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FUNDING OF SOCIAL SECURITY PENSIONS: POLAND. Presenter: Dariusz Stańko Pension Reform Workshop Chisinau, Republic of Moldova Chisinau, 10-11 June , 200 8. Linking of contributions and benefits through notional accounts. Why ( N ) DC in Poland ?. High pension expenditure due to:

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funding of social security pensions poland


Presenter: Dariusz Stańko

Pension Reform WorkshopChisinau, Republic of Moldova

Chisinau, 10-11 June, 2008

why n dc in poland
Why (N)DC in Poland ?
  • High pension expenditure due to:
    • Relatively generous pension formula
      • on average 80% replacement rate
      • little link between earnings history and pension level
    • Early retirement
      • wide-spread early retirement privileges
      • average retirement age: 55 for women, 59 for men
      • virtually no incentives to postpone retirement
  • Public preferences:
    • pension should be linked to paid contributions
  • Long-term outlook:
    • population ageing, thus need to prolong working lives and increase retirement age
new system architecture



Funds (DC)

Savings and

additional insurance (DC)


mandatory,administered by private

institutions,individual accounts


voluntary,administered privately,individual accounts


mandatory,administered by the

public institution,individual accounts

First Tier

Second Tier

Third Tier

New systemArchitecture

Mandatory Social Security System

design of the new pension system in poland 1
New Polish pension system is:

defined contribution

with two accounts: non-financial and financial

The old-age contribution was divided into:

NDC 12.22% of wage

FDC 7.3% of wage

Rates of return:

In the NDC are linked to the wage fund growth

In the FDC depend on the financial market returns

Persons below 30 (in 1999) have both NDC and FDC accounts

Persons aged 30 to 50 had a choice of one (NDC) or two (NDC+FDC) accounts

53% of them chose to have two accounts

Persons over 50 years of age stay in the old system

Design of the new pension system in Poland (1)

Source: Polish Chamber of Pension Funds

Close link between contributions and pensions:

Shorter working lives

Lower wages

Result in lower pension savings


There are significant differences as far as the labour market situation of men and women


Longer working lives

Higher earnings

Policies to promote gender equality on the labour market are crucial for equality in the pension system

Design of the new pension system in Poland (2)

first pillar ndc pensions
First Pillar NDCPensions



Notional Capital


Maternity and child-care

Army service



Average Life Expectancy at the retirement age

unisex life tables

first tier initial capital
First TierInitial Capital

For people who had worked before the introduction of reform, an initial capital is calculated according to the following rule:


old-age pensioncalculated according to the old system rules as of December 31, 1998

Average Life Expectancy

Unisex at age 62

(209 months)





first pillar demographic reserve fund
First pillarDemographic Reserve Fund
  • Created in 2002. Year 2009 – an extension?
  • Funded part of the public tier (currently 0,4% of NDC pension contributions)
  • Accumulates surplus in order to finance upcoming deficit
  • Allows to adjust to demographic fluctuations
  • Reduces dependency on the state budget
  • Since recently – equity part; passive investment
mixed pensions
Mixed pensions

For those who did NOT join OFEs:

  • year 200980% of pension from ZUS calculated according to old pension system DB formula plus 20% of pension from ZUS calculated according to new NDC formula
  • year 201070% - 30%
  • year 201155% - 45%
  • year 201235% - 65%
  • year 201320% of old pension from ZUS, 80% from new pension
pension system projections for the future no reform
Pension systemProjections for the future - no reform

Pension expenditure would increase:

from 11% of GDP in 2000

to 17.3% in 2050

By the same time, the number of pensioners would double

from 7 million in 2000 to almost 15 million in 2050, of which:

more than 10 million old-age pensioners

Total pension deficit would exceed 7% of GDP

Based on Social Budget Model, the Gdansk Institute for Market Economics

transition costs in poland 1998 2006 gdp
Transition costs in Poland1998-2006 (% GDP)

The financing of the Social Insurance Fund still requires subsidy to cover deficits

Subsidy to cover the transition costs remains relatively stable

misunderstandings regarding reform costs
Misunderstandings regarding reform costs

Transfer of a portion of contribution to funded pension scheme is not a cost (but strains on liquidity)

it reveals a portion of the implicit debt and

it reduces future public finance obligations

Increased funding requirements can be offset by higher debt, purchased by pension funds

Pension funds assets invested into equities stimulate investment and economic growth

It is better to turn a portion of pension liabilities into savings now than to have much greater problems with redeeming such obligations in the future

poland long term effects
Poland –Long-term effects

Estimated value of pension liabilities as per cent of GDP until the year 2050:

Before the reform 462%

After the reform 194%

Reduction of liabilities 268%


Transition costs in Poland include most importantly the coverage of increased deficit in PAYG scheme:

pensions are paid according to the old system rules

part of contributions is invested by pension funds

level of transition financing: 1.5 per cent of GDP

The adequacy of future benefits does not depend on the financing, rather on the type of pension system (DB vs DC)

2 1 farmers as a social group
2.1. Farmers as a social group
  • historical grounds
  • some basic statistics
  • low productivity
  • problems with moving to other sectors
2 1 cont farmers in poland 2006
2.1. cont. Farmers in Poland (2006)
  • 14,8 m people living in rural areas (out of total 38,12 m)
  • 2,387 m farm households (with 1,742 above 1ha)
    • 25,3% - farming as a source of main income (>50%)
    • 52,5% - pensions and disability pensions
      • source of main income for 24,1 % of individual farmers and 14,1% of individual farmers with > 1ha
    • 51,5% - salaried work
    • 14,2% - non-farming activity
    • 11,4% - other
  • average area 6,7 ha, 6,2 person/farm, output 4 061 PLN, (27 208 PLN/farm  4 388 PLN/personfarm), vs GDP/capita 27 742 PLN
  • PKB: 3,9% vs 22,1% (industry), 17,1% (trade)
2 2 krus kasa rolniczego ubezpieczenia spo ecznego
2.2 KRUS (Kasa Rolniczego Ubezpieczenia Społecznego)

The Agricultural Social Insurance Fund runs self-governed financial activity. The following funds are the base of insurance and activity of KRUS:

  • Contribution Fund of the Farmers Social Insurance,
  • Pension Fund,
  • Prevention and Rehabilitation Fund,
  • Administrative Fund,
2 2 krus cont farmers insurance system
2.2. KRUS – cont. farmers’ insurance system
  • low level of protection yet
  • strong redistribution towards farmers from other social groups

Basic pension and disability pension: 636,24 PLN

Average salary in economy (Dec 2007): 2 691,03 PLN

Exchange rates (June 2007): USD 2,17 PLN euro 3,39 PLN

2 3 pension formula
2.3. Pension formula
  • current formula – consists of two parts:
    • contribution part = number of contribution years * 1% of minimal pension(MP=minimal pension =636,29 PLN)
    • supplementary part = [95% - (x-20)*0,5%] * minimal pension
    • where x = contribution period, each full year over 20 yrs decreases the supplementary part by 0,5% of MP; however supplementary part cannot be lower than 85% of MP
  • proposed new formula:
  • = capital / further unisex life expectancy @ 65
2 4 legislation
2.4. Legislation

The basic law defining farmers' social insurance obligations and entitlements to benefits is included in the act of 20 December 1990 on farmers' social insurance (full text: Official Journal No. 7 of 1998, item 25 with later amendments).Beside the mentioned law, farmers receive their entitlements and benefits according to parliament acts listed below:the law of 13 October 1998 on social insurance system (Official Journal No. 137, item 887 with later amendments),the law of 28 November 1994 on family benefits (Official Journal No. 228, item 2255 with later amendments),the law of 26 April 2001 on structural pensions (Official Journal No. 52 of 2001, item 539 with later amendments), the law of 23 January 2003 on general health insurance (Official Journal No. 45 of 2003, item 391 with later amendments). The basic legal acts of the European Community are: Council Regulation (EEC) No. 1408/71 of 14 June 1971 on the application of social security schemes to employed persons, to self-employed persons and to members of their families moving within the Community,Council Regulation (EEC) No. 574/72 of 21 March 1972 laying down the procedure for implementing Regulation (EEC) No. 1408/71 on the application of social security schemes to employed persons, to self-employed persons and to members of their families moving within the Community.

2 5 contributors and beneficiaries
2.5. Contributors and beneficiaries

year beneficiaries insured

2005 1,66 m 1,58 m

2006 1,59 m 1,62 m

2007 1,51 m 1,60 m

2 6 financial problems need for reform
2.6. Financial problems – need for reform
  • low real financing level
  • problems with
  • „faked farmers”
  • proposals to introduce
  • income-based
  • contributions

Source: Own calculations based on KRUS data (

3 1 disability pensions
3.1. Disability pensions
  • high number of disability pensioners
  • recent reforms – stricter assessment procedures, lower disability contributions
  • current rules
  • current disability formula
  • reform to be introduced in 2009
    • new disability formula (old disability vs new pension)
    • elimination of 70% and 130 % income ceilings for working early pensioners, working disability pensioners and working family pensioners
3 1 cont disability formulas
3.1. cont. – Disability formulas
  • current formula:
  • = 24% Basis Quota + 1.3% *n1*IAB + 0,7%*n2*IAB+ 0.7%*n3*IAB
  • n1 – no. of contributory years, n2 – no. of non-contributory yrs, ICB – individual assessment base, n3 – no. of hypothetical contributory yrs (n3=25-n1-n2, from moment of disability to age 60)
  • new formula (for those born after Dec 1948; full formula commencing 2014, mixed formula during 2009-2013):
  • = [initial capital + actual capital + hypothetical capital] / unisex further life expectancy @ 60 yrs
  • for each missing year of contributions (up to max. 30 yrs) the hypothetical value (= actual capital/actual contributing period)
3 1 cont disability formulas1
3.1. cont. – Disability formulas
  • Current values of disability pensions
  • total disability pension 636,29 PLN
  • partial disability pension 489,44 PLN
  • Basis Quota (2008) 2 275,37 PLN
panel 1 on lessons learned from second pillar

Panel 1 on Lessons Learned from Second Pillar:

  • Overview of the market
  • Performance
  • Costs
  • What might be done differently
second pillar in poland i
Second pillar in Poland (I)
  • Act of 28 August 1997 on organisation and operation of pension funds (Ustawa o organizacji i funkcjonowaniu funduszy emerytalnych z dnia 28 sierpnia 1997 r.) (Dz.U. 1997 nr 139 poz. 934)
  • OFE - open pension fund (art. 9-26), the fund's Articles of Association (art.13, changes: art. 22-23)
  • A depositary (art. 157-165), paid by OFEs: 2006 – 17,38 m zł (3,21% of operational costs)
  • PTE – a general pension society (art. 27-52): The governing bodies of the society: 1) the Management Board, 2) the Supervisory Board, 3) the General Meeting plus also: the Audit Commission.
open pension funds market basic statistics a s of 30 may 2008
Open Pension Funds’ Market:Basic Statistics(as of 30 May 2008)

Source: KNF ( and own calculations.

performance of ofe
Performance of OFE

* average rate of return weighted by market share

Source: Own calculations based on the data from KNF.

impact on adequacy
Impact on adequacy?

Compared to the value of contributions paid:

Value of pension accounts in OFE are much higher than in ZUS

Relatively low wage growth

Good returns on financial markets

If the current developments are continued, expected pensions could be higher

Value of individual accounts – ZUS and OFE

safety mechanisms
Safety mechanisms
  • legal and physical separation of pension fund from managing company
  • legal requirements for PTE and its staff
  • depositary (custodian)
  • investment limits
  • supervision and control by KNF
  • mandatory minimum rate of return
  • so-called cascade of guarantees (Guarantee Fund)
  • minimum pension
  • Treasury as the last resort
fees for participating in ofes
Fees for participating in OFEs

Amendment of pension law (15 October 2003) – substantial changes in commissions.

Three main sources of income for PTEs:

  • distributional (up front) fee
  • management fee
  • transfer fee (for changing membership in a fund)

Gradual change of weights of first two commissions:

2002 – up front fee 79,4% of all revenue for PTEs, management fee - 19,2%

2004 – 62,9% and 25,7%2005- 68,2% and 31,8%

2006 – 75,5% and 24,5% 2007 – 60,9% and 33,8%

costs of open pension funds 2006
Costs of open pension funds 2006
  • Open pension funds: 1,49% of average yearly assets
  • Mutual funds (stable growth): 1,67% of average yearly assets
  • Fees in open pension funds regulated, more transparent – cheaper? Mutual funds are expensive in Poland, however.

Source: Polish Chamber of Pension Funds

  • Total expense ratios TER in weighted average actively managed equity funds:0,92% US vs 1,79% Europe vs 3,73% in Poland.
  • Source: and Analizy on line.
what might be done differently
What might be done differently
  • Tenders for asset management mandates – a few institutional investors for each cohort?
  • 401k-like mandatory retirement accounts – many institutional providers?
  • Passive management for core portfolio?
  • More efficient information campaign on future replacement rates and inheritance of the funds (vide annuity market)

Source: Polish Chamber of Pension Funds

panel 2 on second pillar introduction

Panel 2 on Second Pillar Introduction:

  • Readiness conditions
  • Macro-fiscal conditions
  • Capital market conditions
  • Administrative framework conditions
readiness conditions
Readiness conditions
  • IT infrastructure
  • Wide political consensus
  • „Window of opportunity” (Polish case)
  • Market infrastructure (depositary banks, clearing houses, size and liquidity, instruments available vs investment limits)
  • Staff (managers, investment advisors)
  • People’s ability to understand financial markets and financial information (informed choice?, drivers for competition?)
first pillar initial capital
First pillarInitial capital

Initial capital calculation turned to be a difficult administrative task

Equivalent of retirement of 11 million individuals

Problems in retrieving past wage and earnings history

Changes of the employers

Creation and destruction of companies

But: problem would have been more acute in the future

Initial capital calculation completed by the end of 2006

conclusions lessons up to date
Conclusions Lessons up to date

Quality of information must be assured

All participants are equally responsible for adequate performance of the system

Computer system is important….

…. as well as system managers

Proper identification should be ensured

Procedures should be designed to avoid errors

Implementation takes time – also as far as retrieving past wage history

Difficulties in overcoming societal believes:

Retirement age of women

Widespread early retirement widely accepted

Political opportunity needs to be seized: all reform items should be placed as soon as possible

curbing the implicit debt, showing explicit debt – long-term financial stability

adjusting to current social and demographic situation

labour market incentives

externalities (growth, savings, capital market development, financial market stability, mgmt efficiency etc.)

Pros and cons

  • social problems – lack of solidarity (redistribution), low pensions for worse-off (particularly in the initial period)
  • funded system not that immune from political influences
  • political backlash (transition costs – euro criteria, annuity market, etc.)
  • DC – problem with investment risk, peoples’ rational choices and education
Raising retirement ages for women

Reducing the poverty risk for women

Promoting more gender equality

Re-defining the role of minimum pension

Current indexation mechanism is reducing the role of minimum pension guarantee

Projections show its limited role in reducing the poverty risk for those with low wages and short working careers

Re-design is needed to develop adequate poverty protection mechanisms in the future

Relatively fast economic growth may lead to increased income differences between retired and working generations

Building pension-literacy so that people react to the incentives

OFE – multifunds, investment limits, performance evaluation needs to be revised/introduced

Annuities market

Challenges for the future