Sunday, 20 March 2011

World Bank sponsored privatised pension pillar crumbling in Poland

In recent months one of the major areas of political debate has concerned the government's reform of the private pension system. This has brought up a range of other issues including public finances, public debt and privatisation. It has also created new divisions within the previously united liberal camp. A public televised debate between Leszek Balcerowicz and the present Finance Minister Jacek Rostowski is planned for this week.

Below I reproduce my article on this topic that was published by CEE Bankwatch. This is an NGO that monitors the activities of the international financial institutions which operate in central and eastern Europe, and proposes constructive alternatives to their policies and projects in the region. Take a look at their site - it has some interesting and useful commentary and analysis.

When Leszek Balcerowicz cries ‘No Pasaran’ you know that something is afoot. Yet this is precisely what the architect of the post-1989 shock-therapy reforms and the privatisation of the Polish pension system has recently been declaring in the face of the Polish government’s attempt to partially reform the country’s pensions.

The issue of how to provide for those in their old age has become a central issue for governments around the world. In the wake of the global financial crisis, many European governments have responded by introducing a wave of austerity measures, including attempts to raise the age of retirement. However, the crisis has also revealed how the privatisation of the pensions’ systems in some central and eastern European countries has in fact increased the fiscal burden on governments, whilst simultaneously decreasing the income that retirees will receive.

The blueprint for the private pension system evolved in Latin America, more precisely under the repressive dictatorship of Augusto Pinochet in Chile – the favoured administration of the Chicago Boys and the New Right. However, due to the unpopularity of the Pinochet regime, it was not until the mid-1990s that other countries began to emulate this model, as neoliberal governments were established in a number of Latin American countries and the World Bank began advocating a private pension scheme.

In 1994 the World Bank published a key report – ‘Averting the Old Age Crisis’ – that supported the establishment of a three-pillar pension system. Although this report stated that this could take a number of forms, the World Bank began to openly espouse pension reform based upon the Chilean model. The three pillars of this pension model are a publicly managed fund, a mandatory individual private fund and a voluntary private fund.

The advocates of this reform assumed that the rates of return in these individual private funds would be higher than in the public system and that it would provide an important freedom of choice to the individual. They also believed – following their ideological contours – that it would deliver a series of other benefits to the economy, such as increasing labour market incentives and reducing administration costs. Therefore, individuals would work later into life, as the more they pay into their own funds the more they would eventually reap. By 2002, ten countries had either partially or totally privatised their public pension system. In central and eastern Europe, where neoliberalism continued to exert significant influence, a number of countries – the Baltic States, Bulgaria, Hungary, Poland and Slovakia – followed suit.

Mass unemployment has been a feature of Polish capitalism, the jobless rate growing to over 14 percent by 1992 and only briefly dipping into single figures after Poland’s entry into the EU in 2004. With the introduction in 1990 of a very weak insurance system for the unemployed, many Poles responded by opting to retire – leading to a large rise in the number of pensioners and a surge in government pension expenditures. One of the major aims of the pension reform package, introduced by the right-wing coalition government in 1999, was therefore to institutionalise fiscal restraint and to encourage longer working lives through linking earnings to benefits. The government simultaneously ran a propaganda campaign showing future pensioners on exotic holidays wearing Hawaiian shirts, with the message being that individual pensions would be higher under this new private system.

However, the new reforms squeezed pensions in two ways. First, public pensions were no longer guaranteed to be 35 percent of the average wage and were indexed to price increases rather than wage growth. Second, by introducing a mandatory private fund, pensions were now at the mercy of the financial markets. The unspoken reality of the reforms was that future pensions were now not only going to be lower, but they would also be highly exposed to financial shocks.

The financial shockwaves that spread around the globe from autumn 2008 did indeed reveal the weaknesses of the Polish pension system. Almost immediately it became clear that the private pensions were going to be lower than people had been led to believe. In 2009, the first recipient of a mandatory private pension learnt that she would receive just ZŁ24 a month on top of her public pension. Admittedly, the woman in question had only been paying into the system for around ten years, but this nonetheless exposed how little these investments are actually worth. This was accompanied by Poland’s social insurance company (ZUS) sending, for the first time, projections of future pension levels to individuals paying into its scheme. People began to realise that their pensions would be even lower than those received presently by their parents – a sobering thought indeed.

At the same time, the financial crisis worsened Poland’s public finances, with the budget deficit exceeding seven percent of GDP in 2009 and public debt edging towards the government’s self-imposed limit of 55 percent. When the Polish pension system was reformed it was established that those aged 50+ in 1999 would remain within the old system. This meant that ZUS was required to continue paying these pensions, while 7.3 percent of total gross salaries was transferred to the private pension funds. This has added up to a total of ZŁ162bn since the beginning of the reform, equivalent to 11.4 percent of Poland’s GDP in 2010. This transfer has been one of the contributory factors to the growth of public debt, which has risen by 13 percent since the formation of the private pension funds.

The transfer of public money to private companies has to be further questioned when the level of profit that these companies have drawn from the public purse is considered. Professor Leon Podkaminer – from the Vienna-based Institute of International Economic Studies – estimates that in 2009 the private pension companies in Poland made a clear profit of around USD 766 million, from an investment of around USD 3 billion (ie, with a profit rate of 25 percent). While the privatisation of the pension scheme was supposed to extend individual choice and freedom, it has become clear that it has become a mandatory scheme for passing public money into the hands of private financial companies.

With public debt continuing to rise, the Polish government has realised that the present pension system could not be maintained. It therefore announced, in January this year, that it would be cutting the amount that is paid to the private pension funds, from 7.3 percent to 2.3 percent, with the clawed-back five percent to be used to cover the costs of present public pensions. However, the government has also stated that it will be seeking to increase the payments to the private pension companies to 3.8 percent by 2017.

Inevitably this has led to a barrage of criticism against the centre-right government, particularly from those who helped to privatise the system and who had previously considered the government to be political allies. The crux of their arguments has been that the government is reaching into the pockets of ordinary citizens in order to cover their own deficits. They argue instead that the government should seek more substantive reforms to reduce government expenditures.

As an alternative, Leszek Balcerowicz for one has proposed that the government introduces reforms such as raising the retirement age, taking away early retirement privileges, reducing funeral subsidies, stalling the planned lengthening of maternity leave, abolishing the one-off payment for newly born children and getting rid of VAT relief for hoteliers and the building industry. He also proposes that the government speeds up the privatisation process, in order to boost the government’s coffers. In fact one of the major criticisms, made by the original architects of the privatisation of Polish pensions, is that successive governments both failed to privatise enough and did not use these funds to cover over the hole left by payments to the private pension funds. However, the conception that it is either desirable or possible to continue selling state economic assets in order to cover the hole left by payments to private pension companies, is in itself highly dubious.

The move away, in recent times, from private pensions has not been restricted to Poland. Already governments in Latin America (including Chile, Argentina and Bolivia) have partly or fully nationalised their pension systems in recent years. In central and eastern Europe over the past 12 months Lithuania has reduced contributions to its private funds, Estonia has declared that it would freeze pension fund contributions, and in Bulgaria 20 percent of private vocational pension funds will put their assets under state control by 2014.

In Hungary, most notably, the current government announced at the end of last year that individuals would have to decide whether they wanted to invest in the state or the private pension system. Up to now, around 3 million workers in Hungary have been investing some of their pension contributions in private schemes and those that choose to remain with the private pension system will lose the right to draw their future state pension. By the February 1 deadline, 100,000 (or three percent) of Hungarian pension subscribers opted to stay in the private system. It is estimated that this de-facto nationalisation of the Hungarian private pension schemes will be worth USD 14.6 billion, a sum that the Hungarian government views as vital for working down the country’s national debt. The danger, however, exists that the Hungarian government will use these funds simply to cover its own public finance problems and meet the demands to cut its budget deficit laid down by the EU. Any return to a public pension system in Hungary should be combined with a commitment to use these accumulated funds to help valorise future pensions.

Sat alongside such reforms elsewhere, the recent decision of the Polish government can be seen to be rather modest. Moreover, a pressing question remains: if the private pension system has been such an obvious failure, why not just abolish it entirely?

That being said, and despite its coming under external political pressure, it is worth bearing in mind that the current Polish government happens to include many people with a personal interest in defending the private pension system. As has been documented recently in the Polish media, nine out of the 11 members of the present government’s Economic Council have worked at some time for a private pension fund. The Economic Council – created by Donald Tusk last year – is comprised of economists and businessmen who provide the prime minister with advice on economic issues and help to plan the government’s economic strategy. Therefore, while the Polish government may have made an important first step towards moving away from the private pension system, a large lobby group surrounds these pension companies and exerts a significant influence in national politics and the media.

If it’s of any reassurance to Leszek Balcerowicz, such interests are determined that any further move to abolish the private pension system in Poland ‘shall not pass’. The outlook for Poles working towards a pension, then, appears mixed, while for purveyors of Hawaiian shirts the main target market appears to be restricted for the time being to the top echelons of Poland’s private pension fund companies.

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