EKIP– Expert Club for Economics and Politics A Different Opinion
This week, the latest actuarial report of the National Social Security Institute was released, which analyzes the current financial state of the pension system and predicts future developments. The report says in plain text that there is not enough money for pensions, and the deficit in the National Social Security Institute will continue to grow in the coming decades until 2070. As a result, insurance contributions will have to continue to rise. And even now they have to be 30% of the insurance income, just to be able to cover the deficit in the system. It is with this news that all the media exploded these days.
Why are we paying so much for a broken system?
What this NSSI report fails to explain in plain text is that working Bulgarians in practice pay an average of 30% of their income to the pension system anyway. After all, all pensions are paid despite the deficit, right? The huge deficit of nearly 50% in the Pension Fund is annually covered by transfers from the state budget, which is financed by our taxes. That is, in one way or another, those insured are currently paying about 30% of their income to the pension system. They simply don't know it now.
The important thing is that this report explicitly acknowledges something that we at EKIP have been saying for 2 years now. Namely – the state pension system is in a state of practical bankruptcy and due to demographic trends there is no hope for improving its financial situation. Moreover – the deficit will continue to grow in the long term (this is also stated in the report), which requires even greater insurance contributions than the current ones and even greater transfers.
Here I would like to remind you that the pension insurance contribution is currently 14.8% for the third, most widespread category of labor. For the first and second categories it is even higher. This is one of the highest tax levels that we pay in the country anyway. And what is the return? Extremely pitiful, especially if we compare it with some fairly simple alternatives. If instead of pouring into the broken system of the National Social Security Institute, every worker could invest this 15% in a standard investment portfolio, the pension that he would be able to receive after his working life would be greater than the state pension currently is.
What reform does the pension system need?
In short, the latest report of the National Social Insurance Institute clearly shows that a reform of the pension system is necessary to ensure fair pensions. At EKIP, we have already published a proposal for a comprehensive reform by moving to a fully private funded pension system. In such a system, everyone is insured individually in their own account and, accordingly, what pension they will receive depends entirely on how much they have saved during their working life. This is both the fairest and the most stable system.
Of course, private pension funds in Bulgaria are not without problems, as we have written before, which also need to be addressed. But they are certainly a safer place for our savings compared to the National Social Security Institute. The financial stability of the system, as well as the pensions that current young workers can expect when they retire, can easily be improved in the short term by (partially) copying the Swiss pension model. In short, here is how this can be done in three simple steps.
1. The reduction factor should be reduced
The reduction coefficient applied to second-pillar pensions is currently too high. It is the main factor that currently leads to the paradoxical situation that if you are insured in the National Social Security Fund and in a private fund, you may have a lower pension than if you were insured only in the National Social Security Fund. The coefficient is currently 20% and should be reduced by at least half to eliminate this problem. Thank God, the government seems to be working in this direction, judging by the latest news.
This year, the first second pensions will begin to be paid, so the issue of the effects of this coefficient on their size was particularly relevant around the discussions of the state budget for the current year. At the time, we at EKIP said that the reduction coefficient was unfair and needed to be seriously reduced. Other experts also expressed similar opinions. It seems that the Ministry of Social Affairs has decided to listen, for the good of all pensioners.
2. Reform of regulations for private pension funds
Next, the regulation that applies to private funds must be changed so that they can offer more savings and investment products. First, they must be able to offer different savings products according to the age and specific financial situation of the insured. Second, the insured themselves must have the right to choose – whether they want their savings to be invested through a riskier strategy that can bring higher profits (i.e. pension) or through a more conservative one that prioritizes only the preservation of the purchasing power of the savings.
The biggest problem with private pension funds right now is that their overall returns are low, despite the relatively high fees. It is low precisely because of the extremely strict regulation that does not allow them to offer at least several different types of savings strategies. It also forces them to a very large extent to buy investment assets such as government debt, the returns of which, especially in recent years, have not been good at all due to the policies of central banks around the world.
Furthermore, it is absurd from a purely investment perspective to invest the money of one person at 25 and another at 55 in the same way. In order to improve the returns that funds bring, regulation needs to be "broken" to allow them to offer a different set of savings strategies that can be at least to some extent tailored to the specific financial situations and preferences of the insured.
3. Borrowing the Swiss social security model
In Switzerland, the pension system relies mainly on contributions to capital-based private funds, which vary from 7% to 18% depending on age, and a contribution equal to 8.4% of gross income to the state expenditure-based fund plays a basic social role. In our country, the contribution to mandatory private pension funds is too small – only 5%. Meanwhile, to the National Social Security Institute it is at least 3 times higher – 14.8% in the mildest case.
In the short term, it is a good idea to equalize the two. For example, the contribution to the National Social Security Institute should be reduced to about 10% for people born after 1960 and working in the third category of labor, and the contribution to private funds should be doubled to 10%. Of course, in the long term, it should not stop there. In the future, the private pillar of the system should become the main one, because it is more stable and fair, and the state one should be the complementary one with the prospect of its complete elimination.
In addition, again following the example of Switzerland, one could consider varying the pension contribution according to the age of the insured person. This is a good idea from the point of view of the specific financial context in which each of us finds ourselves at the beginning and end of our working life, respectively. At the beginning, income is always lower and accordingly any insurance and tax burden is felt particularly acutely. At the end of working life, income is usually higher and accordingly the burden is more bearable, even if it is higher. Then it makes more sense for it to be higher in view of the approaching retirement.
These three steps are not that difficult to implement. All that is required is the will to push them through as a pension reform. If the above proposals are implemented, in the long run pension levels will improve for most Bulgarians and the pension system will function on a far fairer principle. In the long run, we cannot rely on state pensions. The current model simply does not work and is doomed to lead to ever deeper deficits and desperately low pensions. The latest report by the National Social Security Institute shows exactly that.
