Explaining pension reforms: an intertemporal veto-actors approach

Department of Political and Social Sciences Explaining pension reforms:an intertemporal veto-actors approach Igor Guardiancich igor.guardiancich@eui.eu Guest lecture Issues in Comparative Politics Tuesday 29 March 2011

Department of Political and Social Sciences SUBSECTION I The rise and fall of Bismarck and Beveridge Nicholas Barr The Welfare State as Piggy Bank: Information, Risk, Uncertainty, and the Role of the State.

Department of Political and Social Sciences What Do We Need Pensions For?3 primary objectives + 1 secondary • consumption smoothing over the life-cycle PIGGY BANK OBJECTIVE • insurance against various risks DISABILITY, LONGEVITY, DEATH • poverty relief ROBIN HOOD OBJECTIVE • economic growth INCREASED NATIONAL SAVINGS and LESS LABOUR MARKET DISTORTIONS

Department of Political and Social Sciences How to organize pensions?2 main ways • by storing current production • by building a claim on future production This can be financed in two ways: • funded schemes (401k plans) • PAYG schemes (US Social Security) These can pay benefits according to: • defined-benefit formulae • defined-contribution formulae

Department of Political and Social Sciences The mythology of pensions AVAILABILITY OF OUTPUT IS THE MAIN THING • PAYG copes well with inflation • PAYG allows pensioners to share in post-retirement economic growth • PAYG allows a full pension to be paid immediately • FF is vulnerable to unanticipated inflation • FF does not allow pensioners to benefit from post-retirement economic growth • FF take a long time to build up rights for a full pension

Department of Political and Social Sciences The well-spring of immortality ARE FUNDED PENSIONS REALLY IMMUNE TO ADVERSE DEMOGRAPHICS? A balanced PAYG requires that sWL=PN. If there is a demographic shock, there are 2 scenarios: Static output – a) pensions are reduced and the demographic burden falls on pensioners; b) contribution rates are raised, imposing the cost on workers. Growing output – In a PAYG average wages increase, pensions do not. The replacement rate declines, but crucially pensioners get the real pensions they were expecting. There is no need for further adjustments.

Department of Political and Social Sciences Pension history:Bismarck and Beveridge Bismarck social policies (1889) are based on social insurance, with earnings-related benefits for employees and entitlements based on contribution records, and funded through employer and employee contributions. Beveridgean policies (1942) are characterized by universal provision with entitlement based on residence and in some cases on need, with benefits being flat-rate and financed through general taxation revenue.

Department of Political and Social Sciences

Department of Political and Social Sciences SUBSECTION II:New Pension Orthodoxy:the case ofCentral Eastern and Southeastern Europe World Bank Averting the Old Age Crisis USAID Pension Reform in Eastern Europe and Eurasia: Experiences and Lessons Learned

Department of Political and Social Sciences New pension orthodoxyAverting the Old Age Crisis • World Bank’s blueprint 13 years after Chile • dual paradigmatic shift: from collective to individual risk bearing and from state to market provision

Department of Political and Social Sciences Socialist and post-socialist pension systems UNDER SOCIALISM • PAYG financing, but cross-subsidisation of other budget elements • de facto Bismarckian (employment-related, defined-benefit with last or best year formulae), but increasing coverage • low replacement rates, but low retirement age • universalism betrayed by granting special privileges DURING TRANSITION • early retirement, disability - great abnormal pensioner booms • overstretched to the point of breakdown (skyrocketing costs and system dependency ratio) • 3 reform phases: refinancing, retrenchment and restructuring

Department of Political and Social Sciences Reforms in Central and Eastern Europe During 1998-2008 more than 10 CESE countries adopted the privatization elements of the ‘new pension orthodoxy’ --- Many also individualized their highly redistributive pension systems by adopting Notional Defined Contribution formulae (PL, LV) Defined Benefit point formulae (EE, HR, RO, SK, SR) flat rate benefits (KO) benefits related to automatic stabilizers (FBiH, RS)

Department of Political and Social Sciences Objectives and criticism The primary goal of pension systems is to reduce poverty and provide adequate retirement income within a fiscal constraint. --- The ‘new pension orthodoxy’ has been criticized from within and without the World Bank. --- Despite systemic reforms, the newly instituted retirement schemes fail to fulfil their fundamental objectives. The arguments on the political insulation of multipillar (especially private) schemes were falsified in practice.

Department of Political and Social Sciences 5 policy problems • Fiscal sustainability • Social adequacy • Lacking administrative capacity and infrastructure • Insufficient coordination with labour and financial market reforms • Vulnerability of policy to political interference “Without parallel reforms in labor and financial markets, even the best conceptualized pension reform may derail in political and social policy terms. In turn, without a clear reform vision […] the credibility of the reform will be lowand, consequently, resistance to reform will be high.”(Holzmann, 2009)

Department of Political and Social Sciences SUBSECTION III:Frozen landscapes and immovable objects Paul Pierson The New Politics of the Welfare State Kent Weaver Paths and Forks or Chutes and Ladders?: Negative Feedbacks and Policy Regime Change

Department of Political and Social Sciences Why is reform difficult? Misperception of risk

Department of Political and Social Sciences Why is reform difficult? Concentrated interests

Department of Political and Social Sciences Path-dependence? Path dependence is best described as a process of increasing returns, positive feedback, self-reinforcing feedback – the costs of exit augment at each step we take on a given path increase. Famous examples: QWERTY vs. Dvorak; VHS vs. Betamax Large fixed costs – they lower unit costs and people tend to stick to one option; Learning effects – higher future returns; Coordination effects – when others start using linked infrastructure (software with hardware, complementary property rights); Adaptive expectations – options that fail to win broad acceptance will have drawbacks later on.

Department of Political and Social Sciences SUBSECTION IV:Challenging standard veto actors approaches Scartascini, Stein and Tommasi How Do Political Institutions Work? Veto Players, Intertemporal Interactions, and Policy Adaptability Gehlbach and Malesky The Contribution of Veto Players to Economic Reform Guardiancich and Orenstein A Stable State? Political Cycles and Policy Stability in the Implementation of Radical Pension Reforms in Central and Eastern Europe

Department of Political and Social Sciences Studying policy stability Stability of public policy is a fundamental variable in the literature on welfare state reforms. Analysts have emphasized the importance of path-dependence, stressing that reforms skid on frozen landscapes and collide with immovable objects. However, path dependence applies far less to Eastern Europe. CEE countries occupy a unique niche in welfare state policy in between the developed West and the developing South. They inherited from socialist times ‘pre-mature welfare states’ which display the fundamental characteristics of Western social policy sophistication, but, are subject to the sort of policy instability and to frequent systemic reversals that are more characteristic of Latin American countries.

Department of Political and Social Sciences Lithuania* Slovenia Poland * Hungary Slovakia Estonia* Kosovo* Croatia* Latvia * Czech 1989 1995 2000 2005 2010 NDC Bismarckian Bismarckian Lite Universal Mixed Residual Asterisk indicates that a country has added a small mandatory or quasi-mandatory defined contribution individual account tier.

Department of Political and Social Sciences Gross Replacement Rates

Department of Political and Social Sciences Standard veto actors Proposition 1: A more decisive polity must necessarily be less resolute (Haggard and Mc Cubbins). Proposition 2: As the effective number of vetoes increases, the polity becomes more resolute and less decisive (Haggard and Mc Cubbins). Or equivalently: Many veto players make significant policy changes difficult or impossible (Tsebelis).

Department of Political and Social Sciences Intertemporal veto actors I Proposition 1: A more decisive polity not necessarily must be less resolute. There are some forces (of different equilibria in repeated-interaction contexts) leading to a positive association between decisiveness and resoluteness (adaptability and stability). Proposition 2: Many veto players do not necessarily make significant policy changes difficult or impossible. There are some channels through which more veto players increase policy adaptability.

Department of Political and Social Sciences Intertemporal veto actors II The literature on intertemporal cooperation has focussed only on: i) the number of veto players (Scartascini, Stein and Tommasi, 2008; Gehlbach and Malesky, 2010); ii) the probability that the policy distance a future veto player will be great/small (Frye, 2010). This paper combines the two.

Department of Political and Social Sciences Polarization and other indicators

Department of Political and Social Sciences Croatia Croatia is a relatively extreme case of reform under majoritarian institutions and high polarization. Croatia went through two periods in its post-communist political development: the first, the semi-presidential rule of Franjo Tuđman and his political party, the Croatian Democratic Union (HDZ), and the second, a period of rapid democratization under pro-democratic, pro-EU governments starting in 2000. Pension reform in Croatia took place under the first regime, while implementation took place under the second. The majoritarian institutional framework facilitated radical reform, but continuing political polarization intensified instability in implementation.

Department of Political and Social Sciences Croatia

Department of Political and Social Sciences Hungary Hungary has one of the least constrained executives in Central, Eastern and Southeastern Europe. After the ascendancy of the right party, Fidesz, in 1998, its two-party system became so polarized that one analyst (Bozóki 2008: 224) writes that the country is in a civil cold war that violently erupts during each election. Political business and policy cycles are consequently extreme. Similar to Croatia, the Hungarian case shows how policies adopted by a small number of veto players are vulnerable to later policy instability.

Department of Political and Social Sciences Hungary

Department of Political and Social Sciences Poland Poland stands in stark contrast to cases of divisive policy-making and limited bargaining, such as Croatia or Hungary. Poland has far more inclusive political institutions, a less polarized party system with numerous groups represented, and a high level of civil society involvement in politics. Poland is often compared to Hungary, yet its affinities with Slovenia are more marked. The two countries’ executives were constrained in their choices and legislated successfully only through inclusive policymaking.

Department of Political and Social Sciences Poland

Department of Political and Social Sciences Slovenia Among the cases analyzed in this paper, neo-corporatist Slovenia is the most consensual democracy. Its political-institutional structure generates numerous veto points, due to fragmented parties, proportional representation, and the strongest labor movement in Central, Eastern and Southeastern Europe. Hence, Slovenian executives are continuously reminded that divisive policymaking is rarely a feasible strategy, especially when legislating complex socioeconomic policies

Department of Political and Social Sciences Slovenia

Department of Political and Social Sciences Thank you very much

Explaining pension reforms: an intertemporal veto-actors approach