Monday, 25 October 2010

The Scandal of Private Pensions

Here's a game you could play. Find a member of Poland's urban middle class, engage him/her in conversation and then mention the word ZUS (an acronym for Poland's social insurance system – Zakład Ubezpieczeń Społecznych). The reaction will almost always be the same: a tirade of expletives and a bemoaning of how they have to pay X amount every month and yet get nothing in return – perhaps accompanied by some vague theories about the system's inefficiency and then a joke about the people who work there.


While you have this person's ear you could then extend the game. This time utter the acronym OFE (which stands for Poland's private pension schemes – Otwarty Fundusz Emerytalny). This time the reaction is less certain. A couple of years ago you would almost certainly have received some positive and optimistic assessments of these schemes. After all these were launched in 1999, by the then Finance Minister Leszek Balcerowicz, amongst great fanfare. Advertisements appeared showing healthy looking pensioners on exotic holidays wearing Hawaiian shirts. The intended message was that we were breaking from the inefficient state system of the past and allowing people's funds to be invested in a growing stock market. The future was bright, the future was private pensions. Nowadays things do not look so rosy.

Earlier this year the reality of the private pension system was revealed – as the first recipients of these private pensions came of age. However, instead of booking their foreign holidays, these new pensioners faced up to the reality of living their retirement in financial hardship. The first OFE payments to these new pensioners equalled just ZL23 a month! Now of course we would expect these pensions to be lower than those in the future as they had only been paying for around 10 years. But 23 zloty!!! This news has been accompanied by a growing realisation that these private pensions are in-fact elaborate schemes of using tax-payers and public money to swell the bank-accounts of private investors. Let's rewind a little and remind ourselves of how this system came about.


The OFE pensions' system was created during the term of the right-wing coalition government led by Jerzy Buzek between 1997 and 2001. Buzek now spends his time employed as head of the European Parliament and advising Europeans that they should work longer and harder. His government was marked for introducing a series of market reforms in the public sector and speeding up the privatisation of the Polish economy. This resulted in a slump in economic growth and unemployment virtually doubling to nearly 20%. He was rewarded not just with electoral defeat but by his political grouping being removed completely from parliament and then disappearing all-together.


One of his major reforms was to introduce a so-called 'second-pillar' of the national pension system. This in effect meant creating a private pension fund into which taxpayers are compelled to pay into and whose funds are invested on the stock-market – thus ensuring growing pensions for all (the hen really would lay golden eggs.) Now here's the puzzle. Perhaps it would be a good idea to invest part of the state pension money in the stock-market in an attempt to valorise the pensions. This is of course a risky business – but some limited and safeguarded investments could be worth doing. Surely however the government could do this themselves – even paying some bright young things to advise them and oversee these investments. No. What we needed was to pass these funds over to private pension companies who we would then pay large sums in order to do this for us.


In 2009 it is estimated that the private pension companies in Poland made a clear profit of around $766m, from an investment of around $3bn (i.e. with a profit rate of 25%). Nice work if you can get it. Furthermore ZUS has actually paid more than ZL140m of its own money into OFE, since the funds were create. In the meantime poor ZUS has had to continue paying its usual 100% pension payments but has been starved of funds that are being paid into these private pension funds. This has led to ZUS having to borrow more money to service these debts and thus sinking further into debt. The sting in the tale is that ZUS has often turned to these private pension companies to borrow money from.


Therefore Poland's growing public debt is being increased partly due to the creation of these private pension funds. During the eleven years since the formation of OFE, Polish public debt has risen by around 13% of GDP. Prof. Leokadia Oreziak estimates that the pension system built around OFE has contributed to public debt growing by around 2% of GDP annually. This situation has not only been noticed by critics of the system but also by some in the government. This summer the Finance Minister Jacek Rostowski and Minister of Labour Jolanta Fedak proposed that part of the OFE payments be taken from OFE and given back to ZUS. Fedak suggested that individuals should be allowed to resign from OFE and pay fully into ZUS.


Returning from holiday PM Donald Tusk took on the issue, admitting that the system did not benefit pensioners. However, the lobby group around these institutions is strong in Poland and it has a large influence within the government. The government ended up by deciding to create two forms of investment funds through OFE. One would be for those approaching pension age and would involve more conservative investments; whilst the other would be for younger people which would take more risky investments. There has also been a new regulation introduced stating that the fees charged by the private pension companies on payments cannot exceed 2.1% and 2.8% respectively (currently they equal 3.5%). However, a new extra fee of 2% has been added, which has been termed a 'solidarity charge' (sic).


The result of these new rules (pushed by the government's 'social liberal' Michal Boni) is that pensions are even more reliant upon the financial markets. According to present estimates pensions could end up half the worth of those existent when the system was created over a decade ago. Even the most optimistic scenarios show that pensions will be lower than those given previously. If there were to be another financial crisis in the future then pensions in Poland could be reduced to a level where even the most basic needs of pensioners cannot be met.


Pressure is now coming from the lobby groups and the media (loudest of course from Balcerowicz who set up the OFE) for the government to act and deal with Poland's growing public debt. The proposals to cut public spending and raise VAT are being accompanied by louder calls to increase the retirement age. Presently French society is in revolt over Sarkozy's proposal to raise the retirement age to 62. In Poland some are calling for it to go up to 67 or 68. All this in a nation where the average life-expectancy is 71.3! I guess that Hawaiian shirt won't be necessary after all.


References:


'Boni: Emerytury jeszcze bardziej uzaleznic od kaprysow rynkun'


Dariusz Zalega 'OFE-kracja zadłuża Polskę' , Le Monde Diplomatique Edycja Polska October 2010-10-25


'Emerytalne mydlenie oczu', TVP

3 comments:

  1. Great piece, Gavin. Since Donald pointed your blog out to me, has become required reading. Would you know if there was World Bank influence or in fact impetus behind the private pension scheme? I suspect yes, but don't have time currently to go digging.

    ReplyDelete
  2. Thanks. Not sure myself on that but there was a lot of pressure on Poland in the 1990s to follow the 'Chilean' model of pension reform and privatise their pensions. I'd imagine the World Bank would have been involved in this.

    ReplyDelete
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Go for it - but if its abusive then it gets blocked