Country-level, mandatory, self-financeable pension replacement rates in OECD countries

Abstract

AbstractThe replacement rate (RR) is a quintessential property of pension systems. Yet, current measures of the RR are plagued with problems. We argue that the concept of RR should be based on the replacement of lifetime permanent income rather than pre-retirement income, and we show that the self-financeable RR with respect to the permanent income has the advantage of being independent of labor income (wages and density of contributions). We define an RR measure, called CRR, as the country-level RR of the permanent labor income that the working-age population could buy with their mandatory pension deposits if they stay constant over time. Pension deposits refer to national mandatory contributions plus the fraction of non-contributory pensions whose financing could be attributed to the working-age population, all as a percentage of the gross domestic product. The CRR is easy to compute and interpret, is nationally representative, and provides an international ranking because it is independent of pension rules, GDP, intertemporal and intergenerational redistributions, and sustainability. The application of the CRR to most OECD countries using the available data shows a 65% average across them, with several countries achieving a 100% RR, all mostly due to their high mandatory contributions as a percentage of GDP.