Pension Reform and Labor Force Exit: Cross-National Evidence

The populations of all the industrialized countries are growing older. Over the next three decades the combined effects of declining fertility and rising longevity will significantly increase the proportion of aged and near-aged people in the overall population. Because pensions and old age health insurance are largely funded out of public budgets, increases in the percentage of the population past retirement age must eventually cause steep increases in the fraction of government budgets devoted to old age consumption and a rise in the level of public spending.

Public spending obligations and the burden of supporting an older population have increased not only because the population is growing older but also because of declines in employment among the aged and near-aged. Economists have accumulated persuasive evidence that public pensions have contributed to the trend toward earlier retirement. A pension provides a dependable source of income to workers who have reached a minimum age, such as age 60, but many systems only provide benefits to workers who have substantially withdrawn from the labor force or ceased working in their career job. In these systems, people who continue to work in full-time jobs do not qualify for a pension. This feature of a pension system effectively reduces the net wages workers obtain when they continue to work past the pensionable age. Many of the world's pension systems have the features just mentioned. They provide financial incentives for workers to retire around the pensionable age, and they can inflict sizeable financial penalties on workers who delay their retirement until several years past the pensionable age. Not surprisingly, these features of pension systems have sizeable effects on retirement behavior. They have almost certainly contributed to the trend toward earlier retirement in the world's industrialized countries.