Democracy's Difficult Choice: Pensions or Future Growth
For anyone interested in the future of democracy, a recently released Organization for Economic Cooperation and Development report on pensions makes uncomfortable, but essential reading. If trends continue, democracies may have to make hard choices between elderly provisions and investment in future generations. To do that, democracy itself may need to change.
Take, as a starting point, the fact that public expenditure on old-age benefits in the OECD is now on average above 8 percent of gross domestic product and steadily increasing. Japanese pension payments have doubled since 1990 to more than 10 percent GDP. Without that increase Japan would have a budget at or close to equilibrium today. Italy spends more than 15 percent of its GDP in pensions.
The proportion of GDP going to the elderly population naturally reflects the demographic trends of lower birth-rates as well as increased life expectancy. The portion of the population above 65 is now close to 20 percent in OECD countries and is expected to reach nearly 30 percent by 2050.
The demographic change has far-reaching implications for policy. The reallocation of resources in favor of the elderly has been such that poverty is now highest among the young. The 65-to-75 age group is now the least likely population segment to experience poverty while those in the 18-to-25 age group are the most likely to be poor.
Many OECD countries have taken measures "to make their systems more affordable in the long term,” such as increasing the retirement age in line with increased life expectancy or decreasing future pension indexation. But this is where political considerations trump budgetary strictures: This is the most powerful voter group in nearly every OECD country and it's clear politicians are determined to keep them happy.
Not only is the percentage of elderly population rising, but the voter participation rate of the elderly electorate is significantly higher than other age groups. Depending on the country, a 70-year-old is about four to five times more likely to vote than a 25-year-old. The compounded effect of a more numerous elderly population and a higher voter participation rate implies that in the next 20 to 30 years OECD countries would systematically have a majority of voters above the age of 65 at each election.
Government spending in the U.K. on pensions is nearly twice that spent on education (20 percent versus 11 percent), even though the elderly population is very slightly smaller than the percentage of the population under 15 (17.6 percent vs 16.98 percent). In his recent budgets Chancellor George Osborne protected pension spending while severely cutting most other spending areas. He also upheld the so-called “triple lock” stating that pensions cannot grow less than inflation, 2.5 percent or the average earnings growth, whichever is higher. This is one mechanism that explains what the OECD calls “systematic upward pressure on pensions spending as a share of GDP.”
The systematic voter arbitrage that produces policies in favor of one voter group has become entrenched and, if not addressed, will increasingly translate into lower investment in education and infrastructure, lower growth and reduced ability to support aging populations in the future. The longer term is, by definition, less critical to those with the least chance of living to see it.
Beyond encouraging higher levels of worker participation among elderly, the problem requires some major rethinking of the political process in order to accommodate a new demographic reality. This is especially urgent in countries with expectations of high levels of social spending. A possible remedy would be to make voting compulsory, as is the case currently in four OECD countries (Australia, Belgium, Luxembourg and Mexico.) In the first three, the average per person spend on public pensions, as a share of GDP, is five percent below the G7 average.
A more radical approach would rethink the nature of parliamentary democracy to bring it closer to its origins. Originally, parliament was created for tax-paying people to control the spending of the King. Today the executive's power emanates from parliament, which represents the population at large. As a result, in many countries, the senate or second chamber, originally representing landowners or particular regions, has become obsolete. Having one chamber represent taxpayers or contributors to civil society, with veto power over the budget, while the other chamber has a broader remit and is elected by all voters, would help redress the democratic deficit caused by today's demographic reality.
Providing for the elderly is fundamental to society and a moral imperative; but if a voting majority that is no longer economically productive diverts excessive resources this would be a recipe for long-term stagnation. It is a situation most elderly would not wish on their grandchildren.
This column does not necessarily reflect the opinion of the editorial board or Bloomberg LP and its owners.
To contact the author of this story:
Jean-Michel Paul at JPaul@acheroncapital.com
To contact the editor responsible for this story:
Therese Raphael at email@example.com