Should Public Pensions be Funded

Abstract

This paper outlines some of the arguments for and against the funding of public pensions, with a view to establishing whether there is an economic basis for judging it to be superior to pay-as-you-go (PAYG). It is concluded that if funding has an edge over PAYG, it is not an overwhelming one. While funding may have a modest cost advantage over PAYG and have superior characteristics from the standpoint of intergenerational redistribution, its alleged superiority in handling demographic and economic risk, as well as in signalling future pension costs, is difficult to justify. While theoretical arguments tend to be consistent with the view that funding will be associated with higher saving than PAYG, convincing empirical support is missing. Nevertheless, the momentum for shifting from PAYG to funding remains. But if there is to be such a shift, there may also be a case for shifting from public to private pension provision.