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Notional Defined Contribution Accounts (NDCs): Solvency and Risk; Application to the Case of Spain

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  • Carlos Vidal-Meliá
  • Inmaculada Domínguez-Fabián
  • María del Carmen Boado-Penas

Abstract

The aim of this work is twofold, on the one hand, to demonstrate the actuarial imbalance of the Spanish pension system in its current configuration, and on the other, to measure the aggregate economic risk to which the pensioner would be exposed if it were decided to apply ten formulas for the calculation of the retirement pension based on notional accounts. Given the uncertainty involved in working with a long term horizon, a model of generation of multi-periodic scenarios is used, based on the predictions of mean values of Alonso and Herce (2003) for the period 2006-2050. This provides up to ten thousand trajectories of the macroeconomic indices needed to calculate such parameters as the initial pension, the replacement rate (RR) or the internal rate of return (IRR), and the value-at-risk (VaR) of the pensioner. The results obtained are analyzed in both objective and subjective terms. The main conclusions are that, applying the notional philosophy, the expected average RR and IRR would be much lower than those obtained under the current rules of the pay-as-you-go system. If the projections used were slightly probable, the pension system would build up such a large additional financial imbalance in the future that it would require either a considerable reduction in the initial pension or a severe combination of parameter adjustments. From the risk perspective, the preferred formulas for a beneficiary most averse would be those based on future variations in salaries with a pension constant in real terms, whereas those beneficiaries less averse to risk would prefer formulas supplying a lower initial pension which grows in real terms in line with future variations in salaries.

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Paper provided by FEDEA in its series Studies on the Spanish Economy with number 226.

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Handle: RePEc:fda:fdaeee:226

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  2. Agar Brugiavini & Franco Peracchi, 2007. "Fiscal Implications of Pension Reforms in Italy," NBER Chapters, National Bureau of Economic Research, Inc, in: Social Security Programs and Retirement around the World: Fiscal Implications of Reform, pages 253-294 National Bureau of Economic Research, Inc.
  3. Nicholas Barr & Peter Diamond, 2006. "The economics of pensions," LSE Research Online Documents on Economics, London School of Economics and Political Science, LSE Library 2630, London School of Economics and Political Science, LSE Library.
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  6. Edward Palmer, 1999. "Exit from the Labor Force for Older Workers: Can the NDC Pension System Help?," The Geneva Papers on Risk and Insurance - Issues and Practice, Palgrave Macmillan, vol. 24(4), pages 461-472, October.
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  12. Carlos Vidal-Meliá & Inmaculada Domínguez-Fabián & José Enrique Devesa-Carpio, 2006. "Subjective Economic Risk to Beneficiaries in Notional Defined Contribution Accounts," Journal of Risk & Insurance, The American Risk and Insurance Association, The American Risk and Insurance Association, vol. 73(3), pages 489-515.
  13. Peter Diamond, 2005. "Pensions for an Aging Population," NBER Working Papers 11877, National Bureau of Economic Research, Inc.
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  15. Salvador Valdés-Prieto, 2005. "Securitization of taxes implicit in PAYG pensions," Economic Policy, CEPR;CES;MSH, CEPR;CES;MSH, vol. 20(42), pages 215-265, 04.
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