Just a few short months ago, the Cyprus “bail-in” plan, which forcibly extracted assets from almost anyone with a bank account while the island nation fought to stave off creditors, seemed to forge a new frontier for cash-strapped governments.
Unfortunately, as Russia and Poland have recently demonstrated, overwhelming pension obligations and the demographic realities of a shrinking labor force could all too easily lead governments to raid the one remaining stash: private savings for retirement.
Penalizing saving and thrift is terrible policy at any time. It is particularly self-defeating at a time when governments are finding it increasingly difficult to fulfill the promises they made to retirees. Raiding pensions not only discourages savings, it doubles down on the difficulty of caring for the nation’s aging population.
Cyprus and Poland are examples of what happens to deeply indebted countries in crisis. The “bail-in” in Cyprus from earlier this year eventually required up to a 47.5 percent haircut on depositors as part of the deal to shore up troubled banks. This forced savers, including small savers, to pay for the risky bets that sophisticated parties took.
Poland has had a mix of retirement obligations: mandatory contributions to the state pension vehicle, and to private pension funds, which currently have assets valued at about 20 percent of Polish gross domestic product and are big players on Warsaw’s market. The Polish public pension system, like so many others, is heavily underfunded and increasingly unsustainable. Poland moved in September to transfer funds from private pension funds to the state in an effort to reduce its public debt burden. Polish Finance Minister Jacek Rostowski was hoping the move would decrease public debt by 8 percent of gross domestic product. Poles were outraged, though, viewing it as an unconstitutional taking of private property without compensation. Negative reaction to the move has been sufficient to give Polish President Bronislaw Komorowski pause, allowing for a review of the constitutionality of the proposed reforms.
The Russian case is, in some ways, a perfect storm. Russia has long suffered from a low birthrate, averaging around 1.5 children per woman, well below the 2.1 rate needed to simply preserve the population. The share of working-age Russians in the population is expected to decline from the current 60 percent to less than 57 percent as soon as 2018, the end of Vladimir Putin’s third term as president. The graying ofRussia increases pressure on the social-welfare system, a pressure the United States will face as increasing numbers of baby boomers retire and push up the number of retirees relative to the number of workers.
The Russian government’s proposed solution has been to increase its control of funds currently in private corporations. The current law requires a 22 percent payroll tax on pensions, of which 16 percent went to fund the pay-as-you-go state pension fund, in a manner similar to Social Security. The remaining 6 percent, however, went into individual retirement accounts. A law that the Russian parliament is now considering would end these individual contributions, though Minister of Finance Anton Siluanov promises that this would be a temporary hiatus. During the transition, these funds, which could amount to as much at $7.6 billion, according to one report, would all go into the pay-as-you-go system to fund current pensions. While this would constitute a savings for the Russian government, it would comes out of the pockets of all Russian workers. They would lose those contributions as well as the interest they could have earned on those savings during the years between now and retirement.
Raiding private retirement savings is a short fix, but it leaves a bigger, longer-term problem. Cypriot depositors were forced to fork over their savings to stabilize a bank that could have gone through orderly bankruptcy, in which case depositors would have been the senior creditors. The Poles might be the most fortunate in that their government is hesitating while considering the potential damage the proposed change would inflict. The Russians will, at the very least, lose one year of savings and associated returns, and possibly more.
The bigger, long-term problem is twofold. Raiding retirement savings reduces the incentive for the government to bring its own spending under control now. It is also akin to killing the goose that lays the golden eggs. There is very little incentive for citizens to save if they think the state will expropriate their savings. This increases the number of people dependent on the public retirement system, and expands the need for public entitlements without any accompanying increase in resources. Additionally, a monetary policy that keeps interest rates at virtually zero also penalizes savers by reducing the return on their nest eggs.
Citizens the world over expect to harvest the fruits of their labor. When governments raid private savings to pay off public overspending, the resulting disincentive to work threatens the entire economic enterprise. It’s a lesson worth remembering in Washington as well.