COMMUNICATION FROM THE COMMISSION TO THE COUNCIL, THE EUROPEAN PARLIAMENT, THE EUROPEAN ECONOMIC AND SOCIAL COMMITTEE AND THE COMMITTEE OF THE REGIONS - Draft Joint report by the Commission and the Council on Adequate and sustainable pensions

Executive Summary

Adequacy of pensions

Financial sustainability of pension systems

Modernisation of pension systems

Overall assessment

1. Introduction

2. The challenge of population ageing: demographic trends and public perceptions

2.1. Population ageing

2.2. Public perceptions

3. Adequacy

3.1. Objective 1: preventing social exclusion

3.1.1. Minimum pension guarantees

3.1.2. The risk of poverty among older people

3.1.3. Conclusion: Eliminating poverty risks in old age

3.2. Objective 2: enabling people to maintain living standards

3.2.1. Access to mechanisms for enabling people to maintain their living standard to a reasonable degree after retirement

3.2.2. Likely evolution of replacement rates

3.3. Objective 3: promoting solidarity

3.3.1. Solidarity between generations

3.3.2. Solidarity among the elderly

3.3.3. Ageing and the likely evolution of inequalities

3.3.4. Conclusion: the future of solidarity

4. Financial sustainability of pension systems

4.1. Objective 4: raise employment levels

4.1.1. Brief analysis of the current labour market situation (e.g. unused employment potential)

4.1.2. Main measures envisaged for raising employment

4.1.3. Analysis of the financial impact of the envisaged employment rate growth (excluding that of older workers) on pension systems

4.1.4. Conclusion

4.2. Objective 5: extend working lives

4.2.1. Current labour market participation of older workers

4.2.2. Medium and long-term targets regarding the employment of older workers

4.2.3. Measures to raise employment rates of older workers

4.2.4. Assessment of the financial impact of longer working lives

4.2.5. Conclusion: working longer is a powerful way of ensuring financial sustainability of pension systems

4.3. Objective 6: Making pension systems sustainable in a context of sound public finances

4.3.1. The current and expected impact of pension systems on public expenditure

4.3.2. Contributions of public pension schemes

4.3.3. General measures to ensure the financing of public pensions expenditure

4.3.4. Conclusion: financial sustainability of public pension systems and sound public finances

4.4. Objective 7: adjust benefits and contributions in a balanced way

4.4.1. Reducing the burden on future generations

4.4.2. Maintaining pensions adequacy

4.4.3. Conclusion: Risk sharing between the active and the retired

4.5. Objective 8: ensure that private pension provision is adequate and financially sound

4.5.1. Current and envisaged role for occupational and private pension provision

4.5.2. Regulatory frameworks for private pension provision

4.5.3. Reducing administrative costs

4.5.4. Conclusion: contribution of funded schemes to future pension provision

5. Modernisation: Responding to changing needs

5.1. Objective 9: adapt to more flexible employment and career patterns

5.1.1. Access to pension rights

5.1.2. Portability of pension rights

5.1.3. Conclusion: Improvements needed in second pillar provision

5.2. Objective 10: meet the aspirations for greater equality of women and men

5.2.1. Gaps in the pension situation of men and women

5.2.2. Gender differences in pension legislation

5.2.3. Measures to promote greater gender equality in pension systems

5.2.4. Conclusion: impact of pension systems on gender equality

5.3. Objective 11: demonstrate the ability of pension systems to meet the challenges

5.3.1. Monitoring of pension systems

5.3.2. Mechanisms for building political consensus

5.3.3. Information to beneficiaries

5.3.4. Conclusion: information as a driver of change

6. General conclusions and next steps

6.1. Meeting the common objectives

6.2. Further co-operation at EU level

ANNEX - Country summaries

BELGIUM

DENMARK

GERMANY

GREECE

SPAIN

FRANCE

IRELAND

ITALY

LUXEMBOURG

THE NETHERLANDS

AUSTRIA

PORTUGAL

FINLAND

SWEDEN

UNITED KINGDOM

COMMUNICATION FROM THE COMMISSION TO THE COUNCIL, THE EUROPEAN PARLIAMENT, THE EUROPEAN ECONOMIC AND SOCIAL COMMITTEE AND THE COMMITTEE OF THE REGIONS - Draft Joint report by the Commission and the Council on Adequate and sustainable pensions

Executive Summary

Several European Councils, from Lisbon to Barcelona, have highlighted the challenge of an ageing population and its implications for the maintenance of adequate and sustainable pensions. This challenge was underlined in the conclusions of the Stockholm European Council in March 2001, which laid the ground for the open method of co-ordination on pensions. This process was finally launched by the Laeken European Council in December 2001 on the basis of eleven common objectives under the three headings: safeguarding the capacity of systems to meet their social objectives, maintaining their financial sustainability and meeting changing societal needs.

National Strategy Reports on Pensions were submitted in September 2002, in which Member States present in detail how they are trying to meet the eleven common objectives. Subsequently, the Commission services analysed the National Strategy Reports with a view to assessing the achievement of the eleven common objectives.

Adequacy of pensions

All Member States ensure that most people earn pension rights and provide a minimum level of income to older people who earned insufficient pension entitlements. An important achievement of pension systems is that old age is no longer synonymous with poverty. In many Member States, the poverty risk of older people is lower than for younger people. Particularly in those Member States where poverty risks remain high, a broad range of measures to improve minimum income guarantees and various benefits in cash and in kind are being introduced.

Pension systems, through public earnings-related schemes (first pillar), private occupational schemes (second pillar) and individual retirement provision (third pillar), provide good opportunities for most Europeans to maintain their living standards after retirement. As a result, and in combination with other tax-benefit policies for pensioners, older people, in most Member States, generally achieved a fair, and in some Member States even relatively high, living standard. The maturing of the pension systems and the greater participation of women have contributed to raising average pension levels. In the future, many Member States expect further improvements in pension provision, inter alia, through allowing individuals to earn additional pension rights by postponing their retirement and encouraging the social partners to establish sector-wide pension schemes based on mandatory collective agreements. Whilst most pension income will continue to be provided by first pillar schemes, Member-States are also promoting private provision.

Member States have built strong redistributive elements into their first pillar pension schemes, notably in the form of minimum pension guarantees or credits for certain periods without pensionable income (e.g. unemployment, parental leave etc.). This has contributed to reducing income disparities among pensioners, often more than among the population as a whole. Greater reliance on occupational pension provision, often supported by collective agreements, or public pension provision with strong solidarity elements and with a strong link between contributions and benefits, will increase the adequacy of pensions and promote fairness between generations.

Financial sustainability of pension systems

Over the past few years, Member States have recognised the urgency of making pension systems financially stable in view of the limited window of opportunity that exists before the ageing population takes effect. In this context, an approach based on raising employment rates, reducing public debt levels and reforming pensions systems, also underpinning the Broad Economic Policy Guidelines, has been widely incorporated in Member States' strategies.

All Member States see their efforts to raise employment rates as an important element in their long-term strategy for making pensions sustainable. Higher employment rates imply that more people can shoulder the financing of benefits and, thus, that benefit levels can be maintained. Projections of public pension expenditure [1] indicate that, if the Lisbon employment targets were to be achieved, with continued employment growth beyond 2010, the increase of public pension expenditure as a percentage of GDP could be reduced by about one third in 2050, compared to the baseline scenario of unchanged policies. This means that higher employment rates alone will not solve the problem of the financial sustainability of pension systems..

[1] Carried out by the Member States in 2001 under the auspices of the Economic Policy Committee.

Currently, most Europeans retire before reaching the statutory retirement age. If a one-year increase in the effective retirement age could be achieved without increasing pension entitlements, the expected pension expenditure rise would be cut by 0.6-1 percentage points of GDP in 2050. This means that a one-year increase in the effective retirement age would absorb about 20% of the average expected increase in pension expenditure in 2050. Member States have declared their commitment to delay the take-up of early pensions and are in the process of reforming early pension systems and labour market policies. However, in many cases, the pace of reforms falls short of what is required to achieve the Stockholm and Barcelona targets for the employment rate of older workers (50% by 2010 compared to 38.5% today) and for an increase in the effective retirement age by five years by 2010.

Some Member States have put, or are putting, in place comprehensive strategies for ensuring the sustainability of pension systems and public finances as a whole in accordance with the three-pronged strategy incorporated in the framework of the Broad Economic Policy Guidelines. However, large expenditure increases on public pensions are projected for most Member States and, in addition, some countries are still hampered by high debt ratios and the need for budgetary consolidation. Further reforms in all three areas are needed, in particular further pension reforms in those Member States which have not yet safeguarded the long-term sustainability of pension systems.

Member States realise that, in view of the high financial burden of rapidly deteriorating dependency ratios, fairness between generations will be at risk. To prevent adverse effects on employment, care should be taken to avoid increasing the total tax burden, in particular on labour, and to achieve a sustainable balance between taxes on labour, on the one hand, and other forms of taxation, including on capital, on the other. Several Member States have addressed the consequences of the baby-boom generation on pension systems by establishing reserve funds in public pension schemes with the aim of avoiding large increases in contribution rates. Many Member States have also created better opportunities for supplementary private provision and private funding, thus reducing pressures for public expenditure increases. A few countries have changed their public pension systems to notional defined-contribution systems, with the aim of stabilising contribution rates across generations and incorporating better incentives to work, thus contributing also to meet the objective of higher employment rates.

Financial sustainability of funded pension provision depends on the sound governance of the funds and on the performance of financial markets. The risks for funded pension provision can be greatly reduced through effective supervision and prudent asset management. The directive on institutions for occupational retirement provision, currently under discussion in the Council and the European Parliament, will be a major step of progress in this regard.

Modernisation of pension systems

Statutory schemes, by and large, respond well to the challenge of providing pensions for atypical (part-time, temporary, self-employed workers) and mobile workers. In contrast, the situation in the second pillar schemes cannot yet be regarded as satisfactory: atypical workers continue to be less well covered by occupational schemes and, in many Member States, workers who change jobs tend to end their careers with reduced occupational pension rights compared to workers who remain with the same employer.

Member States are gradually adapting their pension systems to the evolving social and economic roles of men and women. They are moving to new rules that aim at facilitating the reconciliation between family responsibilities and work for both parents. However, in spite of such measures and increased labour market participation of women, significant differences between women's and men's pension entitlements will persist for a long time to come.

Finally, most Member States have made efforts to improve the transparency of their pension systems, both at the level of systems as whole and with regard to individual entitlements. They also acknowledge the importance of consensus building for the development and reform of pension systems.

Overall assessment

The first comprehensive assessment of national pension systems and policies at EU level shows that Member States are moving towards financially sustainable pension systems that will be able to provide adequate pensions in the future, in particular at the time when population ageing accelerates. Member States are fully aware of the interdependence between financial sustainability and adequacy in the context of an ageing society: the financial sustainability of pensions systems is a necessary precondition for an adequate provision of pensions in the future, while ensuring adequacy is a precondition for obtaining political support for the necessary reforms of pension systems.

The national strategy reports present a wide range of positive developments with regard to the common objectives. While financial challenges have been the main driving force for reforms, Member States have taken care not to undermine the social objectives of their pension systems and are making efforts to adapt their pension system to changing societal needs. This balance between social and financial concerns is key for the political success of pension reforms. All Member States have started their reform processes and a number of Member States have implemented major, a few even radical, reforms during the 1990s. Notwithstanding this, a large number of countries see the need for further reforms in order to safeguard the long-term sustainability of their pension systems as well as sound public finances.

The momentum behind the reform process to secure the sustainability of adequate pensions must be maintained. These reforms should be seen in the context of the coordinated efforts by the Member States to implement the growth strategy required by the Lisbon summit, including structural and fiscal reforms and better and more productive public investment. Many Member States face very high expenditure increases in their pension systems under current policies and have yet to take measures to cope with these financial challenges without jeopardising adequacy. Improving incentives for older workers to remain longer on the labour market will be particularly important. This can be achieved notably by strengthening the link between contributions and benefits. Moreover, the financial basis of pension systems can be strengthened through increased public and private funding. Finally, future adequacy also depends on the adaptation of pension systems to more flexible employment and career patterns and to the changing roles of men and women in society.

Ageing will start to produce its effects on pension systems within the next ten years in many Member States. It is therefore urgent to put in place credible and effective strategies and to give clear signals to citizens about what they can expect from their pension systems and what they have to do to achieve an adequate living standard in retirement.

1. Introduction

Several European Councils have highlighted the challenge of ageing populations, in particular its implications for maintaining adequate and sustainable pensions. The Lisbon Council (2000) stressed the need to study "the future evolution of social protection from a long-term point of view, giving particular attention to the sustainability of pensions systems in different time frameworks up to 2020 and beyond, where necessary". This was followed by the endorsement at the Gothenburg Council (2001) of three broad principles for modernising pension systems, namely: "safeguarding the capacity of systems to meet their social objectives, maintaining their financial sustainability and meeting changing societal needs".

A joint report [2] by the Social Protection Committee and the Economic Policy Committee addressed to the European Council in Laeken (December 2001), called for the use of the open method of co-ordination in the area of pensions "to help Member States progressively develop their own policies so as to safeguard the adequacy of pensions whilst maintaining their financial sustainability and facing the challenges of changing social needs." It set out eleven common objectives under the three principles endorsed at Gothenburg.

[2] Quality and viability of pensions - Joint report on objectives and working methods in the area of pensions

Finally, the Barcelona Council (2002) called "for the reform of pension systems to be accelerated to ensure that they are both financially sustainable and meet their social objectives" and, in this context, stressed "the importance of the joint Commission and Council Report on Pensions to the Spring 2003 European Council, to be drawn up on the basis of the National Strategy Reports due in September 2002." As input to the latter report, Member States submitted National Strategy Reports in September 2002 in which they present in detail how they are trying to meet the eleven common objectives. These reports show that Member States have taken, and are continuing to take, a variety of measures to address the eleven objectives. With regard to goal of financial sustainability of pension systems, Member States have integrated in their approaches the three-pronged strategy to tackle the budgetary implications of ageing populations established at the Stockholm Council and thereafter incorporated in the 2002 Broad Economic Policy Guidelines. The three prongs are: raising employment rates, reducing public debt levels, and reforming pensions systems themselves. The aim is to contain pressures on public finances and place pension systems on a sound financial footing. The measures taken by the Member States include, in particular, limiting the flow into early retirement schemes, increasing incentives for lengthening working lives and retiring later, and increasing future budgetary margins by reducing public debt or building up public pension reserve funds.

The responsibility for designing and managing pension systems remains with the Member States, in accordance with the principle of subsidiarity. While there is no intention to change this, it is now widely accepted that the adequacy and sustainability of pension systems have implications that go beyond national borders. This was first accepted in the area of economic policy and public finances: the stability of the common currency depends on sound fiscal policies. Ageing populations represent a major challenge for public finances in view of the fact that a share of around one tenth of the EU's GDP is currently devoted to public spending on pensions.

However, ageing is also a major challenge for the ability of pension systems to meet their social objectives, namely to provide adequate and fair incomes to older people and prevent poverty in old age. From a European point of view, it is also important to ensure that increasing numbers of migrant workers who have earned entitlements to pensions in different Member States can rely on receiving the benefits they were promised and will not have to claim social assistance in their country of residence.

As requested by the Stockholm and Barcelona European Councils, the impact of rising age-related expenditures on public finances is assessed in the framework of the Stability and Growth Pact. Each year, Member States submit their Stability and Convergence Programmes, which provide targets for achieving the long-term sustainability of public finances. In addition, the Laeken European Council which endorsed the working methods and common objectives for the open method of coordination of pensions, states that this latter process "takes its place alongside a range of existing, well functioning EU processes which, as part of their wider remit, deal with aspects of pension policies". Moreover, it requires that this process "does not change the respective responsibilities of policy makers at European and national level". The open method of co-ordination launched at the Laeken European Council establishes an integrated framework which will take into account the existing policy co-ordination activities in other areas (economic policy, public finances and employment, in particular) and feed its results into the further development of these other processes.

A major benefit of this new co-operation will be to promote mutual learning. Member States are faced with many similar problems - and most of all the common challenge of ageing populations. Far from imposing constraints on national policy makers, the open method of co-ordination will increase their ability to assess their relative performance, raise awareness of other policy options and promote a better understanding of the advantages and problems of these different options.

This report is the first comprehensive analysis of national strategies in the area of pensions and presents how Member States are responding to the challenge of population ageing while taking into account the three broad goals of adequacy, sustainability and modernisation.

2. The challenge of population ageing: demographic trends and public perceptions

2.1. Population ageing

Over the coming decades, the EU will face a significant acceleration of demographic ageing due to three main factors: (i) the baby-boom generation reaching retirement age, (ii) continuing increases in life expectancy, and (iii) decreased fertility since the 1970s. The first of these factors will create a temporary demographic imbalance, while the effects of the two other factors are continuous. However, all three factors combine to produce a major financial challenge for pensions systems over the coming decades when the number of pensioners will rapidly increase and the size of the working-age population will diminish. There is a risk that the resulting increased old-age dependency ratio places an unsustainable financial burden on the active population in the future, while at the same time adversely affecting the Europe's economic growth potential.

It is expected that, by the year 2050, Europeans will live at least four to five years longer than today (see chart 1 below). Given that today's remaining life expectancy at 65 is about 15 ½ years for men and 19 ½ for women, an increase of 5 years will raise the cost of providing the same pension level by 25 to 30 percent. This, however, is only about half of the demographic challenge that Europe has to prepare for. The other major change stems from the fact that large cohorts born after World War II, the baby-boom cohorts, will reach retirement age and subsequent cohorts are much smaller as a result of lower birth rates. This can be seen from Europe's population pyramid (see chart 2) where people between 35 and 55 are currently very numerous. In the coming 10 to 15 years these large cohorts will start retiring and drawing their pensions.

Chart 1

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Source: EUROSTAT Population projections - Baseline scenario

Chart 2

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Source: EUROSTAT Population projections - Baseline scenario

The combined effect of large cohorts reaching retirement age and rising life expectancy will be a doubling of the old-age dependency ratio, i.e. the number of people of retirement age (65+) in relation to the working-age population (15-64). In the year 2000, the over-65s represented about one quarter of the working-age population; by 2050 it will be nearly 50%.

Chart 3

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a) Number of people aged 65 years and over as a percentage of people aged 15-64. Source: EUROSTAT Population projections - Baseline scenario

The Stockholm European Council in March 2001 addressed the demographic challenge of an ageing population in which people of working age will constitute a smaller part of the total population. It stated that "[t]he number of retired women and men will increase rapidly, while the share of the working-age population will start to diminish by 2010. This will create substantial pressure on social welfare systems, in particular pensions, health care systems and care for the elderly. [3] The union and member states are acting now by defining new approaches (...). The coming decade offers an opportunity to address the demographic challenge by raising employment rates, reducing public debt and adapting social protection systems, including pension systems."

[3] The Commission will examine the issues of accessibility, financial sustainability and quality of health and long-term care systems for the elderly in a separate communication.

2.2. Public perceptions

The potential impact of these demographic developments on pension systems causes serious concern in all Member States. Awareness of the problem has been growing, both among policy makers and citizens, as is shown by the results of a Eurobarometer survey conducted by the Commission in the Autumn of 2001 (see chart below). [4]

[4] The Commission announced its intention to carry out a survey on pensions and pension reform in its Communication of 11.10.2000 on "The Future Evolution of Social Protection from a Long-Term Point of View : Safe and Sustainable Pensions (COM(2000) 622 final). The aim was to gauge public awareness and expectations regarding the modernisation of pension systems. This section only presents a small selection of results that are particularly relevant in the context of this report. A more comprehensive analysis of the results is forthcoming. Questions were presented to representative samples of the population aged fifteen years and over in each Member State. The regular sample in standard Eurobarometer surveys is 1000 people per country except in Luxembourg (600) and in the United Kingdom (1000 in Great Britain and 300 in Northern Ireland).

Chart 4

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Awareness of these demographic challenges, which are mainly seen as a problem for public pension schemes, probably leads many Europeans to take a rather pessimistic view of their future state pension entitlements. A majority of Europeans expects to have some difficulties getting by on their state pension, and there is a large proportion of people who have no clear idea on what to expect: nearly 30% of the people interviewed responded 'Don't know'.

Chart 5

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The results may reflect doubts about the future viability of statutory pension schemes and a lack of confidence in government policies, but also, at least in some countries, some confusion about what is meant by 'state pension'. In any case, confidence is fairly high regarding the financial situation after retirement which depends not only on income from different pension schemes, but also on other factors such as savings and home ownership. This more general question on people's anticipated situation after retirement shows that about 20% of Europeans are worried about their situation after retirement, whereas more than 60% express confidence. The highest levels of confidence can be observed in the Nordic countries. It is also interesting to note that fewer people responded 'Don't know' to this question on the overall situation after retirement.

Chart 6

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An obvious policy response to increased life expectancy would be to raise the retirement age so that the balance between time spent working and time spent in retirement remains unchanged. This would make it possible to maintain adequate pension levels without having to raise contributions or tax rates to finance pension schemes. It may not be necessary to raise the statutory pensionable age which is typically 65 years in most Member States. In practice, only a minority of people stay on the labour market until they reach the statutory pensionable age. Most Europeans intend to retire between 56 and 60, and very few expect to be still on the labour market after age 65 (see chart 7).

Chart 7 At what age do you intend to retire?

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Changing attitudes with regard to retirement practices will be a major challenge for policy makers. Clearly, raising the statutory pensionable age will not be a popular policy response to the challenge of demographic ageing: fewer than a quarter of Europeans would support such a move (see chart 8).

Chart 8

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However, maintaining the current standard retirement age does not mean that one cannot raise the effective labour market exit age and bring it closer to the statutory pensionable age. It is also worth pointing out that the average retirement age was higher in the 1960s than it is today, even though, at the time, remaining life expectancy at 65 was much lower and the health status of people aged 65 less good than it is today or than it is likely to be in a few decades.

Raising the effective retirement age requires that incentives for longer labour force participation be built into pension schemes. This can take the form of a close actuarial link between contributions and benefits, an idea that is, in principle at least, supported by public opinion (see chart 9).

Chart 9

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At the same time the view that older workers should make room on the labour market for younger and unemployed people is still widely held. The 'lump-of-labour' fallacy, i.e. the idea that there is a given number of jobs that needs to be shared in as fair a manner as possible still appears to be deeply rooted in public opinion. But this is certainly not the case everywhere. In Denmark, the Netherlands, the UK and Ireland, where public awareness of age discrimination recently has been raised by large debates and government agency campaigns, the majority is equally emphatic in their disagreement with the proposition. Since it is not so long ago that attitudes in these countries were similar to those presently held by the majority it would appear that sentiments can develop and change when people, over a sustained period, are exposed to debates on these issues.

Chart 10

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A majority of Europeans also still thinks that retirement should be mandatory at a fixed age, but again opinions differ considerably between Member States. The case of Italy is interesting: there appears to be strong support for mandatory retirement, but this did not prevent the government to introduce (over a long transition period) a highly flexible systems where individuals have a large degree of freedom to decide when they want to retire and to determine their pension level through the choice of the moment when they retire.

Chart 11

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Earning additional pension entitlements by postponing one's retirement can be an important way of ensuring that pension provision remains adequate in a context where replacement rates are being reduced in response to a less favourable balance between the active and the retired. However, this idea, which is already being implemented in some reformed pension systems, is not yet widely accepted by public opinion (see chart 12).

Chart 12

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The idea that pensioners should be allowed to earn some income in addition to their pension - another way of encouraging labour market participation of older workers and of ensuring better living standards for pensioners - is more widely accepted, but there is still a significant proportion of Europeans who think that it should not be possible to combine income from work with a pension (chart 13).

Chart 13

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These highlights from the Eurobarometer survey appear to indicate that public attitudes in several Member States lag behind a reform process that is already well engaged. Creating greater awareness of what reform measures are needed and what the benefits from these to older workers, pension contributors and pensioners can be should therefore be a priority, particularly as far as the link between employment and pension systems is concerned.

3. Adequacy

Pension systems are one of the major social achievements of our time. They have successfully reduced the risk of poverty in old age, so much so that older people are often less at risk of living in poverty than younger people. Pension systems are also an important feature of modern economies. They make the elderly economically independent of their descendants, allowing people of working age to be more mobile than if they lived in traditional three-generation households.

Most people can enjoy their pension at an age when they are still fit and healthy. Thus retirement is regarded as an important reward at the end of one's working life, enabling people to start new projects and to change their life style.

Although pension systems differ considerably from one Member State to another, all Member States pursue similar social goals as outlined in the Joint report to Laeken on Quality and viability of pensions: prevent poverty among the elderly; allow people to maintain, to a reasonable degree, their living standard after retirement; and promote solidarity within and between generations.

3.1. Objective 1: preventing social exclusion

Ensure that older people are not placed at risk of poverty and can enjoy a decent standard of living; that they share in the economic well-being of their country and can accordingly participate actively in public, social and cultural life [5].

[5] In this respect, benefits and tax advantages other than pensions should also be taken into account where appropriate.

3.1.1. Minimum pension guarantees

An important feature of European welfare systems is the existence of provisions to guarantee a minimum level of resources. In the case of working-age people there may be a concern with how such means-tested social assistance schemes interact with the incentive to work. In the case of people above the retirement age there are no such concerns. Moreover, it is certainly more accepted that older people receive a guaranteed income from the state than younger people who could be expected to earn a living for themselves.

Consequently, older people generally enjoy a better level of minimum protection than working-age people. Denmark and the Netherlands provide a universal, non-means-tested flat-rate pensions linked (indirectly in the case of NL) to earnings to all persons who have been residents at working age. The new Swedish pension system includes a guarantee pension that is only means-tested against income from the statutory earnings-related pension scheme. In other countries tighter means-tests may apply to such top-up benefits designed to raise incomes to the guaranteed minimum level. However, comprehensive means-tests may act as a disincentive to save for ones own retirement. The UK is addressing this problem with the new 'Pension Credit', a means-tested entitlement that allows people to combine income from their pension saving with means-tested benefits so that their income rises above the guaranteed minimum.

It is important to stress the subsidiary nature of many of these schemes. Pension systems are generally designed to prevent poverty in old age, rather than alleviating it, by ensuring that everyone builds up sufficient entitlements in public and/or private schemes to remain financially independent of their relatives or public social assistance. The minimum guarantee schemes generally act as an ultimate social safety net for those with incomplete careers (e.g. women, immigrants) or very low earnings during their working lives. Germany, France and Austria stress that the number of people relying on minimum provisions declined substantially over recent decades as a result of better pension entitlements earned in the pension system. Greece and Italy report the opposite trend, but this is due to the fact that the minimum amounts were raised.

Table 1 below illustrates the diversity of minimum income guarantees in the Member States; however, comparisons are difficult in view of the different modalities of such mechanisms - sometimes even within a given country. In some countries, the minimum income guarantee takes the form of a flat-rate benefit that is awarded after a full contribution career (UK, IRL) or on the basis of residence (NL, DK). A majority of Member States offer top-up payments to raise earnings-related pension entitlements to a specified minimum level. These mechanisms are usually sufficient to provide an adequate minimum except for people with incomplete insurance careers or people who have not been residents in the country for long enough. In such cases, fully means-tested social assistance benefits are available.

Table 1: Minimum income guarantees for older people

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3.1.2. The risk of poverty among older people

Many of these schemes were introduced only recently or are in the process of being introduced. Member States also report efforts they have made recently to raise minimum protection levels for the elderly. This should be borne in mind when analysing the results of the European Community Household Panel (ECHP). The latest available data reflect the income situation in 1998. The ECHP income data do not reflect home ownership (as imputed rent) and hence fail to capture a major determinant of living standards. The wide range of benefits in kind (e.g. health and social services, free public transport, reduced prices for various goods and services such as telephone connections, energy etc.) that are available to the elderly in some Member States are also not covered. It also needs to be borne in mind that ECHP income data are assessed for households and then individualised using an equivalence scale. [6] Thus income data based on the ECHP are not individual incomes of men and women or of older or younger people, but a share of the household income in which these individuals live. Higher poverty risks for women - or lower average incomes - therefore mean that women are more likely to live in a household at risk of poverty or with a lower household income. The ECHP does not cover people who do not live in private households, but, for instance, in residential care. Finally, poverty risks measured by reference to an income threshold (e.g. 60% of median income) give an incomplete picture of the situation. A minimum income guarantee set just above the income threshold will ensure very low risk-of-poverty rates even though the actual income situation would be only marginally different from the one resulting from a minimum income guarantee slightly below the threshold. Such an effect may explain for instance the big gap in several Member States between the proportion of people living in households with less than 60% of median income and households with less than 50% of median income (see chart 14).

[6] For details, see the methodological note on background statistics in the country summaries annex.

The data presented in chart 14 show that poverty risks vary considerably from one country to another and that they are usually higher for women than for men. However, the introduction of a new minimum guarantee or an increase in the level of this guarantee can change the picture substantially. This could for instance be the case for the UK where the new Pension Credit will make significant progress towards ending pensioner poverty. Unfortunately, the effects of better minimum income guarantees can only be observed with a long time lag in European income survey data.

Chart 14

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a) See methodological note to the background statistics in the country summaries annex. Source: ECHP-UDB, Eurostat, version December 2002. Data for the UK is provisional. The weights for the Spanish data will be revised. Data for Sweden only cover persons aged less than 85; see methodological note.

Table 2: Risk of poverty (% of people under the poverty line) and income level of people aged 65+ as a % of the income of people aged 0-64 years, 1998 (ECHP)

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For the EU as a whole, the risk of poverty for older people was only slightly higher than for the population below the age of 65, mainly as a result of the lower incomes of women. Men over 65 are no more exposed to the risk of poverty than men below 65. However, the 1998 data indicate that around 17% of people over 65 are at risk of poverty if 60% of median income is used as a threshold and about half this proportion if 50% of median income is used. [7] Older people are therefore exposed to a similar level of poverty risks as the population as a whole..

[7] Age 65 can be regarded as representative of the statutory pensionable age in most Member States. However, in some countries the standard retirement age is lower for women or both men and women (France: 60). Moreover, in practice most people withdraw from the labour market before they reach the age of 65. Using age 60 as a threshold would result in observing lower poverty risks and higher relative living standards of older people.

Chart 15

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a) See methodological note to the background statistics in the country summaries annex. Source: ECHP-UDB, Eurostat, version December 2002. Data for the UK is provisional. The weights for the Spanish data will be revised. Data for Sweden only cover persons aged less than 85; see methodological note.

The oldest pensioners (aged 75 and over) tend to be more at risk of poverty than younger pensioners. This may be due to several factors: older cohorts may have earned lower pension entitlements (for instance through employment in sectors with less well developed pension provision or under legislation that resulted in less generous pensions); inflation may have eroded the purchasing power of an individual pension benefit since the time when is was first claimed; there may be more single-person households of widows and widowers without sufficient survivors' benefits to maintain the same equivalised income. Women represent a majority of these older pensioners over 75.

Chart 16

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a) See methodological note to the background statistics in the country summaries annex. Source: ECHP-UDB, Eurostat, version December 2002. Data for the UK is provisional. The weights for the Spanish data will be revised. Data for Sweden only cover persons aged less than 85; see methodological note.

The future need for, and hence cost of, these minimum guarantees will very much depend on whether future pensioners will have earned sufficient pension entitlements under public and private schemes to lift them above the guaranteed minimum levels. Structural change in the Southern European countries has resulted in more people having completed long careers with good pension insurance cover. Increased female labour force participation will raise women's individual pension entitlements. Finally, as will be discussed under objective 2 below, the development of supplementary private provision is likely to compensate in several countries for somewhat less generous public pension benefits, notably as a result of index-linking to prices rather than earnings and automatic adjustment mechanisms sometimes linked to a switch to defined-contribution schemes. Most Member States expect that minimum guarantee schemes will continue to play a residual role and will not have to cater to a large proportion of the pensioner population.

3.1.3. Conclusion: Eliminating poverty risks in old age

All Member States have provisions which provide a minimum level of income to older people who have not, for one reason or another, earned sufficient pension entitlements in their own right. In 1998, older people, in the EU as a whole, faced about the same risk of poverty as people below the age of 65. In several Member States, however, poverty risks are significantly higher for older people. It remains to be seen whether the measures for improving minimum pension levels and the dynamics of pension systems (more pensioners with full careers etc.) will reduce poverty risks over the coming years.

3.2. Objective 2: enabling people to maintain living standards

Provide access for all individuals to appropriate pension arrangements, public and/or private, which allow them to earn pension entitlements enabling them to maintain, to a reasonable degree, their living standard after retirement.

The purpose of pension systems is not limited to ensuring that older people do not have to live in poverty. They should also provide arrangements that allow people to maintain, to a reasonable degree, the living standard they achieved during their working lives. [8] The Member States recognise this need and most of them cater for it to a significant extent within the (earnings-related) statutory pension schemes. However, they also create opportunities for additional private provision in collective (second pillar) or individual (third pillar) schemes, and encourage such pension savings notably through tax incentives.

[8] This will normally require a lower income as older people tend to have less family obligations, no more work-related expenditures and are more likely to own their accommodation.

Member States generally do not have explicit targets regarding the level living standards after retirement compared to the situation before retirement. Germany is committed to maintaining replacement levels of 67-68% under the first pillar in 2030 for a worker on average earnings and 45 insurance years, but this figure is rather theoretical and not necessarily representative of real pension outcomes. Greece has recently adopted a law which aims at adjusting replacement rates to the 70%-rate from the primary pension scheme for all employees by reducing replacement rates for older cohorts and increasing them for younger cohorts. Finland has a target of 60% income replacement through the statutory scheme, irrespective of the income bracket (maximum level for a full career of 40 years). These examples concern the first pillar. Regarding second and third pillar provision, implicit targets can sometimes be deduced from tax rules. Contributions to pension schemes are only deductible from earnings up to a certain amount. In the Netherlands, this amount is limited to what is needed to achieve a gross replacement level of 70% of gross final earnings after a 40-year career.

3.2.1. Access to mechanisms for enabling people to maintain their living standard to a reasonable degree after retirement

In most Member States statutory pension schemes provide earnings-related pensions, thus contributing to maintaining one's living standard after retirement. Benefits under these pension schemes are related to earnings either during a specified number of years towards the end of the career or increasingly during the entire career.

In three Member States, Denmark, Ireland and the Netherlands, statutory provision consists mainly of flat-rate pension benefits. In the UK, in addition to the flat rate pension, the "State Second Pension" provides an earnings-related additional pension which is particularly beneficial to people on low incomes. Others may choose to opt out in favour of private occupational or personal retirement provision. In these countries, the ability to maintain one's living standard after retirement depends to a large extent on access to private occupational or personal pension provision. Achieving good coverage rates of such private schemes and adequate benefit levels will therefore be important goals for policy makers. Tax incentives alone will not automatically result in comprehensive coverage, and several Member States rely on the collective bargaining system to achieve better coverage. Table 3 below summarises information from the national strategy reports on the importance of private pension provision, mainly through occupational schemes.

Table 3: Access to private pension schemes

>TABLE POSITION>

Policy instruments for promoting private pension provision are tax incentives, typically in the form of the EET tax model (contributions are Exempt, investment income is Exempt, benefits are Taxed), direct financial support in the form of subsidies (as introduced by the latest German pension reform), or rules that make membership in such schemes mandatory.

Trade unions and employers' federations have a particularly important role to play in several Member States. In the Netherlands, Denmark and Sweden the social partners conclude collective agreements on occupational pension provision at the level of sectors. Membership in these schemes is mandatory. As a result, coverage rates of such schemes are particularly high, up to 91% of employees in the case of the Netherlands. Other countries (B, D, E) are now following this approach or are preparing measures to do so; Italy is also considering to make the participation in private funds mandatory.

Thanks to statutory schemes and binding collective agreements, membership in pension schemes ensuring fairly high income replacement levels after a full career is compulsory for a vast majority of workers in most Member States. Only Ireland has no compulsory earnings-related provision, and earnings-related pension levels from mandatory schemes are comparatively low in the UK and Belgium for people on higher incomes. In the UK, employees who are not contributing to the state scheme are obliged to be members of an occupational or personal pension scheme which meets certain specific criteria. Belgium has a low replacement rate compared to Member States with an earnings-related pension system.

There are fears about possible incompatibilities of mandatory sector-wide occupational pension schemes with European competition law. The Court of Justice of the European Communities regards such schemes as undertakings and hence requires a case-by-case assessment of whether mandatory membership is justified by social goals. [9] So far, competition law has not been a serious obstacle to the development of sector-wide mandatory occupational pension schemes, but national policy makers may need greater legal certainty.

[9] See in particular judgement of the European Court of Justice of 21 September 1999 in case C-67/96 (Albany International).

Employees may be free to decide whether to contribute to an employment-related pension scheme or to save in a personal retirement scheme that has nothing to do with the employment relation. However, offering supplementary pension provision in the employment context makes sense because the aim is, ultimately, to replace income from work. Arranging pension insurance for groups is also usually cheaper. Finally, choosing the right product for retirement savings can be extremely difficult for most consumers. The UK and Ireland have a tradition of voluntary provision of occupational pensions and are addressing issues of gaps in coverage and complexity by introducing new pension plans, namely the so-called 'stakeholder pensions' in the UK and 'Personal Retirement Savings Accounts' in Ireland. Both are voluntary for the employee, but employers have to make such pension products available if they do not have an occupational pension scheme.

Third pillar provision can also be difficult to distinguish from other individual efforts to provide for an adequate living standard after retirement. These include in particular home ownership which makes a significant difference in terms of living standards, but is unfortunately not yet captured by the European Community Household Survey (which does not include imputed rent in incomes). Other mechanisms that contribute to maintaining living standards after retirement include the provision of health and long-term care - which becomes increasingly important as people grow older -, housing support and certain advantages such as free public transport, television licenses etc.

The tax system can also make a significant contribution to raising the relative living standard of older people. Replacement rates net of taxes are higher than gross replacement rates reflecting progressive tax rates and special provision for pensioners and older people. Furthermore, retired people do not have to pay certain social insurance contributions. Without taking into account all these factors, it is not possible to assess whether pension levels are adequate. Gross replacement rates are therefore not sufficient to assess the adequacy of a pension system.

Bearing in mind the limitations of European Community Household Panel data discussed in the previous paragraph and under the first objective, it can be observed that incomes of people over 65 are not far below those of people below the age of 65. There are significant differences between men and women, with a surprisingly large gap in Sweden which may be due to the preference for individual rather than derived (survivors') benefits. [10] However, the interpretation of such results requires that one takes into account the type of household in which people live, as ECHP data only cover household and not individual incomes.

[10] The loss of one's partner results in a sharp drop in household income if the partner's own income is not partially replaced by a survivor's benefit. This will particularly affect older women who are more likely to survive their partner than men.

Chart 17

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a) See methodological note to the background statistics in the country summaries annex. Source: ECHP-UDB, Eurostat, version December 2002. Data for the UK is provisional. The weights for the Spanish data will be revised. Data for Sweden only cover persons aged less than 85; see methodological note.

3.2.2. Likely evolution of replacement rates

Future levels of pensions in relation to earnings (income replacement levels) will depend on a number different factors. The national strategy reports show a tendency for statutory schemes to become somewhat less generous as a result of a variety of adjustments. Several countries extended - or are still in the process of extending - the period of an individual's earnings history that is used for calculating the pension entitlement (e.g. F, E, P, FIN). Thus instead of using the years of highest earnings towards the end of the career, earnings during a much longer period or even the entire career are taken into consideration. This will usually lead to lower pension levels, particularly if past earnings are not fully adjusted for (nominal) wage growth.

Pension levels can also be lowered through adjustments in the formula used to calculate benefits. One significant development has been the introduction of a demographic adjustment factor. In the new Swedish and Italian pension schemes rising life expectancy will lower the replacement rate unless people postpone their retirement.

Among the countries with predominantly flat-rate public pensions, the Netherlands and Denmark are committed to maintaining the link to average earnings so that the replacement rate should remain unchanged. The UK guarantees a link to prices (with a minimum of 2.5%) for the basic state pension, and links the means-tested minimum (Pension Credit) to earnings. Ireland is committed to raising the minimum non-contributory pension substantially by 2007 and is likely to raise contributory pensions as well so as to ensure that the latter remain above non-contributory benefits; replacement rates can therefore be expected to rise over the medium term.

A distinction needs to be made between theoretical and empirical replacement rates. In some countries the statutory earnings-related pension schemes yield very high replacement rates for a full career. However, in certain cases, current average pension levels turn out to be low compared to current earnings, reflecting maturing pension systems and incomplete careers or underdeclaration of earnings in the past. In Southern European countries, economic modernisation and the employment changes that this implies will lead to better pension outcomes in the future. Rising female labour force participation in all Member States will also result in higher average pensions. Thus the trend towards less generous benefit rules will, to a significant extent, be counterbalanced by the effects of longer careers and higher incomes.

An important way of preserving the adequacy of pensions from statutory schemes will be to allow people to earn additional pension rights by working longer. This is particularly the case in the Swedish and Italian pension systems which are becoming actuarially neutral. The Italian report shows that it will be possible to achieve a similar replacement rate to today's typical worker retiring after 35 years at the age of 60 by working 40 years and retiring at 65. France does not intend to raise the low retirement age of 60, but the number of contribution years needed for a full pension was raised from 37½ to 40, a measure that will require many white collar employees to stay longer on the labour market while blue collar workers (who started to work early in life and tend to have a lower life expectancy) can continue to retire at 60. Although pension supplements for postponing retirement have been introduced in a number of countries further reforms are required in most Member States to allow people to improve their benefit entitlements by working longer (see objective 5, below).

Regarding private pension provision it can be expected that their contribution to incomes will rise in most Member States. This will reflect the fact that the development of occupational pension schemes even in countries with the highest coverage rates is still recent (by the standards of pension systems). The number of pensioners with entitlements for a complete career can therefore be expected to rise significantly over the coming decades.

Information presented in the national strategy reports does not allow systematic comparisons of current or future replacement levels in the Member States. Work is in progress in the Indicators Sub-Group of the Social Protection Committee to try to calculate replacement rates showing and their evolution as a result of pension reforms. It is not possible to assess whether the confidence expressed in the national strategy reports is justified, as future pension levels are very difficult to project in view of the further reform measures that are required and the uncertainty about the performance of financial markets.

3.3. Objective 3: promoting solidarity

Promote solidarity within and between generations.

3.3.1. Solidarity between generations

Member States seek to ensure that people above pension age have a decent income relative to the population as a whole. In this respect, most Member States report that the relative income situation of older people generally is good or at least satisfactory. This point is broadly supported by the ECHP data presented in chart 17, especially if one take into account that ECHP data may underestimate the relative wellbeing of older households. Greece and France state that older people are likely to benefit from greater wealth they are holding, particularly in the form of home ownership. According to French national statistics pensioner households have a disposable income equivalent to 91% of the average. Finland reports average pensioner household income at 90% of the level for the population as a whole (during the economic slowdown of the early 1990s, the figure stood at more than 100%).

Most national strategy reports refer to their pay-as-you-go system as the main mechanism for ensuring solidarity between the young and the old. However, pay-as-you-go should not be understood as a synonym of solidarity. Clearly, the first generation of pensioners in a pay-as-you-go scheme did benefit from national solidarity (instead of solidarity within families). For subsequent cohorts there may, however, be a clear link between contributions and benefits that implies little redistribution.

Moreover, solidarity features can also be found in funded pension schemes. The Dutch report cites the fact that its funded second pillar schemes are usually of the defined-benefit type. This also can have a redistributive (from working to retired generation) character, as the working generation may have to partially compensate during times of low investment returns through higher contributions, while in good investment periods, surpluses can be passed on to the next generation. On the other hand, even pay-as-you-go systems can have features that act against the principle of solidarity: in schemes where pensions are based on final earnings, redistribution can occur in favour of those with rising earnings who typically also have incomes above the average.

This possibility of unfair redistribution through the pension system was one of the motivations for the replacement of the old Swedish and Italian pension schemes by new ones which are based on actuarial neutrality implying that the total value of pensions reflect the sum of contributions made during working life. Redistribution takes place within the earnings-related scheme between men and women (through unisex actuarial factors) and in favour of other categories through pension credits and guarantees financed from the general budget and hence taxation.

Actuarial neutrality in pension schemes does not prevent public authorities from granting additional pension rights for people on low incomes or in respect of periods during which an individual was not able to earn an income and pay contributions. The mechanisms to ensure guaranteed minimum incomes to older people or to improve their living standards (see under objectives 1 and 2) are clear expressions of solidarity. Member States also grant pension rights for certain periods without contribution payments, e.g. periods devoted to child care or care for elderly or disabled people, to higher education or periods of unemployment or incapacity and illness. There appears to be a tendency to strengthen these solidarity mechanisms in the Member States which are often financed out of the general budget rather from contribution revenues.

3.3.2. Solidarity among the elderly

Several Member States state as either an explicit or strong implicit goal of their pension systems the promotion of a more equal distribution of income among the pensioner population compared to the population as a whole (Spain, Belgium, Greece, Italy, Netherlands, Sweden). Chart 18 shows that the spread between the incomes of the 20% at the top of the distribution and the 20% at the bottom is more even among the population over 65 than for the age group 0-64, with the exception of Greece, Denmark, Germany, Austria and Belgium where other factors outweigh the equalising effect of public pensions).

Chart 18

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a) Ratio of total income received by the 20% with the highest income within a given population (top quintile) to that received by the 20% of the same population with the lowest income (lowest quintile). See also methodological note to the background statistics. Source: ECHP-UDB, Eurostat, version December 2002. Data for the UK is provisional. The weights for the Spanish data will be revised. Data for Sweden only cover persons aged less than 85; see methodological note.

Member States highlight a range of features of their first pillar schemes that should reduce income inequality among the elderly. Indeed most Member States cite in this respect the re-distributive mechanisms of their systems and, in particular, guaranteed minimum pensions or incomes for older people and pension credits for periods of childcare, sickness or unemployment. The Netherlands points, for example, to the fact that, in its 1st pillar pay-as-you-go system, all residents build up an entitlement at an equal rate annually. Belgium lists a number of provisions of its system which redistribute income form the wealthiest to the poorest pensioners. They include minimum and maximum pension rates, a charge (cotisation de solidarité) which is levied on the highest pensions and contributions for health insurance which are only levied above a threshold.

Solidarity mechanisms within pension systems have important implications for gender equality. Due to their lower current and past labour market participation and earnings, women receive lower pensions than men, but benefit more from minimum pension guarantees and pension credits for child care periods. The Netherlands and Sweden also point out that the use of unisex actuarial factors represents a redistribution in favour of women who, thanks to their longer life expectancy, receive their pension for a longer period than men.

Most national strategy reports note that older pensioners tend to receive lower pensions than younger pensioners. A variety of factors lie behind this. The calculation of pension entitlements by reference to final salary confers an advantage on the most recent pensioners. Progressive improvements in coverage and in the conditions under which insurance entitlements are calculated have benefited those who were most recently part of the labour force. The proportion of women rises in the higher age classes, and, because of their lower individual pension entitlements and low survivors' benefits, the average income in higher age classes will be reduced. As a result older pensioners are disproportionately represented among recipients of minimum pensions. While acknowledging this tendency, Member States point to the fact that continued attention to the improvement of minimum provisions and other solidarity mechanisms go some way to correcting the income distribution. France cites national figures which show that the average gross pension of the oldest pensioners is 60% of that of the youngest pensioners. However, taking into account taxes and other deductions as well as benefits provided to pensioners, the figure rises to 90%.

Belgium, and Italy acknowledge that income inequalities among pensioner households are a matter of continuing concern. Italy states that incomes are more unequal among the youngest pensioners, reflecting the increased importance of occupational pensions (which tend to be less re-distributive) and income from other sources (notably capital) for this group. The UK states that the incomes of the richest 20% of pensioners rose by 80% between 1979 and 1996/7, while those of the poorest 20% of pensioners rose by only 30%, This is attributable to the growth in private and occupational pensions, a trend from which the poorest pensioners have not benefited. Reforms introduced since 1997 have therefore focussed resources on the poorest groups.

Finally, Italy and Greece made the point that the historic accumulation of different pension funds for different occupational groups, which have shown different rates of return to their members represents another dimension of inequality among pensioners. Thus the consolidation of the system and the creation of cross-system fairness is, and has been, an aspect of their policies.

3.3.3. Ageing and the likely evolution of inequalities

Several national strategy reports discuss the likely evolution of inequalities and how solidarity can be maintained in the light of demographic ageing. Denmark makes the point that new current and future pensioners are more likely to be in receipt of occupational or other savings-based pensions. Accordingly, Denmark projects that replacement rates will continue to rise and that at the same time income among retired people will be more evenly distributed. Thus, on the basis of the current characteristics of their system, solidarity between and within generations can be maintained.

Most Member States argue that their systems will, on the basis of current societal trends (e.g. towards higher female labour force participation) and thanks to the improvements to basic pension guarantees perform better in meeting these twin solidarity goals in the future. Only a few Member States refer to possible negative impacts on solidarity goals resulting from adjustments that were made in the interests of maintaining the financial sustainability of public systems. Thus Italy acknowledges that current levels of replacement rates are set to fall. Germany also projects a fall in replacement rates from the 1st pillar, but offers strong support for funded pension provision to compensate for this loss. Italy, too, intends to develop supplementary pensions to compensate for reduced public benefits.

Some Member States refer to the increased pressure on systems stemming from longer life expectancy. The financial implications of this trend can be made more manageable by a move towards defined-contribution schemes so that pension schemes will take account of longer lives when determining pension amounts. However, the Dutch national strategy report explicitly refers to the fact that under defined-benefit schemes longer life expectancy has no direct implications for the amount of pension paid. The Netherlands also point to a study which compared defined benefit pension plans with intergenerational solidarity to defined contribution pension plans without this form of solidarity. The study found that contributions to a defined contribution scheme would have to be 25% higher than to a defined benefit scheme to cover the same risk of a decline in the pension result.

The Swedish national strategy report adds another dimension to the concept of solidarity. In the new statutory pension scheme, both the pay-as-you-go element and the premium (funded) element will be adjusted to reflect increases in average life expectancy for successive age cohorts. The report explains that the mechanism is designed to ensure a constant return on pension contributions for all individuals and cohorts. With such a constant rate of return, higher life expectancy has to translate either into higher contributions rates or longer working lives. As the contribution rate is fixed people are invited to extend their working lives if they want to maintain the same pension level as earlier cohorts.

3.3.4. Conclusion: the future of solidarity

Public support for solidarity elements in pension systems is strong and Member States have strengthened many of them in their recent reforms. This should put in place effective safeguards against poverty risks, but may not be sufficient to prevent the average incomes of older people falling behind those of younger people or to prevent greater income disparities among the elderly. Greater reliance on private pension provision could increase inequality as private provision mirrors more closely earnings and tends to be more accessible to people on higher incomes. However, many Member States promote wider access to these schemes. A major factor that will determine future inequality between the young and the old and among pensioners will be the evolution of pension rights for women. They represent the majority of older people - and currently those with the lowest incomes (see also objective 10, below). Better tools for monitoring the effectiveness of solidarity mechanisms are required.

Table 4: Overview of the national strategies for ensuring the adequacy of pensions

>TABLE POSITION>

4. Financial sustainability of pension systems

Whether future pensions will be adequate will depend on our ability to secure a sustainable financing of pension systems in the face of rapidly ageing societies. Clearly, adequate pension provision cannot be financed indefinitely through government borrowing. Nor can we expect funded pension schemes to deliver the expected real benefit levels if the economy does not produce sufficient resources for the active and the retired. All pension schemes, regardless of the financing mechanism they use (funding or pay-as-you-go) transfer a share of the current output of the economy from the active to the retired. [11]

[11] Countries which have large net foreign assets can, by running a current account deficit, use the output of other economies for providing resources to their retired population.

In view of the challenge of ageing populations, the Joint Report to the Laeken Council on the quality and viability of pensions stated that "Member States should follow a multifaceted strategy to place the pension systems on a sound financial footing". This strategy should be based on a suitable combination of policies reflecting the five objectives under the heading 'financial sustainability'. The objectives that should secure financial sustainability are the following:

- achieve a high level of employment;

- offer effective incentives for the participation of older workers, in particular in pension systems (extend working lives);

- reform pension systems in appropriate ways taking into account the overall objective of maintaining the sustainability of public finances. At the same time sustainability of pension systems needs to be accompanied by sound fiscal policies, including, where necessary, a reduction of debt [12]. Strategies adopted to meet this objective may also include setting up dedicated pension reserve funds;

[12] Member States strategies to ensure sound and sustainable public finances are reported and assessed in the framework of the BEPG and the Stability and Growth Pact and should be in accordance with these.

- ensure that pension provisions and reforms maintain a fair balance between the active and the retired;

- ensure that private and public pension schemes can provide pensions with the required efficiency, affordability, portability and security.

The open method of co-ordination on pensions for which these objectives were defined needs to take into account the progress that is being made in the areas of employment and public finances, but the co-ordination of policy efforts in these latter areas will continue to take place in the well-established co-ordination processes for economic and employment policies. In particular, the long-term sustainability of public finances, including the expected strains caused by the demographic changes ahead, is examined in the context of the Stability/Convergence Programmes (in accordance with the conclusions of the Stockholm European Council), whereas the employment of older workers remains a priority within the European employment strategy. Therefore, particular efforts have been made in the text below to ensure that the information provided by Member States in their national strategy reports on pensions is consistent with that provided in the Stability/Convergence Programmes [13], the Broad Economic Policy Guidelines and the national action plans for employment. It is important that the conclusions from these different policy co-ordination activities be consistent with each other. In the following sections, Member States' pension systems and strategies for the future are examined in respect of the five objectives presented above.

[13] The Stability/Convergence Programmes of the Autumn 2001 were available for the analysis of this report, since the 2002 Programmes arrived to the Commission only in November-December 2002.

4.1. Objective 4: raise employment levels

Achieve a high level of employment through, where necessary, comprehensive labour market reforms, as provided by the European Employment Strategy and in a way consistent with the BEPG.

Raising the activity and employment rates of the presently inactive and/or underemployed in the working age population is the main way in which Member States can counteract the shrinking of the workforce that will result when the baby-boom cohorts begin to retire. The negative impact of demographic developments on employment and economic growth potentials can be alleviated by lower levels of unemployment and more persons of working age participating in the labour market. Governments have little influence on demographic old-age dependency ratio; even massive immigration - the demographic variable with the greatest flexibility in the short run - could not prevent the sharp rise in the old-age dependency ratio. However, what matters for the sustainability of pension systems is the economic dependency ratio, i.e. the number of pensioners in relation to the number of people who are actually in employment. Europe has considerable scope for improving this economic dependency ratio by achieving the ambitious employment goals set by the Lisbon and Stockholm European Councils (see chart 19).

Chart 19

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Source: EU-LFS, EUROSTAT

4.1.1. Brief analysis of the current labour market situation (e.g. unused employment potential)

All countries, except Austria, have seen improvements in their overall employment rates since the mid 1990's, and all stress their commitment to the employment targets agreed in Lisbon and Stockholm, although several express concern about the recent slow-down in employment growth. Moreover, in a number of countries, the employment performance has to improve markedly before even the overall targets come within easy reach. Some of these (e.g. Belgium, Spain and Italy) acknowledge that further efforts will be called for.

Table 5

>TABLE POSITION>

The three employment rate targets (total, for women and for older workers) are obviously closely related to each other. The overall employment rate can only be raised if unused labour force potentials are mobilised - and these are most likely to be found among women and older people of working age. Progress may be slowed down be the need to change attitudes, to raise the employability of people who are currently not employed and, particularly regarding female labour force participation, the need for substantial investments in care facilities for children and other dependants as was pointed out in the Greek report.

Although the unemployed still constitute an important immediate labour force reserve in several Member States, higher employment levels will need to be achieved mainly by mobilising presently inactive among women and older workers (see objective 5 below). Spain and Greece expect that immigrants will generate an important extra supply of labour; this may include immigrants already in the country whose situation is regularised. The Spanish national strategy report stresses the important contribution of foreign workers to the current favourable financial situation of the social insurance system. The number of foreigners covered by the social security system more than doubled from 332,000 in 1999 to 792,000 in 2002. Improving the employment rates of immigrants and their offspring form part of the strategies of Denmark and Sweden. In other national strategy reports the issue of immigration and labour market integration of immigrants receives little attention.

In view of their fairly tight labour market situations, Denmark and the Netherlands also point to the potential labour reserves among people on disability benefit and the socially excluded.

Having already achieved the employment targets - or being close to them - does not prevent Member States from intensifying their efforts to further raise employment levels. Sweden, Denmark and Finland relate their employment objectives and targets directly to the prospective shrinking of their labour forces. In order to counteract the demographically induced drop in their labour supply these Member States will intensify their efforts to activate all of working age and to achieve an earlier entry into and a later exit from the labour market.

A steady structural growth in female activity and employment rates is a key mid- to long-term objective for Austria, Germany, Spain, Greece, Ireland, Italy, the Netherlands and Portugal.

4.1.2. Main measures envisaged for raising employment

National action plans for raising employment are developed within the framework of the European Employment Strategy. Member States were asked to highlight the most important of their employment measures in their national strategy reports on pensions.

Italy and Germany are planning major labour market reforms that are expected to significantly boost employment levels and lower unemployment. Denmark is preparing an action plan for "More people in work", which is focussed on ensuring that work pays and securing more efficiency and flexibility in the initiatives to find people a job.

For most Member States higher employment rates are expected to result from many interconnected, yet somewhat smaller initiatives and policy measures. Sweden's general efforts to raise employment rates (which include setting national employment targets) are organised along 4 axes: 1. Strengthening the work incentives in tax benefit systems; 2. Active labour market policies and efficient job-matching; 3. Quality in work and better health in working life and 4. Education and lifelong learning. Variations of these four themes can be found in the employment endeavours of several Member States. Finland focuses on how the overall employment performance may be improved through a supportive environment including occupational safety and health care services, life-long learning measures, rehabilitation programmes and an environment favourable to entrepreneurship and business start-up. France discusses the positive impact on employment levels of recent anti-discrimination and equal opportunity legislation.

A few countries have detailed estimates of the relative contribution of different means to achieving the overall employment targets. Denmark, which plans to raise employment by about 133.000 persons, expect 20.000 of these to come from the ranks of the presently unemployed thanks to better incentives, while about half of the remaining 113.000 is estimated to derive from older workers postponing retirement as a result of the new incentive structure in the early retirement, disability and old age pension schemes. Finally, efforts to create higher employment rates for immigrants and their offspring and to reintegrate formerly socially excluded groups are expected to deliver the rest.

Countries with low female participation rates (e.g. Spain, Greece, Ireland) generally expect these to improve through a combination of cohort-linked, cultural changes in gender roles, investments in a steady expansion of care facilities for children and other dependants and measures that improve the reconciliation of work and family life. Countries with lower activity rates than the countries listed above (e.g. Austria, Belgium, Germany, The Netherlands) also tend to emphasise that a wider realisation of gender equality in pay and working conditions will be necessary.

A number of countries with less developed nursery child care facilities offer fairly generous support to women who take extended career breaks to care for their children in their first 2-3 years. Naturally such policies may primarily reflect priorities in family policy. Yet, with a view to the impact on employment rates and the difficulties for many women of returning to the labour market after a long absence, the question arises whether it would not be better to use these resources to invest in an expansion of child care services to speed up the return of women after parental leave.

Several Member States (e.g. Austria, Belgium, Germany, Greece, Spain and Portugal) use social protection contribution rebates to create and reinforce demand side incentives in order to increase the employment opportunities of workers that experience employment problems. In Austria these are particularly targeted on older workers. Spain offer exemptions or reductions to employers hiring women, young people and those of more than 45 years of age. Adaptations to personal income tax systems (e.g. individualised tax treatment, tax credits) are also being made to improve labour supply incentives.

Many Member States furthermore expect the basic design features and recent reforms of their pensions and tax systems to have an employment promoting effect. Germany points to the employment friendly aspects of the public pension system with its tight connection between employment periods and the build up of entitlements and highlights how recent reform have reinforced basic work incentives in the contribution/benefit formula. The report also insists on the employment enhancing effects of medical rehabilitation benefits aimed at helping people return to or retain their job. As a result of a total re-engineering of their pension systems, Sweden and Italy have greatly strengthened the work incentive effects and employment friendliness of the public pension system. Various incentive-reinforcing reforms on a lesser scale have similarly been applied in most Member States.

Almost all Member States have experienced a substantial net immigration from third countries in the last decade. Spain explicitly counts on a steady influx of immigrants to stem the erosion of its population of working age. Greece also thinks that a positive contribution from immigration is likely, but its points out that while immigrants create greater room for manoeuvre for pension systems in the short to medium term, they also build their own pension entitlements which naturally will have to be honoured in the longer run. Other Member States are aware that the positive potential of immigration can only be realised when a full economic and social integration of immigrants have been realised. The Netherlands, Sweden and Denmark are among the ones that indicate that raising the employment rate of immigrant and ethnic groups have become an important priority.

4.1.3. Analysis of the financial impact of the envisaged employment rate growth (excluding that of older workers) on pension systems

As mentioned above, more employment will generate additional pension rights in the future, thereby resulting in higher pension entitlements, notably for women, and hence increased pension expenditure. The mobilisation of labour reserves among women and older workers is also likely to require extra investments and spending (e.g. training, child care facilities). On the other hand, there will be tax and contribution revenues not giving rise to new entitlements (e.g. health insurance contributions), savings on transfer payments and a larger GDP. So the effect on public finances and the overall economy is positive. Moreover, as more women become employed and build their own pension rights a higher level of social protection will be achieved as pensioner couples will have a higher household income.

Only a few Member States present calculations of the impact of higher employment rates on pensions expenditure. In estimations conducted by France, the impact of a 1-percentage point rise in employment rates would lower the share of pension expenditure in GDP by between 0.2 and 0.4 percentage points by 2040. In comparison, the effect of a 1-year rise in the average retirement age without increasing pension entitlements is equivalent to a drop in pension spending of 0.6 percentage of GDP.

4.1.4. Conclusion

All Member States see their efforts to raise employment rates as an important element in their long-term strategy for making adequate pension provision financially sustainable. Even for present high achievers such as Denmark, Sweden and the UK raising employment rates counts as an important feature of their pension strategy. As emphasised by Italy and others, higher employment rates are a precondition for achieving adequacy as well the sustainability objectives. Higher employment rates imply that more people can shoulder the financing of benefits and thus that benefit levels can be maintained.

The long-term impact of higher employment levels on future pensions expenditure is difficult to assess and the national strategy reports generally do not present comprehensive assessments. However, the EPC projections on pension expenditure growth included a number of sensitivity analyses, notably, a scenario called 'the Lisbon scenario'. This scenario assumed an increase in employment rates corresponding to the Lisbon targets in 2010 and continued employment growth beyond this year. The results indicated that such a continuous increase in the employment rates would absorb about one third of the pension expenditure growth according to the baseline scenario, leaving the increase at about 2 percentage points of GDP, compared to slightly over 3 percentage points in the baseline scenario. In other words, higher employment rates can only alleviate the financial challenge of the ageing populations but not offset it. A similar result has been presented also in an OECD study which estimated that a gradual 5-percentage-point increase in employment would, on average, reduce the rise in the ratio of pension expenditure to GDP by about 0.5 percentage points with respect to the baseline scenario of no reform.

Obviously the potential impact of increased employment (of women and older workers in particular) will be highest in those Member States where dependency on social benefits and early retirement can be reduced most. As several of these also are the most affected by ageing, raising employment rates is of crucial importance in overall policy responses to ageing - particularly during the next decade or two where they can alleviate the financial impact of the retirement of the baby boomers.

Most of the national strategy reports contain a general presentation of efforts to raise employment, but only link them to pensions in a broad sense. Moreover, when labour force reserves are identified, this tends to be done in a very broad way with little discussion of how the reserves can be mobilised and what the associated cost would be. While Member States are underscoring the importance of higher employment rates, it is clear that achieving the Lisbon targets will require further labour market reforms in most Member States. In addition, the achievement of these targets alone will not solve the problem of the financial sustainability of pension systems.

4.2. Objective 5: extend working lives

Ensure that, alongside labour market and economic policies, all relevant branches of social protection, in particular pension systems, offer effective incentives for the participation of older workers; that workers are not encouraged to take up early retirement and are not penalised for staying in the labour market beyond the standard retirement age; and that pension systems facilitate the option of gradual retirement.

Whereas increasing employment in general is important and necessary for responding to the transitory demographic challenge of the baby-boom cohort's retirement, rising life expectancy also calls for measures which address the relationship between the lengths of time that people spend in work and in retirement. This requires extending working lives which provides a socially acceptable way to address the issue of financial sustainability. Sweden makes this point strongly: "...given that average life expectancy is increasing and health improving, the number of years in working life should also grow." Maintaining today's low effective retirement ages will not be possible without either raising contributions and taxes or lowering pension benefits.

However, trends over the past few decades have been just the opposite of what is required to make pension systems sustainable. Whereas average life expectancy at 65 years of age has continued to increase by more than 1 year per decade, the average effective retirement age has been dropping at an even larger speed resulting in a substantial gap between statutory pension ages and the real average age at which people stop working. 30 years ago the labour force participation rates of older (male) workers aged 55-64 in EU Member States were only 10-15 percentage points lower than those of prime-age workers. Today the difference has widened to 40-50 percentage points in several Member States. The trend towards ever-lower exit ages has been present in all Member States, largely as a result of labour market pressures to which public policies and collective bargaining practices responded by offering easy access to early retirement.

This past trend is already being reversed. Policies in the Members States have been geared towards greater participation and higher employment rates of older workers, and recent years already show some progress. In order to maintain a sufficient labour supply and to raise the overall employment rate in the face of ageing and shrinking prime age labour forces it is necessary to raise the employment rates of older workers and hence the effective labour market exit age. While shortages of younger workers are likely to create economic incentives for employers to improve present practices of age management in work places and labour markets, market forces alone will be unable to bring about the necessary changes. Changes to the tax/benefit rules - notably in pension systems - that affect employer and worker decisions about retirement will have a crucial impact on retirement behaviour and thus on labour supply. These issues are also a major focus within the European Employment Strategy and the Broad Economic Policy Guidelines.

Extending working lives does not necessarily imply raising statutory retirement ages because the effective age of the withdrawal from the labour market is currently far below the statutory retirement age in all countries. In fact it is questionable whether there should be a uniform age limit at which people are supposed to retire. The UK questions traditional assumptions around the pattern of working lives and the sharp cut-off between work and retirement and suggests that pensioners should not be regarded as a separate section of the population whose productive life has come to an end. Other countries, too, are moving towards greater flexibility regarding the age of retirement and are revising the incentives of the pension system in such a way that working longer will be more rewarding. Sweden is particularly advanced in this respect.

Individuals have different needs and preferences, and flexibility regarding the age of retirement is also important to allow spouses and partners to find the best arrangement for their retirement. Flexible and gradual retirement are therefore desirable goals in their own right, as was already recognised by a recommendation of the Council of 10 December 1982 'on the principles of a Community policy with regard to retirement age'.

4.2.1. Current labour market participation of older workers

Chart 19 and table 6 (see objective 4, above) show that for the EU as a whole the gap between the common employment target and actual employment rates is greatest for the group of older workers (55-64). The Barcelona target to raise effective labour market exit age by five years by the 2010 represents an even greater ambition. In 2001, four Member States (Belgium, Italy, Luxembourg and Austria) had a gap of more than 20 percentage points to the target and a further five had a gap of more than 10 percentage points (Germany, Greece, Spain, France and the Netherlands). For the EU as a whole the gap was 11.5 percentage points in 2001.

In the period between 1995 and 2001 the employment rate of older workers rose in all but three Member States (Greece, Italy and Austria). For the EU as a whole the improvement was 2.6 percentage points, but two countries achieved increases in excess of 10 points (Finland and the Netherlands) and another four in excess of 5 points (Denmark, Spain, Ireland and Portugal). Thus the reversal of the trend towards earlier retirement has already begun, although the pace of reforms would need to be accelerated significantly to meet the Stockholm and Barcelona employment targets for older worker. Pension reforms with a particular focus on reducing incentives to take up early pensions and improving incentives for working longer will be crucial in that respect. Many countries judge that reforms, such as the removal of early pension schemes or rises in the age of entitlement to an early pension, have increased the employment rates of older workers and postponed the take-up of pensions.

Table 6 below presents an overview of present employment rates for workers (total of men and women) in different age groups from age 50 till age 70+ . It also contains an estimate of the effective labour market exit age based on labour force survey data.

Table 6: Employment rates and average labour market withdrawal age, 2001

>TABLE POSITION>

The data clearly indicate that withdrawal from the labour market is influenced, but not determined by statutory retirement ages. One should keep in mind, however, that withdrawal from the labour market does not necessarily mean a take-up of a pension and, similarly, remaining in the labour market does not imply that the person does not receive a pension at the same time. On the contrary, periods of employment and pension receipt can overlap, and it can be expected that in the future, when part-time retiring and accumulation of earned income and pensions is likely to become more common, this overlap will become even greater. Thus, the indicator of the exit age from the labour market, which underlies the data presented in table 6, is likely to become a less reliable indicator of the effective retirement age, i.e. the average age at which age people take up a pension.

There are big differences between Member States in the thresholds and size of the decline. While some Member States still have employment rates around 80% for the 55-59-year old group others are at less than half that percentage. In some countries employment rates exhibit large sudden drops from one age group to the next; in others they fall in a more gradual way.

These differences mirror a wide range of institutional arrangements (e.g. early retirement, unemployment and invalidity schemes) and tax/benefit structures. Yet, there are also other forces at work. There appears to be a cohort effect: in countries where women started massively entering the labour market in the 1960s and 1970's they contribute significantly to current higher employment rates of older workers. This could, to some extent, explain the better performance in Denmark, Sweden and the UK. In other countries the rapid rise in female labour force participation took place in the 1980s; these cohorts should raise the employment rates of older workers within the next decade or two. However, the greater tendency of women to leave earlier than men on account of health problems (or possibly to retire at the same moment as their spouse/partner) is regarded as a challenge in some countries which already have high participation rates of women in their 50s and 60s. In some Member States different employment rates of older male and female workers also reflect different statuto