Eating the Seed Corn What Romanian private pensions can teach us about populism and lack of transparency One of the most important rules in investing is “Don’t eat your seed corn!”, that is, do not spend all your money today and make sure to invest enough in your future. In 2017, the Romanian government broke this very rule by passing a law that took tax money meant for investment in future pensions and used it to pay current pensions. This measure not only reduced future pensions for young people, but also put the whole Romanian pension system at risk. The Romanian public pension system is PAY AS YOU GO, which means that workers pay social security taxes and this money goes directly to current retirees. However, due to demographic decline, migration of labor force out of Romania and high evasion of labor taxes, the public pension system became unsustainable. Realizing that it cannot rely on public pensions alone, 11 years ago, government added private pensions into the mix by introducing mandatory private pension accounts for young people. Under this new system, only a part of social security taxes goes to current retirees. Another part now goes into private accounts owned by the individual taxpayers, where money is invested in safe assets. The money from these private pension accounts can be withdrawn by the owner upon retirement, or by heirs upon the death of the owner. In 2017, the government faced high public expenditures and a large deficit of the public pension budget. The officials reduced the share of social security taxes that goes into the private pension accounts in order to use this tax money to pay current pensions. They also allowed people to move money from the private pension accounts to public pensions. These policies led implicitly to a reduction in future pensions and to a destabilization the entire pension system by making it too reliant on public pensions. In this Study Group session, we will discuss how politicians’ populism and lack of transparency around the private pension accounts created an opportunity for the government to pass such a harmful measure with little voter backlash. We will also analyze how behavioral economics played a role in saving private pensions in Romania.
Speakers and Presenters
M-RCBG Senior Fellow Ioana Petrescu