Work detail

The Element of Individual Choice in Pension Reform: Cases of Argentina and Chile

Author: Bc. Jakub Stračina
Year: 2010 - summer
Leaders: PhDr. Petr Hedbávný
Consultants:
Work type: Bachelors
Language: English
Pages: 68
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Abstract: This paper deals with a specific reform of a defined-benefit pay-as-you-go pension system. Namely, it is the one that completely or partially replaces the old system, with a fully funded defined contribution component. Its aim is to examine the element of individual choice embodied in the reform. Pension system participants face a choice of whether to switch to the new system or remain participants of the old one. In theoretical part of the paper, we show how reforms can be classified according to how “right to choice” is granted and denied to various groups of pension system participants. Replacing pay-as-you-go pension system with a fully funded component entails implicit social security debt of the old system turning explicit. Another objective of this paper is thus to match possible distributions of “right to choice” with corresponding kind of social security debt that turns explicit. The last objective is to state the individual decision making problem of a worker facing the reform. There are two major decisions to be made. First, the worker is to select the optimal switching strategy (switch or not to switch). Second, the worker can optimize his/her contribution path throughout productive life. Conclusion of the switching problem analysis is that given the values of all parameters expected by the worker (for example degree of policy risk, market situation, career advancement), the optimal switching strategy can be found for the worker’s time left until retirement. Analysis of the contribution optimization implies risk of moral hazard, namely the incentive to avoid contributing that arises from safety net design features of the reform. To show how these conclusions apply to reality, two empirical studies of such reforms are provided: Chile and Argentina. Each reform is first described and then discussed within the framework established in the theoretical section. Finally, a brief evaluation of both reforms is made in the perspective of recommendations put forward by the World Bank in its 1994’s report Averting the Old Age Crisis: Policies to Protect the Old and Promote Growth.
Downloadable: Bachelor Thesis of Stračina

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