Poland Moves Toward Pension Freedom

This article appeared on Cato.org on July 15. 1999.

Ten years ago Poland was still a communist country mired in poverty and persecution. Adding insult to injury, Poland's people and practices were the subject of mockery and derision--of "Polish jokes."

Yet the Poles may well have the last laugh. As America's Social Securitysystem slides closer to insolvency, Poland has instituted far-reachingreforms that should make American workers and retirees envious. UnlessAmerican politicians summon the courage to reform a program that clearly isnot working, America's workers may retire only to find that the joke is on them.Poland's government-run pension system faced many of the same problems ourSocial Security system faces: The pay-as-you-go system relied on presentworkers to support present beneficiaries. And the system was going to beswamped by a demographic wave of retirees with smaller numbers of workers tosupport them. As a result, Poland's payroll tax had risen to over 48 percentof wages. The Polish system--and the economy--faced a crisis.

The World Bank identified pension reform as Poland's most pressing economicpriority, and the International Monetary Fund termed Poland's "erroneous andmalfunctioning old age system... the biggest problem for the state of Polishfinance." Despite political pressures against reform from retirees--who makeup close to 50 percent of Poland's eligible voters--the government in Warsawsummoned the courage to act.

Poland adopted a variation of Chile's successfully implemented pensionsystem: Workers may divert a portion of their payroll taxes to personalretirement accounts. Beginning this year, 9 percent of a worker's wages areinvested in the market by the worker's choice of private investmentmanagers. Some fund managers are Polish/Western joint ventures; others havebeen set up by industry, the Catholic Church, and labor unions such asSolidarity. Fund managers are subject to government supervision for safetyand soundness while consumer protections ensure that workers are aware offees and commissions when they choose management firms. Should a manager gobankrupt, workers' accounts are guaranteed by the government.

Polish workers can now tie their retirement savings to the higher rates ofreturn obtainable in the market. In fact, though Poland's 1997 per capitagross domestic product was only $7,500--barely one-quarter of that of theUnited States--if Polish workers receive average rates of return they couldwell end up with larger retirement incomes than many American workers willreceive from a foundering Social Security system.

And unlike the old Polish program--and Social Security--the new systemaffords each worker a property right in her pension. No one can take it awayfrom her.

The benefits of current retirees and workers too old to change to the newsystem have been guaranteed. And the Poles financed the transition to thenew system in the best way possible--not by raising taxes, but by sellingoff inefficient government-owned assets.

Plus, the estimated $3 billion flowing into these accounts in the first yearalone will increase national savings, modernizing Polish capital markets andspurring economic growth for years to come.

In short, Poland faced an economic and political predicament every bit aschallenging as the one Americans face with Social Security. But the Polespossessed one asset American politicians conspicuously lack: the courage toact.

It is rich irony that a former member of the Warsaw Pact and one timeadversary of the West trusts its citizens to invest their retirement savingswith financial giants such as Citibank, Aetna, Crédit Lyonnais and Allianz,while the U.S. government traps workers in a system promising only highertaxes and lower benefits. Poles may once have been the object of jokes, butwhen it comes to retirement security, it is they who may end up with thelast laugh.

Andrew G. Biggs

Andrew Biggs is a Social Security analyst with the Cato Institute.