Identification of parametric policy options for rehabilitating a pay-as-you-go based pension system: an optimization analysis for Turkey

Abstract

Publicly managed pension systems operating on the basis of pay-as-you-go (PAYG) schemes face financial difficulties worldwide. The expenditure-revenue balances of such a system are determined jointly by the selected configuration of system parameters, and interrelated developments in the labour market and demographic structure. In a country where pension coverage is compulsory, these developments occur completely beyond the control of pension system administrators implying that any imbalances that may arise over time can be corrected only by adjusting the existing configuration of contribution and replacement rates, and minimum retirement ages. It can be shown, however, that there are infinitely many configurations of these system parameters that could be used to maintain a selected intertemporal balance between the amounts of contributions collected from workers and pensions paid to the retirees. This paper describes an algorithm developed to identify all possible configurations compatible with this goal and illustrates its use with reference to the pension reform debate in Turkey, a country whose PAYG-based pension system already faces a severe financial crisis despite a relatively young workforce/population. The results indicate that for contribution and replacement rates to remain around their current values, the minimum retirement age must be increased substantially.