A pension reform to bring us closer to the leading Europe

Albert Martí
Professor at Master in Finance and Banking
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The reform of the pension system is necessary to make it sustainable given the demographic situation of the aging population. The draft reform presented by the Spanish Government is focused on occupational pension plans, one of the pillars of the system that currently exists in the State, but in an anecdotal way, while in the most advanced countries in Europe they are usual.

Pension systems have three pillars: the first is social security, that is, the public system through which the State collects income with contributions to pay pensions in a distribution mechanism. The second is the pension system promoted by companies, known as occupational pension plans, in which companies make contributions for their employees. The third is the individual pension plans promoted by financial entities.

The replacement rate in Spain is 80% and savings are very low, while in the EU it does not reach 60% and savings through the company and individually are much higher

But the Spanish pension system is basically based on the first pillar, in fact the replacement rate -the relationship between the first pension and the last salary- in the Spanish State is one of the highest in the OECD, around 80%. The second pillar is very little developed, and is mostly focused on large companies. They are not mandatory and depend on the will of companies. The last pillar, that of individual contributions, is also little deployed, because there is a lack of a saving culture and it has been closely linked to tax incentives. In this sense, the savings rate in pension plans in Spain is very low in the ranking when compared to other countries, around 16%.

Meanwhile, the replacement rate in the European Union (EU) does not reach 60% and the savings through the company and individual are much higher.

The Mercer CFA Institute Global Pension Index assesses pension systems around the world based on three criteria: pension system adequacy, sustainability, and integrity. Broadly speaking, this ranking is led by the countries of northern Europe, followed by a group of countries such as Israel, Australia, Great Britain or Switzerland. In 2021, Spain is in position 24 out of a total of 43 countries analyzed with an overall score of 58, in a medium-low position in the table. And it is precisely the criterion of sustainability that penalizes the Spanish State the most.

In other parts of the world there are different pension systems, moving away from this model of public and private contributions, there are countries in South America (Chile would be a clear example) where there is a commitment to capitalization systems, where each person generates their own pension through an individual savings system. The United States, Canada and Japan have public pension models that cover the most basic needs that are complemented by private initiative, encouraging savings with tax incentives.

The reform

With this reform, what is intended is to make the pension system sustainable by strengthening the pillar of occupational pension plans and promoting savings through business and individual contributions.

With this reform, what is intended is to make the pension system sustainable by strengthening the pillar of occupational pension plans and promoting savings through business and individual contributions

Currently, companies' occupational pension plans generate savings for workers. Companies -normally with large templates- do it voluntarily and workers can complement it. With the new law, a publicly promoted and privately managed pension fund will be created, with sectoral agreements or agreements, to which companies, SMEs and the self-employed will adhere.

And returning to the ranking of pension systems, it is precisely the countries of northern Europe that stand out because they have almost compulsory occupational pension plans. In other words, this reform seeks to bring us closer to a Europe with more sustainable pension systems. For example, in the Netherlands, collective agreements make it almost mandatory for companies and employees to adhere to these pension plans, and in the United Kingdom a system has been established where contributions to pension plans coexist on the part of the company, the employees and the State, thus alleviating the burden of the public pension through private savings.

Pros and cons

In summary, the positive points of this proposal are the promotion of the savings pillar through employment plans; the extension of these plans also to SMEs and the self-employed; public promotion that will lower management fees and a digital platform is also planned that will facilitate consultation and management by the participants.

The criticism leveled at it by unions and social organizations is that the proposal falls short, because if it is not made mandatory, many companies will not make contributions, and the reform will not be effective. On the other hand, employers and business organizations do not feel comfortable with the proposal either, since they ask for more tax incentives and bonuses for companies.

If participation in collective company plans is not made mandatory, many companies will not make contributions, and the reform of the pension system will not be effective

Finally, financial entities also join in the criticism, because they consider that the reform, with the reduction of individual contribution limits, drastically penalizes the third pillar. Until 2020, up to 8,000 euros could be contributed annually, with its consequent tax relief, in individual pension plans; and in this reform, from 2022, this maximum individual contribution is cut to 1,500 euros in a clear attempt to promote savings through employment plans.

For this reform to be substantial and have a real effect, these issues must be clarified. If this does not happen, shipwreck will be more than likely.

A turning point

We are at a turning point. In addition to the social and economic consequences, the pension reform also has political relevance, and although everything has an electoral cost, it is absolutely necessary to address it with immediate effects.

If we also take into account other issues related to the precariousness that plagues the country's working class and the pressure on business costs, we find ourselves with a complicated combination between the need to generate savings and the real capacity to do so.