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# V. OTHER CONSIDERATIONS FOR PENSION POLICY

105 This section discusses how the elements of pension economics can be applied to a small country, and how some broader policy recommendations will differ from those for larger countries, if the small country is characterized not only by a small contribution base but many of a number of other characteristics. Among the most important of those are: greater international mobility capital than large countries; relatively greater scarcity of human capital specialized in the financial sector or in enforcement of tax policies, in many cases, proportionally greater gross migration of the labor force, causing demographic instability; and fewer independent interests.

# A. **Objectives of Pension Policy**

106. There are three well-established objectives of national pension policy: (a) to alleviate the market failures that limit the efficiency and reliability of private capital markets for voluntary saving and insurance; (b) to help improvident individuals by ensuring that they save and insure prudently. An aspect of this objective is to prevent individuals who rely on support from family, community, or the state from exploiting that support by failing to save adequately; and (c) to help the elderly poor who could not save enough during their working lives for survival in old age (World Bank, 1994).

107. Other objectives, such as capital accumulation and redistribution of wealth between generations, can be achieved with tools other than pension policy, such as fiscal policy and national debt policy. Thus, pension policy should focus on the three objectives mentioned above, where it is indispensable. The use of pension policy for these other objectives is inefficient if this implies sacirificing the three proper objectives, because the proper use of other policy tools can have achieve botrh objectives together.

108. Objective (c), income redistribution towards the long-term poor, is not the focus of this paper, but merits discussion. The income distribution effects of a pension system can be classified between intended and unintended. Two examples of intended redistribution are a minimum pension and a benefit formula that includes a fixed amount of benefits plus some proportion of past wages. Unintended redistribution in favor of high-income workers occurs for many reasons. One is that highincome workers naturally take more advantage of fiscal incentives. Defined-benefit schemes are more prone to unintended redistribution because the benefit formula is not adjusted for the higher life expectancy of richer people. Similarly, defined benefit schemes that rely on the average earnings of the last few years of work do not adjust for the fact that high-income people have a steeper ageearnings profile.

1093. Intended income redistribution through the pension system finds a tough competitor in tax and transfer systems. In most countries, the pension system covers just formal sector workers, which means middle and high-income workers. In this setting, redistribution among covered workers leaves oul; the really poor, who work in the informal sector or do not have employers to act as collection agents, as in the subsistence and communal sectors of developing countries. Granting pensions to the poor elderly requires, in most countries, the use of institutional vehicles different from formal social security, such as municipal networks to distribute transfers financed by the national government. Collecting revenue from independent workers is possible, as proposed for Latvia JHolzmann, 1994), but requires an administrative effort.