What is the future of pensions?

All the keys to understanding the future of the Spanish pension system.
The recent pension reform in 2013 introduced parametric changes, which are gradually being implemented until 2027 and seek to strengthen the sustainability of the system in light of the important challenges — mainly demographic — that it has to face. Spain is not alone in this battle. In fact, this a common issue in developed countries, which see their population grow old without there being a clear generational replacement due to low birth rates. In this article we talk in detail about the future of pensions in Spain and the main measures adopted in the 2013 reform.
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Who pays for pensions

The Spanish pension system is based on the principle of distribution, as the pensions of retired people are supported by contributions from companies and active workers to the Social Security Institute. Don't fall for the idea that the system saves these contributions to pay the pension of future pensioners: in reality, the State uses the amounts contributed by the working people to pay for the pensions of current retired workers. Following this same logic, it will be future workers who will pay the pension of those who are currently contributing and working.

In addition, in accordance with the principle of contributory proportionality, on which the Spanish pension system is also based, the amount to be received in the future pension will be given in accordance with the monetary amount of contributions made to Social Security (starting in 2027, this will be calculated for last 25 years) and the total period of time contributing to the system.

The future of pensions

As has just been stated, future working people will pay the pensions of future retirees. This premise does not bode well for the future, as the ratio of active workers to pensioners is expected to become unbalanced in favor of the latter as the years go by. In the middle of the century, it is estimated that there will be more than 15 million people over the age of 65 in Spain, compared to just over 9 million now. The causes that have generated and continue to contribute to this situation can be attributed to two major demographic factors:

  • On the one hand, the life expectancy of the population is expanding, increasing the number of pensioners and state expenditure.
  • On the other hand, the birth rate is only falling, and the close of last year saw the lowest rate of the last forty years: it is evident that the number of active workers supporting the system will decrease in the coming years.

Sustainability factor for the pension system

In order to resolve a situation that only seems to be getting worse, the Government approved a pension reform in 2013 which included the controversial sustainability factor. Initially, this factor was to enter into force in 2019, but after the July 2018 approval of the General State Budgets, its entry into force has been delayed until a date "not later than January 1, 2019."

The sustainability factor seeks to adapt the amount of pensions to the evolution of life expectancy, based on a simple logic: if retirees are going to live longer (life expectancy is increasing), they should receive a lower monthly amount so that the total amount of their pension is adjusted to the level of contributions they have made while remaining equivalent to that of a worker who has paid equal contributions to the system but has retired at a time when the life expectancy was lower. Other similar countries already include an equivalent sustainability factor when calculating their pensions.

Another variable introduced by the 2013 reform is the Pension Revaluation Index (IRP), which links the annual increase in pensions to the health of Social Security accounts, setting a floor (0.25%) and a ceiling (CPI + 0.50%).

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However, after the approval of the General State Budgets for 2018, this index has been suspended; and for 2018 and 2019, a rise of 1.6% has been applied in line with the CPI, despite the warnings of various bodies that applying this formula can increase the deficit in the medium- and long-term. How pensions will be revalued in 2020 and in subsequent years remains to be resolved, although everything seems to indicate that the IRP has been definitively set.

In the face of such an uncertain future, the best option is to look for an alternative plan. That's why, at BBVA, we want to help you guarantee your well-being when you decide to retire, offering you pension plans that match your age and investment needs. Go to bbva.es and visit our pension plan simulator to calculate your contributions and plan your future tax savings. Or, if you prefer, go to one of our branches to receive personalized advice.

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