Debate over future of pensions and social expenditure

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The future of pensions is a key issue in Spain, as it is throughout the EU, in the light of an ageing population, and various alarming projections have been made of the situation in 2020 or 2040, not least by the European Commission. The issue is also connected with a wider discussion about public social expenditure in Spain, which is low in EU terms. This article examines the situation and the debate in 2004.

The viability of pensions systems beyond 2020 is a central question in Spain and many other European countries and, in the light of this uncertain future, the EU institutions have proposed reforms to the Member States (EU0301206F and EU0403204F).

European Commission projections on the ageing of the population and an increase in life expectancy point to an increase in the number of pensioners due to retirement and permanent disability. The number of pensioners in Spain is expected to rise from 7.6 million in 2000 to 9.7 million in 2020 and to 12.5 million in 2040, which will involve a major economic burden for the state (ES0306207F). A forecast by the Ministry of Labour, regarded as optimistic in some quarters, estimates that expenditure on pensions will rise from 8.4% of Spanish GDP in 2000 to 12% in 2040. A more pessimistic forecast is that offered by the European Commission, which estimates that pensions expenditure will rise from 9.4% of GDP in 2002 to 17.7% in 2050.

Perhaps the most realistic indicator is the old-age dependency ratio - ie the population aged 65 and over as a percentage of the working age population (aged 15-64) - as this takes into account relationships of dependence and the falling birth rate. According to the European Commission (The social situation in the European Union 2003) - see table 1 below - in Spain the size of the 65 population was 20.2% of that of the working-age population in 1990, and this is predicted to rise to 26.8% by 2010, similar to the figure for France but higher than that for the UK and lower than that for Italy.

Table 1. Old-age dependency ratio, selected countries, 1990-2010
. Spain France Italy UK
1990 20.2 21.1 21.5 24.0
1995 22.3 23.0 24.1 24.3
2000 24.6 24.6 26.6 23.9
2001 24.7 24.7 27.1 na
2010 26.8 26.8 31.3 24.2

Source: European Commission 2003.

Because of the potential negative effects of the increase in the old-age dependency ratio, many analysts feel that there is a need for immigration, in order to compensate for the falling birth rate and to cover labour market needs. In fact, this tendency is already apparent in the Spanish labour market, with an increase in the employment of immigrants and their increasing contribution to the national pension scheme (ES0401204F and ES0302205F).

The growth in employment in Spain the last decade has eased somewhat the problems indicated in the forecasts on the number of pensioners for 2040. Nevertheless, the current public pension system is widely regarded as unviable and many believe that it must be modified to favour individual saving initiatives. Given the current uncertainty over the future, some are promoting pensions schemes based on individual 'capitalisation' (whereby individuals pension save for their own retirement) as an alternative to the current 'pay as you go' model (whereby those currently in employment pay for the pensions of those currently in retirement). This has met with criticism, for example from the Trade Union Confederation of Workers’ Commissions (Comisiones Obreras, CC.OO) (see the CC.OO-commissioned report, El sistema español de pensiones, F Serrano et al, Barcelona, Editorial Ariel, 2004).

Reforms of the pension system

Major reforms of the pensions and social security system took place in 1985 and 1997 (the beneficial effects of which are recognised by the CC.OO-commissioned study cited above). The 1997 reform (ES9710220F) was based on the 1995 'Toledo Pact' signed by the government, the trade unions, the employers' organisations and the political parties. It reinforced the contributory nature of the system by increasing the number of years required for pension entitlement. The period of employment and social security contributions used to calculate the amount of the pension (the 'regulatory base') was also modified. The main issue was to 'reduce expenditure and increase income'.

Public pensions have improved considerably as result of these reforms. The proportion of all pensions that are lower than the national minimum wage has fallen from 89% to 59% since 1992. However, the average pension is still relatively low, at EUR 528.61 per month in 2003. There are also great differences according to the type of pension and the type of contribution scheme. For example, retirement pensions are 40% higher than survivors' pensions, and pensions under the general scheme (Régimen General) are 60% higher that those under the self-employed scheme (see Serrano et al, 2004, cited above).

The average income replacement rate - ie the value of the pension as a proportion of the last wage - rose from 34.5% in 1982 to 46.5% in 2002, but is still low. A more detailed analysis of the types of contribution and types of scheme shows different levels of replacement. At the top end, the income replacement rate of pensions for workers retiring under the self-employed scheme (Régimen de Autónomos) is equivalent to 43.3% of their previous net earnings, but at the bottom end it is only 37.0% for workers retiring under the special agricultural scheme (Régimen Especial Agrario).

Income has followed the upward trend as expenditure. It has increased thanks to an increase in the number of contributors as a result of job creation -see table 2 below. The scheme's balance is positive and allows the expenditure to be met. It also generates a surplus, of which part is added to a Reserve Fund (Fondo de Reserva) set up by the recently renewed Toledo pact (ES0106144F and ES0311201N).

Table 2. Numbers of social security contributors, absolute figures in millions, 1990-2003
1990 1991 1992 1993 1994 1995 1996 1997 1998 1999 2000 2001 2002 2003
12.5 12.6 12.2 11.9 12.1 12.3 12.5 13.0 13.8 14.5 15.2 15.7 16.1 16.5

Source: Ministry of Labour and Social Affairs.

In view of the demographic projections mentioned above, it is not clear whether the Spanish system will be able to continue providing fair pensions. However, the CC.OO-commissioned study cited above is in disagreement with the gloomy forecasts. The authors argue that 2040 is a long way in the future, and that there is sufficient time to seek alternatives and to introduce specific measures. They also consider that it is essential to maintain the framework of bargaining and consensus that has been shown by the Toledo pact and its renewal. The current method of pay-as-you-go funding is seen as better than that of individual, privatised capitalisation, which the authors claim is often proposed for ideological reasons in addition to technical ones. Both models are mechanisms of redistribution, but they are also both affected by demographic change. The relevant variable is present and future income, which depends on growth of GDP and affects both models equally. It is, according to the report, a fallacy to argue that the profitability of a capitalised scheme is greater, for the simple reason that it cannot be calculated due to the uncertainty of economic growth. Finally, the authors state that the capitalisation system involves financial risks and depends on the cycles of profitability of capital.

Reform of public services

The economic policy followed since the EU's 1992 Maastricht Stability Pact has led to the reduction of public expenditure and public sector borrowing. An indicator of the degree of development of the welfare state is the amount of public funds devoted to social transfers. In Spain, public social expenditure represents 20.1% of GDP, some way below the EU 15 average (27.3%) - see table 3 below. Public expenditure as a percentage of GDP has been decreasing both in Spain and across the EU 15 since 1993, though much faster in the case of Spain. Spanish expenditure was lower as a proportion of GDP than that of the UK (26.8%) and France (29.7%) in 2000.

Table 3. Public social expenditure as % of GDP, 1993 and 2000
. 1993 2000
Spain 24.0 20.1
EU 15 average 28.8 27.3

Source: Eurostat, quoted by European Commission, 2004.

Another indicator frequently used in comparative studies in this area is the percentage of the population working in the public sector areas of health, education and family care services. In Spain, this proportion is far lower than the EU average - 5.8% compared with 12% for the EU 15 - indicating, according to some commentators, the insufficient level of the Spanish welfare state in comparison with countries with a social democratic tradition such as Sweden, where 20% of workers are employed by these public services.

Critics claim that there is a 'social deficit' in Spain, which is a consequence of the reduction of the budget deficit in order to comply with the restrictive policy of the EMU Stability Pact. However, blame is placed not only on European convergence, with commentators also claiming that this social deficit was aggravated by the policy of tax reduction followed by the conservative People's Party (Partido Popular) governments of 1996-2003.

Reform of the Spanish health service has been carried out through the decentralisation of services to the regional governments, the rationalisation of expenditure, 'co-payment' and the prescription of generic drugs and pharmaceutical supplies. However, the demand for services has increased as a consequence of the ageing population and the increase in immigration. The greater need for expenditure also stems from the high technological cost of modern medicine. A reduction in expenditure has led to a deterioration of public services in large industrial cities, with some exceptions. This has led, according to commentators, to a process of 'privatisation' of health. For example, a recent study found that 37% of the population uses private health services, which are particularly common among the middle and upper income groups, whereas 60% use the public services. Though many use both services, the polarisation of income groups has increased.

Reform of the education system (ES0206213F) has also involved a reduction in expenditure. In 2000, expenditure on education in Spain was 4.3% of GDP, compared with an average of 5.4% for the EU 15 (see 'El finançament de l’Educació a Catalunya' J Calero and X Bonal, Seminari sobre l’Estat del Benestar a Catalunya, CUIMPB, 21-23 July 2003). The consequences of this low public expenditure can be seen in indicators such as a relatively low number of hours spent in secondary education (559 hours per year compared with 678 hours per year in the EU 15), which is arguably reflected in the knowledge acquired by the students. The reform of the education system has also been oriented towards privatisation through an increase in the number of direct-grant schools in primary education.

The system of family benefits and services is an issue that has received little attention in Spain (ES0309204F). Only 8% of children under the age of three go to public nurseries, compared with 40% in Sweden, 44% in Denmark and 23% in France. In general the countries with a social democratic tradition have developed such services, which favour equal opportunities and gender policies. Home care services for elderly and disabled persons are another weak area in Spain. Only 1.5% of the population over the age of 65 receive such services for at least 4.7 hours a week, contrasting with the high percentages in Scandinavian countries (Sweden 30%, Denmark 20% and Finland 28%). The consequence of the low level of services and benefits is arguably that women find it difficult to combine work with family life or even to enter the labour market.


The reform of the welfare state has been encouraged by the demographic projections made by European institutions. These projections have been misused, and some analysts claim that projections beyond a period of 25 years are subject to a considerable margin of error. The most accurate forecasts and projections are those made by social security experts, regardless of what party is in office. The reform of pensions shows positive aspects, though the results will only be seen in the long term. The situation of the welfare state has deteriorated, but the situation is by no means catastrophic. However, it is highly likely that reforms will follow their course, including cuts and even 'social dumping' between countries. The EU's eastward expansion involves risks of this type, though it also may offer opportunities of economic growth. (Antonio Martín Artiles, QUIT-UAB).

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