A Great Leap Forward? Pension Developments and Reforms in the Czech Republic, Hungary, Poland and Romania

Abstract

All transition countries inherited pension systems based on the principles of pay-as-you-go and defined-benefit (PAYG-DB). In the early years of operation, such systems had advantages over a fully funded, defined-contribution (FF-DC) system. For, under a PAYG-DB arrangement, those who retire receive pension benefits immediately and contributions initially tend to exceed the payments. These advantages, however, disappear later on, when population (and employment) growth rates decline and when people live longer after retirement. Under such circumstances, a FF-DC program has the advantages of greater flexibility and transparency, hence greater financial viability. The changeover from PAYG-DB systems to FF-DC systems is therefore a worldwide trend. In transition economies, this trend was reinforced by a crisis of pension finances due to three additional factors (1) large transformational recession, (2) extension of pension insurance to farmers and (3) rapid expansion of the informal economy. Factor 1 increased expenditures as early retirements became a popular way of containing the unemployment problem; it also reduced revenues as employment declined. Factor 2 increased net expenditures since farmers’ contributions have been insignificant. Factor 3 reduced revenues. These factors have therefore made this changeover more urgent and, in some countries, more rapid.