Dr. Tapen Sinha (ITAM) and Dr. Marco Espinosa (Federal Reserve Bank of Atlanta)
Problem of Informal Markets and Social Security
Informal labor markets make implementation of any kind of tax on labor income very difficult. In particular, it makes taxes required to pay for social security (either in a pay as you go system or in a funded system) very difficult to collect.
The problem of informality of labor markets is inexorably linked to underdevelopment. In many developing countries, the number of people working in the informal sector is larger than the number of people working in the formal sector.
In Latin America, in most countries, most economically active workers are in the informal sector. With this problem, the implementation of publicly mandated but privately administered pension becomes an affair of the minority.
We catalog the problem in the Mexican context. We also suggest several possible solutions to the problem.
Dr. Tapen Sinha (ITAM) and Dr. Tridib Sharma (ITAM)
Market Structure and Difficulty with Cost Reduction in Privatized Social Security
Elementary economic theory suggests that with competition, a private market would provide the lowest price in the market. A strong underpinning of privatization of social security is based on this belief.
With the data from various countries in Latin America, we show that despite the presence of many companies in the market, the management fees of publicly mandated but privately managed pension funds (the price of managing investment of the affiliates) do not fall. We build a game-theoretic model to explain this phenomenon.
Mr. Bernard Dussault (Actuarial Consultant)
Social Security: Equity and Cost Optimization
Considering the serious drawbacks that public retirement pension programs involve through the pay-as-you-go financing approach and the high operating costs of private mandatory individual accounts, social security should rather be provided through public funded plans administered on a centralized basis.
Indeed, full funding is to be preferred to paygo financing as it:
* Provides optimal social value by allowing all contributors, lower income earners in particular, to participate in, and get real value from, the gross national production not only through their work but also through their injection of investment capital in the economy via their contributions to the funded social security program.
* Underlies a fairer claim on benefits that is based on ownership rather than on government power to tax.
* Provides an optimal degree of equity in terms of the close relationship between contributions paid and benefits received by successive cohorts of participants in the social program, which ensures that any generation does not thereby get richer at the expense of preceding or subsequent generations.
* Is one of the key means of ensuring optimal compliance with the payment of social security contributions by virtue of the above-mentioned advantages and its normally much lower level of contribution rates compared to paygo financing.
Dr. Fernando Solis-Soberon (Grupo Bal and ITAM)
An Evaluation of Life and Disability Insurance, Workers Compensation Insurance and Annuities in the Mexican Pension System for Private Sector Employees.
The paper presents a description of life and disability insurance, workers compensation insurance and annuities within the Mexican pension system for private sector employees. It is shown that the premiums of life and disability insurance and workers compensation insurance are not set according to expected losses, that the life and disability premium is too low and that the premium for workers compensation is too high. The regulation of the annuity market is also discussed, pointing out design problems and possible moral hazard problems that may cause insurance firms insolvency.
Dr. Stephen Kay (Latin American Research Group, Federal Reserve Bank of Atlanta)
Politics, Economics, and Pension Reform in the Southern Cone
Social security reform in Latin America has been a highly contested and politicized issue-area. Politicians seeking to reform regional pension systems have faced considerable political opposition. This paper reviews a series of political and economic variables which seek to explain how politics influence pension reform. Increasing openness to trade, the role of international financial institutions, and the pension systems financial and administrative problems are variables which have created political incentives and shaped domestic political conflict over pension reform. This paper describes how these political factors have influenced social security reform outcomes in the Southern Cone.
Dr. Carlos Serrano, World Bank
Pension Reform, Income Distribution, Fiscal Policy and Capital Accumulation.
This paper explores how a reform form a pay-as-you-go (PAYG) pension system to a fully-funded (FF) one may affect income distribution (both intra and inter generational), poverty, fiscal policy, and capital accumulation. With this purpose, we develop an overlapping generations, general equilibrium model with heterogeneous agents. In the model, we argue that the transition to a FF system may have two different and opposite effect on poor individuals. On the one hand, it makes them worse off because the FF scheme is, in contrast to the PAYG, no longer redistributive. But, on the other hand, the transition gives them access to the financial system and, consequently, the possibility of earning interest payments on their savings. The model is calibrated with parameters that resemble the Mexican case. We find that a reform from a PAYG to a FF increases capital accumulation and is, in absolute terms, beneficial to poor workers. We also find that, under certain conditions, a reform from a PAYG to a FF may improve income distribution.
Dr. Robert Brown (Society of Actuaries and University of Waterloo)
Security for Social Security: Is Prefunding the Answer?
With the election of George W. Bush, the debate around privatization of Social Security in the United State is sure to be rekindled. The Republicans seem to favor separating a part of OASDI and moving that portion of the scheme into Individual Retirement Accounts. President Clinton had proposed creating larger social security funds and investing a portion of them in the private sector. Others have suggested more radical reforms such as moving Social Security from a Defined Benefit scheme to a Defined Contribution plan based on the Chilean model.
Mexico, in fact, did move to Defined Contribution Social Security (similar to Chile and as promoted by the World Bank) in recent reforms.
Canada has moved to a system of greater pre-funding for the C/QPP in order to cap contribution rates at 9.9 percent. These proposals are based on the goal of creating higher investment returns, in order to make social security benefits easier to finance in the long run.
The important public policy issues inherent in such proposals are numerous: questions of whether pre-funded social security plans are demographically immune; whether pre-funding social security can increase gross national savings and worker productivity; whether there are better ways to create a healthy economy; whether social security is best offered as a defined-benefit plan or a defined-contribution plan. This paper reviews each of these important public policy issues in the context of recent social security policy initiatives in Canada and the U.S.
After an extensive review of the literature the paper concludes that greater pre-funding of social security will not, of and by itself, create a more secure system.
Mr. Jaime Villaseñor (CONSAR)
Value at Risk and the AFOREs
One way of measuring the risk of a pension fund is through Value at Risk (VaR). At the CONSAR, VaR is calculated for pension funds in Mexico regularly. This paper discusses the use of VaR in the AFOREs.
Dr. Juan Jose Fernandez and Mr. Rafael Gamboa
Double Trouble: The Problem of Multiple Accounts in the Mexican Pension System
Multiplicity of accounts is a problem in many countries. For example, in Mexico, by the end of 1996, there were 10 million affiliates with more than 65 million accounts. This paper discusses a general method for detecting multiplicity of accounts in any national scheme. Thus, it will be of interest to any developing country contemplating privatization.