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Monday, October 20, 2003

German Pension Reform on the Move

The FT describes this as a dangerous gamble, I think it is the first gambit in what is bound to be a fairly long and protracted process. The key question is what is Germany's trend growth? Most calculations are based on the idea that recent economic growth in Germany has been sluggish due to the impact of re-unification in the ninetees. This may be part of the story. But my own opinion is that there is more to it, and that nobody knows what 'German trend growth' really is. Perhaps we are about to see. One way or another the outcome will have a significant impact on the viability of public finaces there in the years to come.

Chancellor Gerhard Schröder took a dangerous gamble on Sunday by ordering what amounted to the first cut in pension benefits in post-war German history.The cut was one of five emergency measures agreed at a meeting of cabinet ministers and government coalition leaders to plug an estimated €8bn (£5.6bn, $9.3bn) shortfall in the state pay-as-you-go pension schemes next year without raising contributions. Mr Schröder sided with the majority of his cabinet, leaders of the Green party, the ruling coalition's junior partner, and business, all of whom had warned a rise in pension contributions would smother any hope of an economic recovery next year. But the move could alienate segments of the chancellor's Social Democratic party and complicate his efforts to push Agenda 2010, his ambitious package of structural reforms, through parliament before the end of the year.

"This was one of the most difficult discussions, and these were among the most painful decisions our government has had to make," Mr Schröder said after the five-hour meeting. Sunday's compromise shows how a lethargic economy has been blocking the chancellor's path to reforming the welfare state and boosting competitiveness. His reforms are designed to promote employment by lowering what are among the world's highest non-wage labour costs. Pension contributions, which at 19.5 per cent of the gross wage form a substantial part of these costs, would have risen to 20.3 per cent next year without corrective measures.

From next year, pensioners will have to pay full contributions into an old-age care scheme, part of which had hitherto been covered by the pension funds. Since a planned pension benefit increase due in the middle of next year would also be cancelled, Mr Schröder admitted this amounted to a benefit cut. In addition, the pension funds' legal reserves will be reduced from 50 to 20 per cent of one month's total benefit payments and new pensioners will now be paid at the end of the month. The state's annual subsidy to the pension funds next year will be €1bn higher than provided for in a bill adopted by the lower house of parliament last Friday. However, Mr Schröder said additional savings totalling €1bn would be required of all ministries in the 2004 budget.

This should prevent a further rise in Germany's budget deficit next year and help save the face of Hans Eichel, finance minister, after he threatened to resign if the subsidy was raised. The cabinet also endorsed longer-term measures for a reform of the pension system. These will be put to parliament before the end of the year, where they will require the backing of the opposition-dominated upper chamber. The chancellor said the recommendation by a government-appointed commission to raise the legal retirement age from 65 to 67 would not be considered until 2010. But the actual retirement age would have to rise from the current 60 to 63 by 2008. Separately, the government said it would make investing in private pension schemes easier and more tax efficient.
Source: Financial Times

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