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Time to index the retirement age Samuel Brittan: Financial Times 17/01/03 Those whom the gods wish to destroy they first make mad. Most western countries face an ageing population. One would suppose that in these conditions governments would do their best to minimise the dependency ratio - that is, the ratio of dependants to the working population. In fact, they have done the opposite. Retirement ages have fallen. The proportion of younger people being "educated" has risen and labour participation rates fallen. An analysis in the full printed version of the December Organisation for Economic Co-operation and Development Economic Outlook provides some fascinating insights. It starts off with a chart of participation and employment rates for workers aged 55 to 64. These both seem to cluster around 60 per cent. The worst showing comes from the core members of the European Union: Belgium, Italy, France and Germany. Nordic and English-speaking countries emerge rather better and best of all is Iceland. Now look at the time series. The average effective retirement age in France fell from 64 years in 1970-75 to 59 years in the late 1990s. In West Germany it fell from 63 to 61. In the UK it has remained at 62 while in the US it has edged upwards to 65. Then look at it another way: employment rates of workers in the 55-64 age group. This was still 74 per cent in France in 1970. It is now 38 per cent. Even in the UK it has fallen to less than 60 per cent. At the same time life expectancy for men at retirement has risen dramatically. If these changes were due just to people preferring to take out the fruits of economic growth in the form of a shorter working life, there would be nothing more to be said. But, as the OECD points out, there are perverse incentives. The French and German governments reacted to high unemployment by cutting hours, promoting early retirement and increasing holidays. This crudely arithmetical approach was the culmination of centuries of French logic and German metaphysics. The OECD acknowledges that there has been some policy reversal by some governments - but it does not go far enough to remove the perverse incentives. The international organisation has looked at two types of disincentives to continued working. One is the replacement ratio: the effective state pension as a proportion of average earnings. The other is the loss in pension wealth by those who postpone retirement and thus receive less for any given life expectancy. At the age of 61 the greatest nationwide disincentives to continued work appear in France and the Netherlands, where the replacement rate is above 80 per cent and the loss of pension wealth for each year of postponed retirement is also put at 80 per cent. By age 67 only the US and the UK emerge without disincentives. If, however, you move from state schemes to occupational schemes the clean bill of health for the English-speaking countries disappears. A potential UK occupational pensioner aged 65 loses 80 per cent of his pension wealth, as a percentage of net annual earnings, if he stays on at work; and his "replacement ratio" amounts to nearly 100 per cent of his normal earnings - presumably because the OECD adds typical occupational pensions to the state one. The most difficult issue to tackle is the incentive for older workers to retire on disability payment. This incentive appears to be lowest in the UK social security system. So why are so few older people at work? It may be because some of them can draw early retirement occupational pensions as well as state benefits; or it may be because of weaknesses on the demand side resulting from an employer bias against older workers. The straightforward way to tackle the state pension burden is to index the retirement age to life expectancy. The same medical advances that allow people to live longer have also made many of them healthier for much longer. The fixed retirement age is due to fear of the pensioner lobby. When it comes to voluntary pension plans, matters are complicated. If people want to retire early on a relatively low income, that is their choice. But the traditional defined benefit pension plans based on earnings in the last years discouraged people from staying on in a lesser role. The shift to defined contribution plans can only do good in the long run. The hardest problem is how to prevent people financing early retirement with invalidity benefits. Recent UK government moves to tighten up have been met with parades of wheelchairs in Downing Street. But surely a civilised society should be able to make some distinction between people who are not capable of work through no fault of their own and those who - while no longer in their prime earnings years - may still have some contribution to make.
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