Communication from the Commission to the Council, to the European Parliament and to the Economic and Social Committee - The future evolution of social protection from a long-term point of view: safe and sustainable pensions
Date: 2000-10-11
Institutions: European Commission
Subjects: European social policy, pension scheme, public financing, social security

COMMISSION OF THE EUROPEAN COMMUNITIES

Brussels, 11.10.2000
COM(2000) 622 final

COMMUNICATION FROM THE COMMISSION TO THE COUNCIL, TO THE
EUROPEAN PARLIAMENT AND TO THE ECONOMIC AND SOCIAL
COMMITTEE

The Future Evolution of Social Protection from a Long-Term Point of View :
Safe and Sustainable Pensions

COMMUNICATION FROM THE COMMISSION TO THE COUNCIL, TO THE
EUROPEAN PARLIAMENT AND TO THE ECONOMIC AND SOCIAL
COMMITTEE

The Future Evolution of Social Protection from a Long-Term Point of View :
Safe and Sustainable Pensions

1.

INTRODUCTION

Pension systems comprise both public and private schemes and are usually built on three
pillars: basic public schemes, occupational schemes and individual pension plans. Each of
these pillars has its specific advantages and drawbacks. However, in all Member States, the
largest share of older people's income is provided through public pension schemes. The
combination of the three pillars making up pension systems offer an unprecedented degree of
prosperity and economic independence to older people in Europe. The prospect of population
ageing and the retirement of the 'baby boomer' generation represents a major challenge to this
historic achievement. Population ageing will be on such a scale that, in the absence of
appropriate reforms, it risks undermining the European social model as well as economic
growth and stability in the European Union. Member States are therefore invited to set out
clear strategies for ensuring the adequacy of their pension systems without destabilising
public finances or over-burdening the economy.

While each Member State remains responsible for its pension system, it is clear that they also
have much to learn from each other. Furthermore, the sustainability of pension systems will
determine to a significant extent the European Union’s ability to achieve the promotion of a
high level of social protection which is one of the fundamental objectives defined in Article 2
of the Treaty establishing the European Community. This is why the European Council has
called for a co-operative exchange on the future sustainability of pension systems. The present
communication proposes a framework for taking this work forward.

At its meeting in Lisbon on 23-24 March 2000, the European Council decided to "mandate
the High Level Working Party on Social Protection, taking into consideration the work being
done by the Economic Policy Committee, (…)as its first priority, to prepare, on the basis of a
Commission communication, a study on the future evolution of social protection from a long-
term point of view, giving particular attention to the sustainability of pensions systems in
time frameworks up to 2020 and beyond, where necessary."1 The Lisbon
different
conclusions, referring to the need to modernise social protection, spoke of how "the challenge
can be better addressed as part of a co-operative effort".

The European Council discussed pension systems again at its meeting in Santa Maria da Feira
on 19-20 June and stressed that "particular attention should be given to the sustainability of
pension schemes through defining two action lines aimed at improved forecasting of future
trends and at obtaining in-depth knowledge of recent, actual or expected national pension
reform strategies".

1 By Council decision of 29 June 2000 (2000/436/EC) a Social Protection Committee has been created. This
Committee will replace the High Level Working Party.

2

This communication responds to these requests by addressing the issue of sustainable
pensions. Sustainability of pension systems refers to their ability to meet social objectives on
an ongoing basis while maintaining other important policy goals, such as sound public
finances and intergenerational equity. Sustainability cannot be ensured by one or various
elements in isolation. High rates of economic growth and employment increases are crucial
and will strongly contribute to sustainability. Together with that, reforms of pension systems
as such will contribute to ensuring their sustainability, even more so given the uncertainties
linked to the long-term nature of the issue. Such reforms may concern the parameters of
public pension schemes as well as the structure of the pension system, i.e. the contributions of
three pillars.

The communication is intended to inform the work of the High Level Working Party on
Social Protection on the long-term evolution of pensions. It recalls the principal challenges
that pension systems will be facing and proposes a framework for analysis of the challenges
and policy responses.

Issues relating to pension reform are already high on the agenda in many Member States (see
appendix for an overview of pension systems and reforms). A number of Member States have
already started reforms which may involve all three pillars of pension systems. Reforms of
public pension schemes mainly focus on controlling the growth of expenditure, whereas
improvements in occupational and personal pension schemes are often necessary to allow
them to play a greater role in income provision for older people. As the systems are different
in each Member State a standard EU-wide response is neither desirable nor appropriate.
Sustainable systems and safe pensions can only be secured when each Member State has
identified the policy changes required and established the necessary consensus for their
implementation.

Despite the substantial differences in approach, Member States share crucial problems. As a
result of population ageing, public expenditure could rise dramatically. Without reforms, the
level of expenditure of state pension schemes could, in some Member States, reach 15-20% of
GDP in 2030. Unfunded pension liabilities could, in some cases, represent up to 200% of
GDP.2 A large growth in the share of pensioners will inevitably require an increase in the
resources set aside by the active population. The employment rates and productivity levels of
the active generations will therefore be important determinants of the living conditions of the
retired. All Member States have a need to modernise or adjust pensions systems and labour
market practices so that
they become mutually supportive and more conducive to the
promotion of economic growth and social cohesion.

As the employment strategy has shown, a collective reflection at the EU level can help
Member States to place the issues firmly on their internal policy agenda. An open exchange of
experiences and ideas capturing the diversity of practices across the EU will broaden the
range of policy options. Finally, by showing how adequate pension provision can be made
sustainable, such co-operation, involving all actors, will help strengthen public confidence in
pension systems.

Modernising and reforming pension systems is a complex process involving a broad range of
interests and actors. The livelihood of a large and potentially vulnerable share of the

2 Commission communication "Towards a single market for supplementary pensions", COM(99) 134 final. More
up-to-date figures on public expenditure implications of ageing will shortly be presented by the Economic Policy
Committee.

3

population depends on this. It is necessary to respect legitimate expectations and to maintain
an equitable and sustainable balance between rights and obligations. Reforms should be
sufficient to meet the challenges ahead, credible, transparent and clear in their impact and
should allow enough time for people to adjust. The reform process will require that all
to design
relevant actors be involved and committed to change. This makes it urgent
comprehensive reform strategies long before acute financing problems will materialise.

The aim is, thus, to stimulate a joint effort which identifies practical ways of making adequate
pension provision sustainable while maintaining sound public finances and intergenerational
fairness. It is of considerable importance to the achievement of the overall strategic goal
articulated at Lisbon that the Commission and the Member States should succeed in this
objective. Conversely, by addressing all the factors, such as employment and economic
performance, that influence pension systems, and not confining itself to the parameters of
pension design, this Communication reaffirms that it is by means of the Lisbon strategy of
mutually reinforcing social and economic policies that Europe can best hope to provide safe
pensions and sustainable pension systems in the future.

2.

CHALLENGES TO PENSION SYSTEMS

Most of the resources available to older people are provided by pension systems. In the
overall package of support to people after retirement, pensions represent the largest share, and
the main source of pension income is public pension schemes. Old-age and survivors’ benefits
together represent nearly 45 per cent of total social protection spending in the EU, or around
12 per cent of GDP (see charts below).3 Most of the expenditure for old-age and survivors
comes out of statutory pension schemes and is financed out of social insurance contributions
and general taxation. In addition, as they are also the largest beneficiaries of health and long-
term care, older people are the segment of society who are most dependent on social
protection systems. The second largest item of social protection expenditure is health care
which represents more than 7 per cent of GDP.

Social benefits by functions in 1997
(source: Eurostat, Esspros)

Old age and survivors benefits, 1997 (% of GDP)
(source: Eurostat, Esspros)

Old-age and
survivors
45.5%

Sickness and
health care
26.6%

Disability
8.5%

Housing + social
exclusion n.e.c.
3.6%

Unemployment
7.5%

Family/children
8.3%

11.5 11.7

12.0 11.7

12.8

9.6

16.3

4.2

18

16

14

12

10

8

6

4

2

0

13.5

10.4 10.9

9.6

8.5

13.1

12.4

11.8

B

DK D

EL

E

F

IRL

I

L

NL A

P

SF

S

UK EU15

Over the past decades, Europe’s pension systems have been remarkably successful in meeting
their social objectives. Public pension provision has brought about a transformation in the
income security and relative income position of old age pensioners. It has made older people
independent and allowed them to enjoy a prolonged period of leisure after their working lives.

3 These figures do not take account of taxes and contributions levied on social benefits. Such net social
expenditure figures are difficult to calculate and are not yet widely available.

4

The risk of poverty in old age, once widespread, has been greatly reduced, and so has the
number of people who have to rely on their descendants or means-tested social assistance
benefits. Pension systems have achieved this in spite of a marked increase in life expectancy
and in the number of pensioners over the past decades.

The biggest and most certain long-term challenge that confronts today's pension systems is
demographic ageing. However, the need for reform of pension systems is not only related to
the changing demographic balance. There is a critical
interaction between financial
sustainability of pensions, economic growth and employment which should not be neglected.
On the one hand, higher economic growth and employment could open up new opportunities.
Increasing the number of people in work is fundamental in order to stabilise or even reduce
economic dependency ratios. On the other hand, pension systems need to perform better, both
in terms of meeting their social objectives and supporting Europe's employment and growth
objectives.

2.1.

The implications of demographic change

Over the coming decades the number of older people will rise sharply in relation to people of
working age. No reasonable policy measures will be able to counteract this change in the
demographic structure of the European Union. However, it is not the demographic old-age
dependency ratio that matters for the sustainability of pensions, but the economic dependency
ratio.

Higher life expectancy due to higher welfare standards, better medical treatments and lower
fertility rates are the driving forces behind a secular trend towards population ageing. This
trend is not new and is set to continue. Medical progress shows no signs of decelerating, and
past demographic forecasts have tended to underestimate the rise in life expectancy. Fertility
rates are currently well below the level needed for a full replacement of the current
population. A rise could occur if some of the existing barriers and disincentives to family
formation and child bearing (related notably to labour market, housing and child care) are
removed. Fertility rates tend to be higher in Member States implementing a sound policy of
reconciliation of family and working life. However,
they remain too low to prevent
population ageing.

The major new development over the coming decades will be the large baby-boomer cohort,
born after the end of World War II, reaching retirement age. This demographic bulge will
initially be reflected in an ageing workforce, then, from 2010 onwards in a sharp increase in
pensioner numbers and later in increased needs for health and long-term care.

The old-age dependency ratio will rise considerably over the next 30 to 40 years. According
to Eurostat's long-term demographic projections, the number of working-age people per
pensioner will halve by the year 2050 going from 3,5 to 1,8 at EU level (see table 1). The
demographic effect of the post-war baby boom will start decreasing at around 2030 and is
expected to disappear not earlier than the middle of the century4.

The rise in the number of older people will be such that the increase in the demographic old-
age dependency ratio can neither be halted by a sudden increase in fertility nor by any

4

The Economic Policy Committee's working group on the public expenditure implications of ageing, is
currently engaged in developing projections of national public pensions expenditure relative to GDP up until
2050. Once ready, these will serve as broad indicators of the size of the demographic challenge as it affects
public pension systems.

5

realistic level of immigration. Changes in fertility only start having an impact on the labour
market twenty years later. However, immigration can contribute towards raising the level of
employment, –but its positive impact depends on the extent to which migrants can be
sufficiently integrated into the labour market.

Table 1: Baseline projections of old age dependency ratios in EU Member States
(65+ over people aged 20-64 years)

%
B
DK
D
EL
E
F
IRL
I
L
NL
A
P
SF
S
UK
EU-15

2000
29.5
25.5
28.0
30.2
28.7
28.5
20.3
30.7
24.8
23.1
26.3
26.7
25.9
30.9
27.8
28.3

2010
31.1
29.6
34.1
33.6
30.7
29.5
20.5
35.5
27.6
26.2
30.1
28.5
29.7
33.8
28.5
31.4

2020
38.0
35.7
38.6
38.0
35.2
38.1
26.2
42.1
33.0
34.7
34.5
32.2
41.4
39.8
33.9
37.3

2030
48.8
42.0
50.3
44.4
44.7
46.4
32.1
52.9
42.5
44.2
47.0
37.2
49.5
45.4
43.1
46.8

2040
53.5
47.0
57.0
54.7
59.8
52.1
38.4
67.8
47.2
50.1
57.0
46.3
49.7
48.9
49.1
55.0

2050
52.0
43.7
56.1
61.6
68.7
53.2
46.6
69.7
43.5
46.9
57.7
50.9
50.6
48.5
48.5
55.9

However, the sustainability of pensions depends not on the demographic dependency ratio but
on how this translates into the economic dependency ratio (which is significantly higher) and
transfer payments. It is therefore much more relevant for an assessment of the prospective
sustainability of pension systems to consider the actual number of people in employment in
relation to people who do not work. Currently, the economic dependency ratio (people aged
20 and over not in work as a proportion of total employed) is 0,86 in the European Union,
which means that there are nearly as many working-age people who are not in work as people
who are. Within the group of non-working adults nearly 6 out of 10 are below the age of 65,
many of whom are in receipt of benefits of various kinds. The economic dependency ratio can
be expected to be negatively affected by the rising old-age dependency ratio, but by reducing
the number of inactive among the working-age population it will be possible to alleviate the
financial burden of ageing that will have to be supported by the employed. Thus a crucial
question is: to what extent it will be possible to counteract the impact of ageing on economic
dependency rates by raising the overall employment rates?

6

Economic dependency ratios in 1999
Population 20 and over not in work as % of total employed

65+

20-64

140

120

100

80

60

40

20

0

B

DK

D

GR

E

F

IRL

I

L

NL

A

P

FIN

S

UK

EU

2.2.

Political and economic dimensions of pensions reform

Reforms to make pension systems sustainable may well be politically difficult. They will need
to achieve as large a consensus as possible. They must be comprehensive, not confined
exclusively to pensions. A successful strategy for economic growth will be a major element of
this. Maintaining sustainability of pensions in the face of rapid ageing implies a balance
between contributions and entitlements and between the active and the retired populations.
This presents a major political challenge.

A comprehensive strategy for securing adequate pensions in the face of demographic change
can only be developed and implemented on the basis of consensus between and within
generations. It is important that all relevant stakeholders be involved and committed. Such
agreement should lead to more stability and predictability in pension systems.

Confidence in, and widespread acceptance of, pension systems are of crucial importance for
their sustainability. Public, pay-as-you-go financed pension schemes have become the focus
of widespread concern because the impact of ageing on these schemes is very direct and clear,
whereas in the case of funded schemes the impact will be much more difficult to predict.
Governments can alleviate these concerns by setting out a clear and credible strategy to
ensure the sustainability of pension systems.

reforms creating a
Sound macroeconomic policies and growth-enhancing structural
favourable economic and business environment are critical for the future sustainability of
pension systems. The integrated strategy articulated at
the Lisbon Summit provides an
excellent context for Member States to address this challenge.

Economic growth is a crucial determinant of public finances. Although many public pension
schemes have dedicated sources of revenue in the form of social insurance contributions,
general government contributions to all social protection schemes5 generally represent nearly

5

Data on general government contributions to pension schemes only are not available.

7

ten per cent of GDP for the EU as a whole. This link between general government budgets
and the specific financing systems of pension schemes means that an uncontrolled rise in
pensions expenditure might destabilise public finances. Conversely,
the ability of
governments to support pension schemes depends on other factors determining the soundness
of public finances.

On the revenue side, a continued ability of governments to collect taxes and contributions is
crucial. This may be affected by tax evasion, by cross-border differentials or by a higher
mobility of tax bases and hence the possibility for economic activities to move to countries
where the best balance between taxes/contributions and public services can be found. The
reduction of the overall tax burden, in particular on labour, to provide incentives to growth
and employment is also to be taken into account. On the expenditure side, the evolution of
other claims on public budgets will be important. In a context of sound macroeconomic
policies and budgetary discipline the challenge will be to ensure that any rise in pension
expenditure does not crowd out other legitimate claims on public budgets. One major current
expenditure item is interest on government debt which should be reduced in preparation for
ageing related cost. Sufficient preparations for a rise in ageing related costs should therefore
be made.

Reliance on private, funded provision through occupational or personal pension schemes can
be a useful tool to alleviate the burden on public finances. As a result the performance of
financial assets becomes a more important determinant of older people's living standards.
Financial market dynamics will be affected by demographic change with demand for financial
assets increasing as a large cohort saves for retirement.

In many Member States, the process of reform is already well underway. A balance is being
sought between the aim of providing sufficient and safe income to the elderly and that of
making systems sustainable. While the measures introduced differ in detail, in practice, their
common emphasis is on limiting the future transfers which will be necessary, particularly
those which governments are responsible for, or increasing the finance available. They
include increasing the official age of retirement or the number of years of contributions
required to qualify for a full pension, reducing the pension paid in relation to past earnings, or
relating it more closely to contributions, creating special funds to finance future transfers or
encouraging the development of private, funded pension schemes.6 These reforms could often
benefit from being integrated in a more comprehensive strategy covering social protection
reform, employment promotion and macroeconomic policies. The current healthy economic
climate should be used as an opportunity for introducing comprehensive reforms.

2.3.

The link between pensions sustainability, the Lisbon strategy and employment
promotion

Current pension systems tend to encourage early exit from the labour market and are
frequently used to reduce staff levels while avoiding redundancies. They often do not take into
account differing individual needs. Some pension schemes offer insufficient coverage for the
most mobile and flexible members of the workforce. More generally, the incentive structure of
pension schemes needs to be reviewed to ensure that they become employment-friendly.

6

The Commission publishes regular reports on Member States' policies in the area of social protection.

The latest one is: Report On Social Protection In Europe 1999 (COM(2000) 163 final).

8

The European Council in Lisbon formulated an overall strategy for sustainable economic
growth with more and better jobs and greater social cohesion. Demographic change means
that a large workforce has to be achieved in a context of an ageing and shrinking population
of working age. This will impose additional challenges across the entire range of economic,
labour market and social policies cited by Lisbon. Pension systems need to be compatible
with, and capable of, contributing positively to the realisation of all the elements of this
strategy. The main challenges for pension systems in this regard relate to their interaction
with labour markets. Pensions sustainability, but also the prospect of tightening labour
markets and skill shortages in the future, makes it urgent to develop a strategy for mobilising
society's full employment potential.

The conclusions of the Lisbon European Council established that, on the basis of a sustainable
economic growth of 3% of GDP, Member States should move towards a total average
employment rate of 70%, and over 60% for women, in 2010. Employment growth of the sort
we need to meet these objectives has a crucial role to play in ensuring the sustainability of
pension systems. Clearly, other parameters may need to be adjusted at the same time (e.g.
retirement age, level of contributions or the relative levels of pensions). Increasing the current
levels of activity among women and older workers will be crucial. Reform of pension systems
has a key role to play in this respect through the provision of better employment incentives.

Women's participation is clearly one key issue. Women still have particular problems in
gaining equal access to the employment market, in career advancement, in earnings and in
reconciling professional and family life. Although the net additional jobs created over the past
decade or so have virtually all gone to women, this job growth has failed to keep pace with
the increasing number of women who want to work and employment rates for women remain
lower than for men. One reason for this are career interruptions to provide care. Such periods
could receive a better recognition in pension systems. Adjustments should also be made to
strengthen the incentives for women to enter, re-enter and remain in the labour market.
Finally, the issue of individualisation of pension rights has to be considered in this context.

Another key issue is the premature exit of the older workers from the labour market. Today in
most Member States the effective retirement age is well below the normal eligibility age in
statutory pension schemes. One of the main reasons for this trend is that pension systems
continue to offer substantial
incentives for early retirement. In most pension systems,
continuing to work beyond the first opportunity to retire entails having to pay social
contributions without gaining extra pension rights. In addition, income from work may be
taxed at a higher rate than pensions. Tax/benefit structures which subsidise early labour
market exit while punishing people who work longer, undermine the principle of making
work pay. Such structures not only lead to a waste of human resources and undermine the
European Union's employment objectives, they also raise the cost of retirement systems
substantially.

Table 2: Employment rates by age group in 1999

F

E

D

EL

DK

B
I
60.3 80.4 73.4 60.1 57.2 74.1 62.1 57.2 64.6 70.2 72.7 71.4 78.9 84.2 75.9
41 59.1 54.6 77.8 62.1
36.9 70.9 55.1 47.4 44.8 46.8 50.5 36.6 38.2 49.6
34 19.6 30.4 24.7 10.1 35.9 17.9 12.9 18.6 11.7 43.6 22.2 47.9 35.6
12.9
4.4 10.7 11.6
6.2
3.8

UK EU15
69.2
50.7
22.3
6.5

4.9 24.8

2.1 14.3

5 11.5

6.2 n.a.

IRL

NL

5.2

3.9

SF

A

L

P

S

50-54
55-59
60-64
65-69

Source: Eurostat Labour Force Survey

9

The problem of early labour market exit is aggravated not only by the objective difficulties
(such as out-dated skills) which older workers experience in finding reemployment after
redundancy, but also by management practices which discriminate against
them in the
workplace and on labour markets. Under these conditions, early retirement schemes have
often been regarded by employers, unions and workers as the only socially acceptable way of
reducing staff levels. This age bias is often mirrored in practices within employment policies:
older workers may find that they are barred from the placement, activation and training offers
that are available to younger workers.

With ageing, pension systems will no longer be able to support the cost of shedding older
workers whose skills are out-dated or because unhealthy working practices force them to
retire early. Moreover, workers are increasingly fit enough to continue working until the
official retirement age or even beyond if they so wish.

Reversing the trend towards early labour market exit will require providing stronger
employment opportunities for older workers, reducing the disincentives for working longer in
the form of early retirement options and other tax benefit structures while putting more
emphasis on maintaining their employability. Pension systems will need to be adjusted in
several ways to support working longer.

In this regard, today's fixed statutory retirement ages look increasingly inappropriate. They do
not take account of rising life expectancy and the improved health status of most older people.
Systems of flexible or gradual retirement had already been recommended by the Council in
19827. They could be used to promote increased labour force participation and hence higher
employment, thereby contributing to the long-term sustainability of pension systems.

Furthermore, promoting active participation should take account of the different categories of
disadvantaged groups. In fact, an inclusive strategy does not only reduce the waste of human
resources, it also helps containing some of the economic and social costs related to social
exclusion liberating financial resources and helping the overall sustainability.

Pension systems must also be adapted so that they cater better for the needs of a more mobile
and diverse workforce. In particular, any penalties for irregular career patterns or for mobility,
either geographical or occupational, should be eliminated. Many occupational pension
in particular, tend to impose substantial costs on people who change jobs or
schemes,
interrupt their careers.

In the longer term, Europe’s job creation potential need not be limited by her current
population size. It would be possible to attract immigrants, including well-qualified people,
from third countries. Employment could rise further if birth rates went up again. While the
determinants of fertility rates are clearly complex, more family-friendly workplaces and
public policies that make it easier for parents to reconcile a professional career and family
responsibilities could certainly play a positive role.

Mobilising society's full economic and social potential is the overriding policy requirement in
the face of ageing. An integrated policy of technology driven productivity growth, more and
better jobs and greater social cohesion, as articulated at Lisbon, provides the necessary
framework for this mobilisation.

7 Council Recommendation of 10 December 1982 on the principles of a Community policy with regard to
retirement age (82/857/EEC), OJ L357, 18/12/1982, p. 27-28.

10

2.4.

Ensuring adequacy and fairness in pension provision

Pensions have ensured that older people now enjoy reasonable living standards. However,
there are still some gaps in income provision for older people. Poverty rates, especially
among older women are higher than average. Granting pension rights for bringing up
children or providing care is therefore an important element of solidarity in pension systems,
as are lower contribution rates for low-paid workers. Present gaps in the adequacy and
fairness of pensions call
into question the Lisbon objective of creating greater social
cohesion. It will be necessary to address such inadequacies which otherwise risk being
aggravated in the context of ageing.

The average net adjusted8 income of persons living in households receiving at least one
pension (retirement or survivor's pension) is very close to average incomes of the population
as a whole. Pension systems contribute around 60 per cent of the total net income of such
persons. Other incomes include social transfers other than pensions, income from property
and income from work (especially in those cases where pensioners share a household with
people who are still in employment).

Relative equivalised income of persons living in households receiving pensions

(100 = all persons in a given country)

The average (equivalized) income of the whole population in a given
country is put at 100. Pensions include retirement and survivor's
pensions. For EU-13, persons living in households benefiting from
pensions have an average income of around 95%. This means that their
average standard of living, as measured by income, is 5% lower than for
the total population.

Other incomes

Social transfers other than pensions

Pensions

120

100

80

60

40

20

0

B

DK

D

EL

E

F

IRL

I

L

NL

A

P

UK

EU-13

Source: European Community Household Panel, 3rd wave, 1996 (Eurostat, Statistics in Focus, Theme 3 – 9/2000, Social benefits
and their redistributive effect in the EU)

Despite this success, there are still cases in which pension systems fail to provide adequate
minimum resources to the elderly. Older women, who constitute 2/3 of pensioners above the
age of 75, are particularly prone to the risk of poverty in many Member States. In some
countries, poverty rates are still higher among older people than in the total population,
although the difference has narrowed. In the absence of minimum pension provision, short
employment spells and career breaks often lead to inadequate pension provision, particularly
in the case of women without adequate derived rights.

8 The net income is adjusted per "adult equivalent" to take account of differences in household size and
composition: the income received by a household is divided by its "equivalent size" computed using the
modified OECD equivalence scale. Any member of a given household, child or adult, is assigned the same
equivalized income.

11

Growing labour market participation of women should result in a better protection in old age.
However, women are still more likely to compromise their careers for family reasons and
hence accumulate lower pension entitlements than their partners. As long as families are
stable, pension systems may provide adequate protection through derived benefits.With
the issue of sharing pension entitlement between spouses
increased family instability,
becomes more and more important.

Pension reforms will need to be carried out bearing in mind such inadequacies. In particular,
expenditure cuts may not turn out to be as financially advantageous as expected if they lead to
increased reliance on means-tested social assistance, thus shifting expenditure from pension
systems to other social protection schemes. Surely, increased reliance on means-tested social
assistance may contribute to expenditure cuts. However, means-tested social assistance and
reliance on support from relatives may also undermine incentives to work (part-time after
retirement from one's main job, or to earn income to meet the needs of elderly relatives) and
to provide for one's own retirement (people on low incomes may not expect a pension above
the social assistance level).

Pension reforms seeking to bolster the role of occupational and personal pension schemes will
also need to address certain weaknesses of these schemes. Long vesting periods in
occupational pension schemes make it difficult for people who are not part of a company's
core workforce to earn sufficient pension entitlements. High management fees for personal
pension plans can make them very unattractive to low-paid workers, and the practice of
levying charges on initial contributions (front loading) imposes a high costs on scheme
leavers. At EU level, the lack of coordination between such schemes, notably in the area of
taxation, needs to be addressed to remove obstacles to cross-border mobility.

Strengthening the actuarial link between contributions and benefits (a measure which would
strengthen the employment
incentives in pension schemes) does not necessarily weaken
solidarity. Many pension systems have redistributive elements in favour of the less-well off,
for
instance when they guarantee a mininum pension regardless of employment and
contribution records or when contributions are levied on all incomes, but benefits are capped.
On the other hand, pension systems may penalise manual workers (from an actuarial point of
view) if pensions are calculated on the basis of final earnings or a number of years with high
earnings without taking account of all contribution years and shorter life expectancy.

2.5.

Managing Finance and Expenditure

A strategy for making pensions sustainable should focus on mobilising society's full potential9
as well as on reforming pension systems themselves. By raising the employment rate of the
working age population we can counter to a large extent the effect of demographic ageing on
economic dependency ratios. This would ease the financial pressure on public pension
schemes resulting from ageing and reduce the need for painful cuts in benefits or rises in
contributions and taxes. A reform of pension systems is, however, necessary to make them
conducive to employment creation and, in particular, encourage older workers to remain in
the labour force. Implementing the Lisbon strategy will boost the ability of pension systems to
respond to the challenges of adequacy.

9

The possible content of such a strategy in relation to ageing in general was discussed in COM(99)221
final "Towards a Europe for all ages – Promoting Prosperity and Intergenerational Solidarity", which focussed
on active ageing policies.

12

In its progress report to the Feira European Council, the High Level Working Party on Social
Protection suggested that an analysis of pension reform strategies should also consider how to
manage finance and expenditure.

As pointed out before, this issue interacts with employment. On one hand, an effective way of
raising more finance for pension schemes is to increase the number of contributors to them by
increasing employment levels. On the other hand, reforming pension systems to improve
labour market incentives will help to raise employment levels. Raising the real retirement age
can result in very large savings provided increased expenditures in other areas can be avoided.

The study on sustainability of pensions will have to further analyse the various ways to secure
a broader and stronger revenue base for pension schemes through diversification to alternative
sources of finance, through the accumulation of fund assets and via the reduction of public
debt. It will have also to analyse how to contain the rise in pension costs by improving
efficiency and adjusting benefits while maintaining the social objectives.

Responding to the challenge of ageing calls for a comprehensive policy. In addition to sound
macroeconomic policies and comprehensive structural reforms conducive to growth, higher
employment and balanced public finances, the structure of public expenditure needs to be
reassessed in order to ensure future growth and a generational balance in the distribution of
public expenditure. In this context, reforms of current pension arrangements which secure
adequacy and financial balance, while making schemes more employment-friendly are
necessary. Reforms should result in durable solutions to the long-term problems and not just
in stop-gap responses to imminent problems.

2.6.

Guiding principles and objectives for pension reforms

It is for Member States to decide what pension system they want and what policy mix is
required to maintain adequate incomes for older people without jeopardising the stability of
public finances, undermining employment incentives or squeezing out other essential public
expenditures. However, despite the considerable diversity within the European Union,
Member States face common challenges which were analysed above. They also share
common objectives with regard to pension systems and are committed to a number of
principles, amongst which are equity and social cohesion which characterise the European
social model. The Commission therefore invites Member States to co-ordinate their efforts
and exchange views and information on practices and reforms in progress or at a planning
stage. National choices and priorities in the strategies and detailed reform process do,
however, remain the responsibility of Member States.

This cooperation among Member States can be made easier if common objectives and
principles are made explicit. Clearly, tensions do arise between some of these objectives and
principles, and Member States will have to strike a balance. Within the process set by the
Lisbon Summit, the Commission presents the following principles and objectives to the
discussion:

1.

Maintain the adequacy of pensions: The three pillars of pension systems, operating in
combinations decided by the Member States, should enable people to remain
financially autonomous in old age and, within reasonable limits, to maintain the
living standard achieved during their working life.

13

2.

3.

4.

5.

6.

7.

8.

9.

10.

Ensure intergenerational fairness: The efforts needed to cope with demographic
ageing should be shared in an equitable way between the active, be they employees
or entrepreneurs, and the retired generations.

Strengthen solidarity in pension systems: No-one should be excluded from pension
systems because of low-income or an unfavourable risk profile. Pension systems
should have a redistributive element in favour of people with poor labour market
opportunities or who had to provide care to children, disabled or frail elderly people.

Maintain a balance between rights and obligations: Benefits should reflect an
individual's contributions to a pension system. In particular, postponing one's
retirement should result in higher benefits.

Ensure that pension systems support the equality between men and women: In
particular, adjustments are needed to strengthen the incentives for women to enter,
re-enter and improve their position in the labour market.

Ensure transparency and predictability: It should be clear to pension scheme
members what they can expect in terms of benefits under various circumstances.

Make pension systems more flexible in the face of societal change: Pension systems
should be able to adjust to foreseeable changes in their economic and demographic
environment.

Facilitate labour market adaptability: Pension systems should accommodate
professional and geographic mobility and allow a degree of individual choice, for
instance regarding the retirement age and the organisation of learning, working and
leisure phases.

Ensure consistency of pension schemes within the overall pension system: Pension
pillars should be mutually supportive and well co-ordinated.

Ensure sound and sustainable public finances: Reforms must ensure that the tax
burden arising from public pensions is set at an appropriate level and that other
essential public expenditures are not crowded out.

3.

NEXT STEPS

3.1.

Commission initiatives

In addition to the framework presented in this communication,
the Commission will
undertake the following initiatives to underpin this co-operative exchange on pension
sustainability:

–

–

In order to gauge public awareness and expectations regarding the modernisation of
social protection systems, carry out, in the year 2001, a Eurobarometer survey on
pensions and pension reform.

Examine the relevant Community-wide statistical surveys with a view to ensuring
that social protection issues in general and pension issues in particular are adequately
covered.

14

–

Propose an exchange of information on the issues covered in this Communication
with the accession countries and, in the framework of its bilateral co-operation, the
United States and Japan.

The Commission will also pursue its efforts to contribute to a better functioning of
supplementary pension schemes:

–

–

–

relating to institutions

for a directive on the coordination of

regulations and
The proposal
retirement
administrative provisions
provision will allow private funded pension schemes to make the best use of
investment opportunities, set high standards for the protection of beneficiaries and
pave the way towards the cross-border management of occupational pension
schemes. Enhancing the security and efficiency of these institutions and allowing
them to fully benefit from the Single Market should contribute to the safety and
sustainability of pension systems.10

laws,
for occupational

Further to its Communication Towards a Single Market for Supplementary Pensions
of 11 May 1999 (COM(99) 134 final) the Commission will put forward an initiative
dealing with the taxation of cross-border supplementary pensions early next year.

The Pensions Forum, created following a suggestion by the High Level Panel on
Free Movement, will consider how barriers to cross-border labour mobility related to
supplementary pensions can be addressed.

Finally the Commission will
take further initiatives on the future evolution of social
protection with a view to supporting the co-operative effort on all objectives for the
modernisation and strengthening of social protection as approved by the Council on 17
December 1999 (OJ 2000/C 8/7).

3.2.

Setting up the framework of the study: The Lisbon request

As said in the introduction, the European Council at Lisbon requested the High Level
Working Party on Social Protection "to prepare a study on the future evolution of social
protection from a long-term point of view, giving particular attention to the sustainability of
pensions systems drawing on this communication". The High Level Working Party on Social
Protection will submit a progress report on its work to the Nice Summit of December 2000.

The Commission proposes that the presentation of the challenges and policy responses
discussed in this Communication should be used by the High Level Working Party on Social
Protection as a framework for its ongoing work of analysis and exchange on pension reform
issues.

The analysis to be carried out in this framework should be based, as far as possible, on
harmonised data sources and hypotheses. In this context,
the work undertaken by the
Economic Policy Committee will be of a particular importance.11

10

Reference to COM document

to be included (adoption foreseen for

the same date as this

communication).
11

The Economic Policy Committee is working on the public finance implications of ageing. The aim is to
provide a quantitative assessment of the public finance and economic consequences of ageing. Existing national
expenditure projections have been reviewed and projections using common indicators and macroeconomic and

15

Wherever possible, the approach should use longitudinal data taking into account all the
related dimensions (demographic, economic, employment, social) and the interactions
between them. In analysing future trends, the study should also take account of all the
relevant policy objectives set at the EU level including the employment objectives set in
Lisbon and the conclusions to be agreed in Nice.

The analysis should also benefit from the experience accumulated in the ongoing process of
multiple reforms implemented in the Member States. The Commission suggests that the study
serves as a basis for regular updating of information relating to pension reform in the Member
States.

Finally the analysis should progressively include the candidate countries. The effectiveness
and sustainability of schemes in new Member States integrating into the Union will be of
common concern in economic and social terms. The reforms underway in candidate countries
are of interest. These issues need to be given closer attention as the enlargement approaches
while stressing that pension systems remain the responsibility of national authorities.

demographic assumptions are being developed in co-operation with the OECD. Results will be submitted to the
ECOFIN Council in November and made available to the High Level Working Party on Social Protection.

16

Appendix: Overview of national pension systems and recent reform measures*

Country

Main features of pension systems (Pillars 1, 2 and 3)

Recent reform measures

Belgium

1. Earnings-related scheme

2. Voluntary, mainly company-based schemes covering about
31% of the working population

3. Personal pensions available from life insurance companies or
banks under favourable tax conditions

Building on important reforms introduced in 1997 for private sector employees, the new
government together with social partners is reflecting upon further reforms to cover for
public sector employees and the self employed. Consideration is also being given to
promote private funded pensions.

Denmark

1. Flat-rate public scheme based on residency/employment and
contribution financed supplementary scheme with benefits
linked to duration of employment (ATP)

The transformation a largely unfunded system to one with a much higher degree of funding
has been underway for some years. 1999 saw a temporary contribution to the ATP (Labour
market supplementary pension) amounting to 1% of the average wage made permanent and
a tightening up of early retirement rules.

2. Mainly sector-wide schemes based on collective agreements
covering about 80% of the working population

3. Personal pensions available from life insurance companies or
pension funds under the same tax conditions that apply to 2nd
pillar schemes

Germany

1. Earnings-related pension scheme

2. Voluntary, mainly company-based schemes

3. Personal pensions available from life insurance companies

Pension reform was very high on political agenda. A tax reform package was agreed
enabling increased revenues from energy taxes to partially offset a reduction in the
contribution rate to pensions by employees and employers. Changes were also agreed for
2000/2001 linking increases in public pensions to inflation rather than the evolution of net
wages. However, important reforms agreed in 1998 and due to come into force in 1999
were suspended by the new Government for two years, pending important reforms due to
be announced in 2000.

* Sources: DG MARKT, Study on pension schemes of the Member States of the European Union, May 2000, for the column 'main features of pension systems', Report from the
Commission on the implementation of the 1999 Broad Economic Policy Guidelines (COM(2000) 143 final) for the column 'recent reform measures. More detailed information is
available in Report on Social Protection in Europe 1999 (COM(2000) 163 final) and MISSOC – Social protection in the Member States of the European Union, DG EMPL, annual
publication.

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Country

Main features of pension systems (Pillars 1, 2 and 3)

Recent reform measures

Greece

1. Earnings-related schemes

2. Voluntary schemes mainly in large companies covering about
5% of the working population

3. Personal pensions available from life insurance companies

Spain

1. Earnings-related scheme

2. Voluntary, mainly company-based schemes covering about
15% of the working population

3. Personal pensions available from life insurance companies
and pension funds

France

1. Earnings-related schemes

2. Compulsory, pay-as-you-go financed occupational scheme
based on cross-sectoral collective agreement, some additional,
mainly company-based voluntary schemes

3. Personal pensions available from life insurance companies
under favourable tax conditions

Ireland

1. Flat-rate scheme based on contributions

2. Voluntary, mainly company-based schemes covering about
50% of the working population

3. Personal pensions available from life insurance companies
under similar tax conditions to those that apply to 2nd pillar
schemes

A two phase reform strategy was announced in 1998. The first phase was largely
organisational, involving for example the introduction of single social security number.
The second phase requires a major overhaul of public pensions, and could involve the
consolidation of retirement ages in different pension regimes, adjusting contribution and
eligibility rates to sustainable levels, and the introduction of compulsory occupational
pension scheme. Announcements on the second phase are still being awaited.

Important reforms were introduced in 1997 (based on the 1995 Pacto de Toledo) which
placed public pensions on a more sustainable footing. Further reforms are scheduled for
2000. They will need to address measures to increase the effective retirement age and
discourage early retirement, and special pension regimes (e.g. covering self-employed,
agricultural workers). In 2000, minimum pensions will increase by between 5.4 and 16 per
cent depending on the type of pension, though on average by only slightly above 5.4 per
cent. In 2000 a Social Security fund reserve has been created to address the problem of the
ageing population . The initial fund amounts to 0.1% of GDP and there is a commitment in
the updated Spanish Stability Programme to further increase this fund reserve.

After postponing reforms adopted in 1997, a report was presented in 1999 to serve as a
basis for dialogue between authorities and social partners which is now taking place.
Reforms are scheduled for 2000 and could include measures to raise the effective
retirement age, whether special pension regimes need to be brought in line with the
‘general regime’, and possible strengthening of a Social Security reserve fund which was
established in the 1998 budget.

In May 1998, the Government outlined its plans for creating a fully developed pension
system. As part of the 1999 budget, an annual provision of 1% of GDP will be made to
pre-fund future public pension costs. This fund was supplemented with part of the proceeds
from the privatisation of the State telecom company. Part of the proceeds were also use to
buy-out the State’s future pension liabilities to pre-privatisation staff.

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Country

Main features of pension systems (Pillars 1, 2 and 3)

Recent reform measures

Italy

1. Earnings-related scheme

2. Schemes based on collective agreements for a company, a
group of companies or an industry

3. Personal pensions available from open pension funds and
from life insurance companies under favourable tax conditions

A series of reforms in the 1990s, the last one in 1997, have contributed to stabilise the ratio
of pension expenditure to GDP in the medium term, but it remains high. The main
weaknesses of past reforms are excessively long transition periods, ‘excessive’ generosity,
and uncertainty about future reforms. No reforms were undertaken in 1999.

Luxemburg

1. Earnings-related scheme

Reforms were introduced in 1998 to align the pension regime for new public servants with
that applying to the private sector.

2. Voluntary, mainly company-based schemes covering about
17% of the working population

3. Personal pensions available from life insurance companies

Netherland

1. Flat-rate scheme based on residency/employment

2. Mainly sector-wide schemes based on collective agreements
covering about 90% of the working population

3. Personal pensions available from life insurance companies
under favourable tax condition

Austria

1. Earnings-related scheme

2. Voluntary, mainly company-based schemes covering about
11% of the working population

3. Personal pensions available from life insurance companies

With a large proportion of pensions already funded, the impact of ageing populations is
being addressed via the reduction of public debt and measures to increase employment
rates.

Large reform packages were adopted in 1993 and more recently in 1998. The latter reform
addressed incentives for early retirement, tightened up eligibility for disability pensions,
and aligned the pension system for civil servants to the general system. Also an annual
adjustment formula was introduced making an adjustment for the financial impact of
increased life expectancy. This was, however, suspended in 1998 and 1999 and must be
addressed in 2000.

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Country

Main features of pension systems (Pillars 1, 2 and 3)

Recent reform measures

Portugal

1. Earnings-related scheme

2. Voluntary, mainly company-based schemes covering about
7% of the working population insured under the general social
security system

3. Personal pensions available from life insurance companies
and pension funds

Finland

1. Flat-rate public scheme based on residency

schemes
2. Compulsory occupational
funded) and additional voluntary schemes

(pay-as-you-go and

3. Personal pensions available from life insurance companies

Sweden

1. Earnings-related scheme

2. Mainly sector-wide schemes based on collective agreements
covering about 90% of the working population

3. Personal pensions available from life insurance companies or
banks or through direct capital market investment

United
Kingdom

1. Flat-rate scheme based on contributions and state earnings
related pension scheme (SERPS)

2. Voluntary, mainly company-based schemes. Can be used as a
substitue for SERPS and cover about 46% of the working age
population.

3. Personal pensions available from life insurance companies.
Can be used as a substitue for SERPS.

A new framework law was presented by the new Government in late 1999 in response to a
White Paper presented in 1999. Reforms are therefore expected to be adopted in 2000.
Inter alia, it will need to address the creation of a compulsory second pillar contributory
based scheme, and tackling early retirement.

During 1999, agreement was reached between labour market organisations on measures to
postpone early retirement and extend active participation. Together with a large primary
balance, this will make it easier to meet increased age-related expenditures in coming
years. However, questions remain about the long-term sustainability of existing public
pension schemes, and further reforms are likely to be required to tackle imbalances at
source.

Reforms adopted 1998 are currently being phased in. They are increasing the degree of
funding pensions. They also establish a closer link between contribution paid and benefits
received, and indexation clauses were adjusted.

Projections released in 1999 show a broadly sustainable long-term position for the UK's
public finances. Extensive reforms were proposed in late 1998 and adopted in 1999. They
provide for a ‘minimum income guarantee’ and a replacement of SERPS (state earnings
related pension scheme) with a second flat rate pension.

20