Integrated Disability and Retirement Systems in Chile
Saturday, September 01, 2007
by Estelle James and Augusto Iglesias
Table of Contents
- Executive Summary
- Basic Structure of Disability Insurance in Chile
- How Costs Are Controlled in the Assessment Procedure
- How Adverse Selection Is Reduced
- The Chilean System versus PAYGO
- Comparisons between Chile and other Countries
- Lessons for Other Countries
- About the Authors
Comparisons between Chile and other Countries
Partially as a result of prefunding plus the efforts of AFPs to constrain successful claims, disability costs and rates in Chile are much lower than in countries with more traditional systems. 24
Actual Costs in Chile versus Other Countries. Consistent with the simulations, fees for disability and survivors' insurance in Chile are strikingly lower than in countries with pure PAYGO systems:
- Payroll taxes for Social Security Disability & Survivors (D&S) benefits are 1.8 percent of wages in the United States — but this only covers benefits up to the normal retirement age, and the program is running into financial difficulties.
- In most European countries, D&S costs exceed 3 percent wages, and are as high as 10 percent of wages in some high cost countries (such as Poland and the Netherlands). 25
- By contrast, in other Latin American countries that adopted the Chilean model, fees range from 0.9 percent to 1.7 percent of wages. 26
“Countries that adopted the Chilean model have lower disability costs than countries with traditional systems.”
Disability Rates in Chile versus Other Countries. Additionally, in part because of the cost-control measures implemented by the AFPs, Chile has much lower age-specific rates of disability among insured workers than developed countries with pure public systems. For example, among those most likely to become disabled, workers aged 45 to 54 years:
- In 1999, 2.9 per 1,000 insured 45-to-54-year-old workers were newly classified as disabled in Chile, less than half the rate in the United States (7.8 per 1,000) and less than one-third the rate in OECD as a whole (8.6 per 1,000). 27 [See Table I.]
- For insured workers of all ages, 1 per 1,000 were newly classified as disabled in Chile in 2004, compared with 3 to 5 per 1,000 in the United States over the past two decades. 28
Wage Replacement Rates in Chile versus Other Countries. The cost savings in the Chilean system are not due to unusually low wage replacement rates. In fact, the 70 percent wage replacement rate for a disabled insured worker in Chile is higher than in many other countries. Although Chile's rate is lower than in the Netherlands or Sweden, it is higher than the United States or United Kingdom. 29
- In the United States and United Kingdom, the average wage replacement rate for disability is 24 percent. Japan, Australia and Canada also have rates below 30 percent.
- Sweden, Italy, the Netherlands and Spain have the highest average replacement rates for the disabled, exceeding 70 percent.
However, as noted above, many disabled Chilean workers get less than 70 percent because they haven't worked regularly for the last 10 years, and in the Anglo-Saxon countries public disability benefits are sometimes supplemented by private disability insurance purchased by employers.
“Fewer insured workers are certified as disabled in Chile than in developed countries.”
Problems and Challenges for Workers in a Chilean System. The gains by workers in Chile have come with problems, some of which do not occur in traditional systems.
First, in a funded system that guarantees a defined benefit, the group term-insurance premium is very sensitive to the interest rate, so the contribution rate needed to cover this cost varies from year to year. This is because the amount coming from investment earnings falls as the interest rate falls, and thus the premium needed to finance a given annuity payout rises. Recent decreases in interest rates are likely to raise insurance fees substantially. This does not occur in a PAYGO system that has no investment component.
Second, if the insurance fee is a uniform percentage of wages, workers with low disability and survivor probabilities — the young, single and women — subsidize other groups. As a result, they may try to stay out of the formal contributory system, then re-enter when they are more likely to become disabled and receive subsidies (when older and married), thereby increasing the required insurance premium for everyone. This occurs both in both funded and PAYGO systems, unless insurance rates are differentiated by risk category.
“Option 1: Insurers could bid to provide all workers with term disability insurance.”
Third, the insurance premiums a worker pays depends on the average disability risk of the workers affiliated with his AFP. Thus AFPs will try to attract (or “cream”) groups that have a low incidence of disability, thereby allowing them to charge low insurance fees and/or to earn higher profits. Creaming, however, means that the workers in other AFPs are higher risk, on average, and their insurance premiums are higher. Creaming also makes it harder for workers in high-risk groups to join the AFP of their choice. These problems do not occur in national systems, where all workers are in the same insurance pool.
Fourth, the potentially high cost of the minimum pension guarantee looms. In recent years, the incidence of successful claims for full and insured disability has been constrained, while claims for partial and uninsured disability have expanded. The data indicate that a high proportion of disabled individuals fall into these low-benefit categories and will eventually receive a public subsidy.