OECD Study Finds Luxembourg Has Best State Pension Provision

by Ulrika Lomas, Tax-News.com, Brussels

04 May 2005

A new study on state pension provision by the Organisation of Economic Cooperation and Development (OECD) has found that there are wide variations in both pension promises and costs across member states; from Luxembourg, where the replacement rate for a full-career worker on average earnings is 102%, to Ireland, where it is just over 30%.

The report, entitled 'Pensions at a Glance' also notes that increases in life expectancy are raising the cost of pensions, prompting many OECD governments to raise the statutory age of retirement or in some cases abolish a fixed retirement age altogether. Assuming average OECD mortality rates and a baseline retirement age of 65 for both men and women, each additional year of work after 65 without drawing a pension reduces the cost of a government’s pension obligations by more than 3%.

Average minimum retirement benefits across OECD countries are equivalent to slightly less than 29% of average earnings. At the low end of the scale, however, the minimum pension in the Czech Republic amounts to only 12% of average earnings; minimum or targeted basic benefits are also on the low side in Japan, Mexico and the US.

At the high end, Luxembourg and Portugal provide minimum pensions worth more than 40% of average earnings, while Greece, Austria and Belgium also offer generous benefits.

In most countries, earnings-related pension arrangements are designed to help older people maintain a reasonable standard of living. For people who have spent a full career on average earnings, the average gross replacement rate of earnings provided by a pension in OECD countries is 57% of pre-retirement earnings.

But this figure, too, varies substantially between countries: in Luxembourg, the replacement rate for a full-career worker on average earnings is 102%, meaning that the pension is actually higher than earnings before retirement. Austria, Hungary, Italy, Spain and Turkey also provide generous pensions to full-career workers on average earnings, with replacement rates in excess of 75%.

By contrast, Ireland, which has only basic and targeted pensions and no earnings-related scheme, has the lowest replacement rate at average earnings, at 30.6%. Mexico, New Zealand, the United Kingdom, and the United States are also among the least generous, with replacement rates at average earnings of between 36% and 38.6%.

The actual cost to governments of pensions depends not only on the level of pensions paid, but also how long they are paid for: that depends both on a person’s age at retirement and life expectancy at that age. Looking ahead to 2040, and basing its calculations on 2040 mortality rates, the OECD predicts average life expectancy for men aged 65 in OECD countries of 83.1 years and for women of 86.6 years. But these figures, too, vary from one country to another.

Assuming similar levels of benefits and similar entitlement ages, countries with longer life expectancies, such as Iceland, Japan, Norway, Sweden and Switzerland, would face substantially higher pension costs than countries with below-average life expectancies, such as Hungary, Mexico, Poland, the Slovak Republic or Turkey.

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