Lessons for an Aging Society: The Political Sustainability of Social Security Systems

What is the future of social security systems in OECD countries? We suggest that the answer belongs to the realm of politics, and evaluate how political constraints and ageing shape the social security system. The increasing ratio of retirees to workers lowers the rate of returns of unfunded pay-as-you-go social security, and induces citizens to prefer smaller such systems and a larger role for private savings. An ageing electorate, however, increases the relevance of pension spending on the agenda of office-seeking policy-makers and tends to increase the size of unfunded pension systems. Calibrating the strength of these effects for France, Germany, Italy, Spain, the UK and the US, we find that the latter political aspect always outweighs the former. The relative size of the effects depends on country-specific characteristics and modelling details: when labour market distortions are accounted for the political effect still dominates but becomes less sizeable; the different redistributive character of pension systems and the strength of family ties also play a role in determining politico-economic outcomes. A higher effective retirement age always decreases the size of the system chosen by the voters, often increases its generosity, and may be the only viable solution to pension system problems in the face of population ageing