Pension system reforms, the capital market and saving

Pension system reforms seek to combine and reconcile both economic and social functions. On the basis of both conceptual aspects and the actual experience of Chile, this article illustrates the difficulties encountered in trying to make reforms ensure the fulfillment of both types of functions. These difficulties stem from two factors: i); the need to consider the reform of the pension system as a whole, where, parallel with the capitalization component, it is necessary to develop another pay-as-you-go component to finance the costs of the transition from one pension system to another, minimum pensions, and social welfare pensions; and ii); the need to distinguish between financial saving and real saving (or national saving in the national accounts sense); and to study the financial sector's capacity to intermediate financial saving towards real investment. The Chilean experience confirms this view. The fiscal resources needed to finance the cost of the transition and the other items of the pay-as-you-go component represent flows which exceed those coming from workers' contributions, thus affecting the size and composition of the net flows of savings generated by the reforms. Furthermore, the relatively incipient nature of the capital markets and the regulation needed to ensure protection of the workers' pension funds in an investment portfolio approach make it more difficult to turn this financial saving into real investment. In the final analysis, although both types of functions include objectives which are desirable from the point of view of public policies, the mere reform of pension systems to change them from predominantly pay-as-you-go systems to others with substantial capitalization components does not guarantee that such objectives will be achieved.