Some impacts consistent with goals Increases pension coverage in bottom 60%; also raises av. pension amount – Lowers coverage and av. pension for top 40% Large redistribution to bottom 60% of hh, to noncontributors and women Decreases elderly poverty, but little impact on poverty over-all (would transfers to young families be more equitable?) Provides insurance against financial market risks and longevity growth 10

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12. But some potential impacts are problematic Disincentive for formal work and contributions Long run fiscal costs may be high Retirement age for men and women too low Dividing line between top 2 and bottom 3 quintiles ambiguous 12

13. Impact on contributions Non-contributors get much larger public benefit than before Private pension faces 29.4 % implicit tax in bottom 3 quintiles (Negative impact of MPG was concentrated in much smaller group) Inc and subst effect might discourage work, encourage self-employment and informality Pure flat ben would have avoided disincentive High-income countries with phased-out flat benefit have greater enforcement /collection capacity, less danger of informality 13

14. Fiscal impact Ministry of Finance did not make fiscal projections until after law was passed, did not spell out assumptions, no sensitivity analysis Expected fiscal impact small (1% GDP 2020) But costs could rise in long run due to policy and behavioral changes: if – wage indexation replaces price indexation – more elderly shift to bottom 3 quintiles – public benefits extended to top 2 quintiles – contributions fall due to disincentives – population ages due to longevity growth Our simulations show that fiscal cost in 2050 could be 3-4% GDP or 8% of wages (in addition to 13% of wages for private accounts, admin costs and D&S insurance). 14

15. 15 Sensitivity analysis: 2028PBSAPSTotal Start (based on initial pd) 0.470.420.89 + imputed cost of disability PBS+APS <65 0.520.460.98 GDP grows 100% 0.260.230.49 Wage growth leads to higher pensions 0.260.200.46 65+ group grows 115% 0.560.420.98 If public benefit is wage- indexed 0.830.641.47 If expanded to top 4 deciles 1.120.912.03 Total including other new public benefits 1.120.912.35 Projection to 2048 1.801.263.40 Estimated fiscal costs of Chile’s new public pillar (as % of GDP) Source: Authors’ calculations based on estimates of numbers of PBS and APS old age recipients in bottom 6 deciles of households, using 2006 CASEN data up-dated to 2008 $s

16. Lost opportunity to link starting age to longevity and equalize for M&W Women can start their pensions at 60, men 65 If start of private pension were delayed to 65, it would increase by 50%--greater gender equality & potential output, smaller pub. ben. If public pension were delayed to 65, this would save treasury money But age 60 was retained for women Tax burden will grow as longevity increases unless starting age for public pension is linked to life expectancy 16

17. Conclusions Increased coverage to virtually 100% Exclusion of top 2 quintiles and phase-out of public benefit designed to save fiscal costs Will private pensions decline as more workers become informal due to new implicit tax? Will work by women be discouraged? Can mandate for self-employed be enforced? Will fiscal costs rise due to wage indexation, extension of public benefits to top 40%? Cost trade-off could be improved if starting age were linked to longevity, same for W&M Economic sustainability unclear but political acceptance by broad l-r coalition increased 17