Social Security Transition in Italy: Costs, Distortions and (Some) Possible Corrections

Abstract

This paper focuses on alternative money's worth measures of the Italian (public) pension system for representative cohorts, considering both the present transition and the future steady state envisaged by recent reforms. Micro-based calculations of the aggregate budget effects induced by further possible policy changes are also presented. The main results of the simulation exercise are: i) young and future generations face a steady and strong reduction of their social security's worth mainly due to the 1992 and 1995 reforms and accentuated by the discontinuities characterizing the reforms; ii) throughout most of the transition period, the increase in benefits for an additional year of work, after reaching seniority pension requirement, does not offset the financial costs generated by additional contributions and shorter expected retirement. The implied loss still represents a strong incentive to early retirement; iii) the extension, from the year 2000, of the pro rata mechanism to all new pensioners would generate a non-negligible smoothing effect on microeconomic distortions, but a comparatively small reduction in pension expenditure; iv) a much larger reduction can be obtained if seniority pensions are determined according to actuarial fairness: i.e., by taking into account life expectancy at retirement; v) considering the introduction of an opting out clause, all generations hit by recent reforms have an incentive to quit; the younger the cohort, the stronger the incentive. The paper finally highlights aspects of the social security problem which deserve to be addressed in a more complete analysis, such as risk adjustments, welfare implications and general equilibrium feedback effects. Even without these extensions, we think our conclusions are quite robust, and may help policy discussion.