Sunday, June 01, 2008

Latvian pensions referendum, part 2

Brief summary. Latvian retirees are the biggest group of people who have been left out during the recent economic boom. While Latvian salaries have been growing at (an unsustainable rate of) 30%/year, the government has limited the increases in retirement benefits to the inflation rate or slightly above it. Combine that with the fact that the recent inflation has been particularly high for many basic food items... and a lot of older people are having trouble making ends meet without assistance from their children.

Current state, in numbers. Under the current system, retirees are guaranteed a minimum pension in the amount from 49.5 lats/month (70 euros) to 76.5 lats/month (109 euros). The smaller amount, 49.5 lats/month, is for people who contributed to Latvian social security system for less than 20 years (or not at all, like Janis Kleinbergs). The bigger amount, 76.5 lats/month, is for people who have contributed for 40 years and more.

The actual pensions depend on person's income before retirement and are usually more than the minimum (but still less than one would need to live on). At the end of 2007, the average pension was 124 lats/month (177 euros).

The referendum proposition. The referendum proposition would increase the minimum to 135 lats/month (192 euros) for people who have worked less than 20 years and to 202.5 lats/month (288 euros) for people who have worked more than 40 years. Thus, minimum pensions would almost triple.

I would calculate the average pension under the new law, but there's no statistics on the web about the distribution of Latvian retirees by the number of years worked. A rough estimate puts the average guaranteed minimum at 175-180 lats/month (250-260 euros).

There's 5-10% of retirees who get more under the current law. For the rest, the new minimums will be more than their current pensions. So, the average pension will be 180-185 lats, just slightly more than the average guaranteed minimum.

That makes it an increase of pensions by 45-50%, by January 2009 when the new law comes into effect. It's a huge increase and that's how the people writing the law intended.

Inflation effect. When the referendum proposition was written, Latvian inflation had not taken off yet. Now, the inflation is running at 17.6%/year. This means that this year's inflation adjustments will increase the pensions by slightly more than 20%. (The number comes out to more than inflation because the formula for pension increase also includes the salary growth which is at 28%/year now.)

So, when the law comes into effect at the beginning of 2009, the increase in average pension will be 20-25% instead of 45-50%.

Cost.This would cost 140-170 mln lats (200-250 mln euros) per year. That's 0.8-1% of Latvia's this years GDP and is substantially more than any of instances of "wasteful spending" (e.g. National Library or "the most expensive bridge in Europe") that the opposition has critisized the government for.

Given that a lot of retirees have a real difficulty making ends meet, I'm inclined to support a substantial increase in pensions. But it's an expensive thing.

Government's counter-proposal.Trying to fix the situation/to disperse the public anger, the government has come up with its own scheme for increasing pensions, by introducing a pension supplement of 1 lat/month (1.4 euros) times the number of years the person has contributed to the social security system.

If this gets adopted, both the average increase in pensions and the cost will be roughly the same as under the referendum proposition.

Summary. The meager Latvian pensions will see an increase of about 20%-25%, under either government or referendum proposals. The differences between the two are now primarily in the details of how the increase is distributed.

Even though the differences between government's proposal and the referendum propositions are much smaller than they used to be, I expect both sides to run a heated debate, along the lines of "Government will starve the senior citizens" and "Referendum will destroy the budget and the pension system"...


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