The Effects of Parametric Reforms on Retirees’ Welfare and Financial Sustainability of the Social Security Organization Pension System

Extended Abstract Introduction: The World Bank in its 2017 report on Iran, listed three crises for the Iranian economy: pension funds, water security, and ecology. Pension funds crisis can be addressed in many respects, but what is now referred to, as the main problem of pension funds in Iran, is the large financial deficit in the three pension funds: Civil Servants Pension Fund (CSPO), Armed Forces Pension Scheme (AFPF), and Steel Industry Workers Pension Fund (SIWPF). These three funds cannot provide pensions for their retired members without government assistance. There are several reasons for this crisis; some of them, such as increasing the number of the elderly in the population, cannot be prevented, but some others have been preventable like laws imposed on the funds, regardless of their financial implications. One of the most important of these laws is the retirement age. According to the current laws, anyone can retire at the age of 50 by paying contribution for 30 years. In addition, some laws have also facilitated early retirement which led to a long period of receiving pension. For example, on average, a person insured by CSPF pays contribution for 28 years and receives benefits for 27 years (the retiree and his/her survivors) (State Pension Statistics, 2010). For the SSO, on average, a person pays contribution for 25 years and receives benefits for 23.5 years (Akhavan, 2016). However, World Bank studies show public pension sustainability is possible, if and only if, the duration of receiving benefits can be limited to 15 year (Schwarz, et al., 2015). Statistical facts show that the SSO will face deficits soon. Therefore, a set of plan reforms, aimed at achieving financial stability, is needed. Reforms are also generally carried out at two levels; first, parametric reforms, which include changes in retirement conditions, pension calculation conditions, and the contribution rate. Second, structural reforms, in which the method of financing and the benefit calculating are structurally changed. Method: In this study, parametric reforms in terms of changes in retirement conditions (increasing the age required for retirement) and changes in pension indexation (from nominal wage-based indexation to inflation-based indexation) have been investigated. For this purpose, a population model for Iran has been drawn and based on that the status of SSO members has been estimated from 2015 to 2090. Then, based on the available data, the financial stability status of the system is evaluated in two scenarios: either continuation of the existing situation or conducting parametric reforms. For this simulation, a special software for retirement systems called PROST (Pension Reform Options Simulation Toolkit) was used For this simulation it is assumed that the retirement age will gradually increase to 65 years for men and 60 years for women by 2025 and 67 years for men and 65 years for women until 2050. Findings: The results show that without reforms, the system’s financial deficit will increase over time and will reach more than 5.1 percent of GDP until 2050. In this situation to keep the pension system stable, the contribution rate (in the retirement sector only) must increase from the current rate of 18% to 60.7% of wages, which is virtually impossible. Therefore, further reforms on the pension system need to be implemented. Table (1) Estimates of the Financial Status of the Pension System and the Number of System Members before Reforms Title    2020    2050    2070    2090 PAYG Total Revenue (percentage of GDP)    3    2.1    1.6    1.4 PAYG Total Expenditure (percentage of GDP)    3.5    7    6.9    6.1 PAYG Current Balance (percentage of GDP)    -0.5    -4.9    -5.1    -4.8 Total PAYG Debt (Implicit & Explicit) (percentage of GDP)    222.8    282.7    251.4    207.7 Total Contributors (Million)    14019.6    14238.6    14694.2    14555.9 Total Benefiters (Million)    3174.2    11221.2    14088.9    15936.4 Contribution Rate Required to Balance Fund (percentage of Wage)    19.5    37.2    50.9    60.7 The simulation shows if reforms were implemented (increasing the retirement age and changes in the benefit indexation), the deficit would be delayed until 2052. So, increasing in contribution rate is not necessary. The impact of the reforms on the financial sustainability and number of system members has been shown in Table 2. The numbers in parentheses indicate changes to pre-reform conditions. Table (2) Estimates of the Financial Status of the Pension System and the Number of System Members after reforms Title    2020    2050    2070    2090 PAYG Total Revenue (percentage of GDP)    3.1 (+0.1)    2.6 (+0.5)    2.1 (+0.5)    1.7 (+0.3) PAYG Total Expenditure (percentage of GDP)    2.9 (-0.6)    3.9 (-3.1)    4.5 (-2.4)    4 (-2.1) PAYG Current Balance (percentage of GDP)    0.2 (+0.7)    -1.3 (+3.6)    -2.4 (+2.7)    -2.3 (+2.5) Total PAYG Debt (Implicit & Explicit) (percentage of GDP)    135.1 (-87.7)    171.6 (-111.1)    155.7 (-95.7)    136.1 (-71.6) Total contributors (million)    14395.6 (+2.7)    17461 (+22.6)    17551 (+19.4)    17613.7 (21) Total benefiters(million)    2741.7 (-13.6)    6370.8 (-46.2)    9397.4 (-33.3)    10719 (-32.7) Contribution Rate Required to Balance Fund (percentage of Wage)    17.4 (-2.1)    19.9 (-17.3)    26.8 (-24.1)    31.9 (-28.8) Nonetheless another question raised, that is, how these reforms will affect the welfare of retirees. To evaluate this effect, we need to define an index that can measure the welfare of retirees. The most commonly used indicator for this purpose is the Replacement Rate that shows the ratio of the person’s first pension to his / her last Wage. The replacement rate for SSO is more than 90% for people who have paid contribution for 30 years, but since the average number of years they receive contribution is less than 30 years (approx. 25 years) The replacement rate is practically lower at around 75%. Table 3 outlines the replacement rate changes due to the reforms. Table (3) Estimates of Replacement Rates for New Retirees and the Whole System After the Reforms 2090    2070    2050    2020    2018    Title 29.1    29.1    29.4    26.1    25.3     Avg Length of Service 79.6    79.6    81.8    76.7    76.3     Avg Length of Service 70.6    70.9    72.9    76.8    92.1     Avg for Existing old age As observed, although the replacement rate for the whole system (average pension to average wage) has decreased (due to a change in the indexing method), but for the system members individually, the replacement rate has changed slightly, indicating that this type of reform has not had a significant effect on reducing the welfare of retirees. Ethical Considerations Authors’ contributions All authors contributed in producing of the research. Funding In the present study, all expenses were borne by the authors and they did not have any sponsors. Conflicts of interest The authors declared no conflict of interest. Acknowledgments In this article, all rights relating to references are cited, and resources are carefully listed.