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Flexibility in Retirement: a framework for the analysis *

Elsa Fornero University of Torino and CeRP, Collegio Carlo Alberto. Flexibility in Retirement: a framework for the analysis *. Turin, November 22nd , 2006 * Based on a Report prepared by Miche Belloni, Chiara Monticone and Serena Trucchi

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Flexibility in Retirement: a framework for the analysis *

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  1. Elsa Fornero University of Torino and CeRP, Collegio Carlo Alberto Flexibility in Retirement: a framework for the analysis* Turin, November 22nd , 2006 *Based on a Report prepared by Miche Belloni, Chiara Monticone and Serena Trucchi for the DG Employment, Social Affairs and Equal Opportunities for the European Workshop on Flexibility in the age of retirement (Madrid, October 26th, 2006)

  2. Desirability and Effectiveness of flexible retirement • objectives • a broad definition • flexibility is not a free lunch • is there a desirable benchmark? • how can it be reached? • how distant from it are European Countries?

  3. Objectives: extending working lives and making retirement gradual The introduction of greater flexibility within European pension systems aims at • extending working lives by increasing the average retirement age • reducing distortions embedded in rigid statutory retirement ages • granting workers a wider choice about the timing and patterns of retirement, as well as recognizing them greater responsibility as to the formation and use of retirement savings Elsa Fornero - CeRP

  4. Flexible retirement: a broad definition Flexibility in retirement means allowing workers some degree of choice with respect to: • when to start drawing down their retirement wealth (flexibility in retirement age) • how much to draw (gradual retirement, with partial pension) • how to draw (which combination, if any, of annuity and lump sum; what kind of dynamics for the annuity, i.e. constant or increasing in in real terms) Complete flexibility is however neither possible (a compulsory system has to establish minimum conditions, i.e. a minimum participation period), nor desirable (for the same reasons which support a public pension system) Elsa Fornero - CeRP

  5. Flexibility must not be a way to transfer resources from future to current generations In all European pension systems it is possible, up to some extent, to reduce or to extend one’s working life with respect to the “legal” (statutory) retirement age(s) In particular: • easier and earlier way out are provided for the disabled and the unemployed • all countries (possibly with the exception of ‘flat-rate’ ones: DK, NL, IRL, UK) have - or had, before the reform process - rather generous early retirement schemes, which typically reward early starts of working life Flexibility in retirement should not be confused with rather generous early retirement provisions Elsa Fornero - CeRP

  6. The degree of flexibility is connected to the degree of actuarial fairness Little or no flexibility Maximum flexibility Increasing flexibility • An actuarially fair and neutral pension system (as in the so called NDC case), characterized by: • a minimum age • age-varying benefits • a gradual drawing down of pension wealth • possibilities of choosing different combinations of lump sum and annuities and different dynamics for the annuity A Beveridgean pension system with universalistic benefits, largely uncorrelated to contributions and awarded at pre-determined age(s) Elsa Fornero - CeRP

  7. Two sides of the same coin… In this framework, flexibility in retirementage and partial retirement - two aspects of a more general problem - are very much two sides of the same coin • The first usually refers to the receipt of a full pension while the second provides a partial one • Both are flexible as far as their beginning is concerned, albeit within given age windows (which, when contemplated, usually do not coincide) • Actuarial corrections (more or less neutral) should apply Elsa Fornero - CeRP

  8. Characteristics FormulaFlexibility is the natural counterpart of (N)DC systems, although it can be applied also to DB systems AgeFlexible retirement age must be bounded below by a minimum, while a maximum may not exist (although it usually does). Partial retirement is necessarily bounded too BenefitsThe principle of actuarial equivalence should guide the calculation of flexible pensions Work The amount of the partial pension drawn is usually a fraction of the full pension, proportional to the reduction in hours or earnings Contributions The contributions paid while getting partial pension should (and often are) taken into account for future benefits Elsa Fornero - CeRP

  9. Elements of evaluation Sustainability the more actuarially fair is the system, the more sustainable it also is Effectiveness of the reforms in increasing retirement age, which depend very much on the transparency of the formula and on workers understanding of the mechanism Equity If flexibility is based upon actuarial fairness – as it should - equity problems remain open, as the actuarial principle cannot in itself adequately cope with disadvantaged working conditions and histories (i.e. shorter life expectancy connected to certain types of jobs; shorter and more discontinuous careers of women) Elsa Fornero - CeRP

  10. Effects on labour supply and average retirement age The likely impacts on labour supply and on average effective retirement age is difficult to establish a priori, as they crucially depend • on the actuarial properties of the system (whether it is actuarially neutral and whether it embeds the proper incentives), as well as • on individual behaviour (what the worker would have done, had not existed either form of flexibility, e.g. in the absence of partial retirement, would workers have chosen full (early) retirement – if any – or would they have worked full-time?) Elsa Fornero - CeRP

  11. The European panorama European provisions of flexible retirement are quite diverse:  some countries allow for both a flexible full retirement and a partial pension, while others allow for just one of them, or none However, the current state-of-art must be considered in a dynamic setting, looking not only at the past situation but at the future steady state, as defined by reforms, as well as at the transition period (which can be quite long) Elsa Fornero - CeRP

  12. Flexible retirement age • Among the European NDC systems, three (LV, PL, SE) allow for an age window for retirement, while Italy partially suppressed it a few years ago • Some degree of choice in retirement age – with national specificities – is possible also in DK, FI, ES, FR, DE, UK Elsa Fornero - CeRP

  13. Partial retirement • In some cases (SE, FR) partial pension can be drawn starting from the minimum retirement age. In other countries (DK, ES, FI) it can only be received before, making partial pension rather similar to early retirement • The amount withdrawn is proportional to the earnings loss (FI) or to the reduction in working time (DE, DK, ES, FR) Elsa Fornero - CeRP

  14. Income from pension at 55-59 (%) Percentage of income from old-age pension as an income source for individuals in the age bracket 55-59 (2003). Source: SHARE Elsa Fornero - CeRP

  15. Income from work at 65-69 (%) Percentage of income from work as an income source for individuals in the age bracket 65-69 (2003). Source: SHARE Elsa Fornero - CeRP

  16. Working at age 65-69 (%) Percentage of individuals working in the age bracket 65 – 69 (2003). Source: SHARE Elsa Fornero - CeRP

  17. Concluding remarks • Flexibility allows to mitigate the contrast between the generality of rules and the variety of individual experiences and preferences • Flexible retirement age and partial retirement are perceived as two separate instruments, while they should be more integrated • Both should be designed in order to encourage (or at least not to discourage) a longer permanence in the labour force • Implications in terms of financial sustainability, adequacy and equity should all be equally considered • To enhance the positive aspects of flexibility, education to retirement savings is fundamental Elsa Fornero - CeRP

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