Opinion Editorial | |
| Wednesday, March 31, 1999 | |
Comparing Administrative Costs Of Pension Systems
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One of the big issues in the Social Security reform debate is that of administrative costs, such as those for collecting contributions, record-keeping and paying out benefits. Resolution of this debate will be key to whether the U.S. ever adopts a privatized retirement system or continues with an entirely government-run program.
Just calculating exactly what administrative costs are in any sort of retirement system is a daunting task, and accurate international comparisons are even more difficult. The best work in this area has been done by economist Olivia Mitchell of the University of Pennsylvania.
The main reason why costs are lower in the industrialized countries is because they have large, mature social insurance programs with high benefits. Since costs tend to be fixed, the larger the program and the higher the benefits, the lower costs are in percentage terms. Since the pension systems in most developing countries are small, paying modest benefits, cost ratios are higher.
Only a few countries have anything like a privatized pension system with individually managed private accounts. Chile has had such a system since 1981 and many critics pointed out that administrative costs were quite high. But Mitchell notes that early figures for administrative costs were inflated by startup costs and the small size of initial accounts. Over time, administrative costs in Chile have fallen sharply and will probably continue to fall as the system matures and grows larger.
Among industrialized countries, only the United Kingdom has anything like a privatized social security program. There, workers have been able to save a portion of their contributions in private accounts since 1988. But a new study from the liberal Center on Budget and Policy Priorities finds that the cost of administering these accounts has been very high, reducing benefits by 43 percent below what they would be if costs were zero.
On the surface, this would appear to be devastating criticism of privatization. But several points should be kept in mind. First, it is unfair to compare costs under any pension system to one in which there are no costs. All systems have administrative costs and even among government-run programs costs are often quite high.
Second, the 43 percent figure does not necessarily mean workers are worse off than they would have been in a government-run pension system because rates of return are higher in a privatized system. According to a World Bank study, the privatized U.K. system has achieved an average 8.8 percent annual return, while Chileans have gotten 9.2 percent. These returns are 4 to 5 times that which Baby Boomers can expect to get on their Social Security taxes. Thus, even if the 43 percent figure is correct, workers are still getting more for their money in the private accounts.
Finally, the privatized U.K. system is relatively new and, as noted earlier, startup costs tend to be high, falling over time. It is simply wrong to extrapolate such costs far into the future, as the CBPP study does.
Mitchell concludes that "privately managed retirement systems are not necessarily more expensive than their public-sector counterparts." Thus, concerns about administrative costs should be no barrier to Social Security privatization.
Source: Bruce Bartlett, senior fellow, National Center for Policy Analysis, March 31, 1999.
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