Current Hungarian pension system is unsustainable; an important proposal has come to light

English2021. jún. 14.Növekedé

The current pay-as-you-go pension system entails its own unsustainability. The points-based system presented at the online conference of the Hungarian Economic Association would modify the system so that the amount of the pension and even the retirement age would be dependent on the number of children raised by each individual.

After the two world wars, Bismarck’s recapitalized pension system was replaced by a modern pay-as-you-go system associated with Franklin Delano Roosevelt, and its shortcomings are becoming increasingly apparent today, it was said at a round table discussion held on the connection between the pension system and parenthood, organized by the Demographics Section of the Hungarian Economic Association.

Regarding the sustainability of the current pension system, the participants highlighted the following shortcomings:

  1. The system is based on the ability of future generations to pay contributions, although initially it was meant to be based on such ability of the present generation.
  2. Once the state stands behind the system as a guarantor, there are practically no reserves behind the system.
  3. Another problem is that there is implicit public debt behind pensions, which means that although the amount that the state borrows as a loan for pension payments does not appear in nominal terms, in reality it actually exists.
  4. This system combines elements of insurance and solidarity. Its most important feature is that current pensions are paid from the contributions of currently active people in the hope that when the currently active generations retire, they will also be provided old age pensions from contributions paid by the active of the time.
  5. A further shortcoming of the system is that it assumes a continuous increase in the population, although in theory a decrease in the population should not be a problem due to the increase in productivity.
  6. Since the existing pension system led to a decrease in the number of children from the 1970s - because it does not pay off financially to raise children - the system has been cutting the branch it is sitting on ever since, József Banyár, Associate Professor at Corvinus University explained.

Lack of coverage

Another professor at Corvinus University, Erzsébet Kovács presented spectacular data to illustrate this process. Figures show that between 1999 and 2019, the proportion of women of childbearing age fell dramatically, while that of over 50s, including those of retirement age increased at the same rate. Data from 2018 indicate that people in Europe live for an average of 20 years after retirement, and although in Hungary it is only 17 years, it still requires a significant amount to be paid in the form of pensions.

Average monthly pension in Hungary (2000-2019)

This means that contributions should be significantly increased in order to cover pensions.

Another concern is that although the average number of children per family is increasing minimally, the 1.42-1.55 current value is still far from the desired 2.1.

It is also a problem that the number of women of childbearing age is decreasing, and is expected to decrease further by 2030. It is promising, however, that although the number of children had fallen sharply after 1990, following a few years of stagnation it rose between 2001 and 2016. It is true, however, that after that it has stalled again.

According to József Banyár, the biggest problem with the current pension system is that although it is based on the payment of contributions by active workers, it separates the return on human capital from its creation, i.e. it considers the child to be a public good.

The cost of raising children should be taken into account

The payment of contributions is in fact the repayment of the investment that was spent on the upbringing and education of people of active age from their childhood, i.e. contributions are a kind of repayment.

Another concern is that in modern society it no longer pays off to raise children, unlike in developing countries, where well-being depends on the number of children.  

The reason for this - very simply, and from a purely economic point of view - is that the burden of raising children is borne by the parents, but its benefits are enjoyed by the state through the collection of contributions.

A solution would be not to separate the return on human capital from its creation, i.e. to take into account the number of children each individual raised and, with that, contributed to the maintenance of the pension system, and the amount of the pension should be dependent on that, the child raised being the ultimate funder of the pension.

The whole society, with the tax paid by the childless, contributes to the upbringing of children to some extent, which should also be taken into account when modernizing the pension system.

Points-based system for the calculation of pensions

According to the proposal, the amount of the pension would be determined on the basis of a points-based system, meaning that those involved in the upbringing of a child would be awarded points for each child raised.

If parents and society contribute to the upbringing of a child in a 2:1 ratio, parents would receive one point per child, and half a point would be distributed among taxpayers, including parents, in proportion to the amount of tax they pay.

Contributions paid in a given year, which are in fact a repayment of child-rearing, would be distributed in proportion to the number of points pensioners had in that year. This would logically result in childless people receiving much lower pensions or - and this is what researchers suggest - the retirement age for them should be raised.

However, another pillar would be created, to which people would pay a certain amount from the time they start working, and this could finance the period between the ordinary retirement age and the higher retirement age for those who raise no children.

An additional advantage of this solution would be that when someone has a first and then a second child, they would no longer have to pay into this pillar, as they would spend this amount on the child instead.

This way, it would be possible to prevent the core problems of the current pension system emerging again.

The full conference can be watched here: