Pension reform in France

Last week massive strikes paralyzed France. The labor unions still have a powerful hold on the country, and whenever they don't like what the government is doing, they shut down the country. Amazingly, strikers in France have enjoyed widespread support in the past despite the disruption that they've caused. And even today the strikers still seem to be able to count on sympathy from the suffering public. Some people are getting fed up, as mentioned in this story, but the disenchantment with the unions has not reached the level yet where the government would feel comfortable in taking them on. The same story also quotes a student saying that "people must strike to defend their interests, it's part of our culture." It's a culture of infantile entitlement, the countrywide equivalent of a brat stamping his foot and demaning that he get his ice cream now. This culture has slowly beend draining the productive resources of the French economy to the point where it is now in a ramshackle condition. It's not as bad as Germany's predicament, but the long-term secular growth rate has been declining, and even that trend rate of growth has not been attained in the current cyclical downturn. In other words, the French economy is not doing very well, but it's not in a state of imminent collapse.

The biggest beneficiaries of the tax-happy French governments of the past can be found in the traditionally least productive sector, the civil servants. This is also where the labor unions are strongest. French civil servants lead an easy life, with excellent job protection and lavish retirement benefits. But as the economy struggles and public finances are in trouble, the government is trying to look for ways of cutting back on spending. Add to that the demographic problems of an aging population and action is becoming urgently required. France is highly vulnerable to aging as it has adverse demographics, a very generous public pension system an no capital-funded pension provision at all. (France actually has more favorable demographics than many other European countries, but its lack of an affordable and funded pension structure account for its aging vulnerabilty). Now the government is trying to reform the system in order to stave off a financial catastrophe in the coming decade.

Demographics are relentless. Forecasting 50 years ahead is a tricky exercise, but you do know with a fair amount of certainty what's going to happen in the next 20 years. Even if there's a sudden upturn in birth rates in the next five years, the benefits are not going to flow into the labor force until much later. And looking ahead by 20 years, France has a serious problem. Its entire pension system is a pay-as-you-go system. That means that current retirement benefits are paid out of current taxation, so even though contributions are labeled as "social security," they're not actually your contributions, but they're used to pay someone else. This is no different from Social Security in the United States, but at least the US has a wide range of funded supplementary pension provisions. Pay-as-you-go systems are state-run Ponzi schemes, and with a declining birth rate and an increasing dependency ratio, the end for the system is in sight. Either taxes will have to go up dramatically, or pension benefits will have to be cut.

The big strikes that paralyzed France revolve only around a tiny portion of the wider pensions problem. Specifically, the government wants to bring civil servants into line with private employees in requiring them to pay contributions for 40 years in order to reap the largest benefit from the national Ponzi scheme. Currently they only have to contribute for 37.5 years, so we're talking about an extension of 2.5 years here. This will make a difference, but it hardly addresses the root of the problem, which is a lack of funded pensions. Transitioning from a pay-as-you-go to a capital funded system is not cheap either, because you have continue to pay pensions for a while under the old system while also contributing to the new funded system. But there are ways around that, so the obstacle is not insurmountable.

The big problem for France is that if even such a small change in the pension system is causing so much protest, then a real reform that would institute funded pensions is very far off indeed. But time is running out, as the dependency ratio in France will start to increase substantially over the next five years and keep rising as far as projections go. It's already too late for a relatively painless reform, and the longer they wait, the bigger the problem is going to be.

What's making matters worse is the poor state of the economy, brought on by decades of dirigisme, the stultifying French brand of state-directed pseudo-capitalism. The dependency ratio is already higher than it would have been had the economy been performing well, because those in work have to support not only the elderly but also the unemployed. "Young, French and Jobless," as the Australian Financial Review put it:

For Alexandra Duprey, a member of France's "Generation Aix," unemployment is a growing crisis.

"We're afraid for the future," says the 23-year-old student at the University of Aix-Marseille. She and hundreds like her were at a government-sponsored seminar last week in this coastal city aimed at encouraging young people to become entrepreneurs.

Ironically, these should be giddy days for Duprey and her peers. The number of French workers retiring each year should rise by about 250,000 by 2006 to 750,000. But far from being plied with offers of work, they can only watch helplessly as the sky-high rate of youth unemployment climbs ever higher. Youth unemployment, 20.9 per cent at the end of 2001, rose to 21.7 per cent last year, among the highest in the euro zone and well above the common-currency region's 16.3 per cent average for that age.

Meanwhile, older French workers fare much better. For those between 25 and 49, unemployment was 8.4 per cent at the end of 2002, up 0.2 percentage point from 2001. For those over 50 it was 6.2 per cent. Still, French President Jacques Chirac last week called for a "national mobilisation" for employment, and asked for "specific measures to favour employment for those over 50".

Not only are young people out of work, the labor unions and the older generation are making sure that they stay that way. Chirac's response as quoted above is also symptomatic of the confused policy response to the problems, and betrays a fundamental lack of understanding of how the economy works, and more specifically, how real jobs are created, the kinds of jobs that actually help the economy grow and generate a profit. You can't pull an economy out of a slump by government decree, national mobilization or specific measures to favor employment. It is much more likely to create further distortions in the economy.

The French government sees the liquidity problem of the current system coming, and the current reform is aimed at mitigating the cash crunch. But it still does not address the fundamental pensions problem in France, which is the pay-as-you-go Ponzi scheme that masquerades as a pension system.