German pensions

The German labor minister just announced that pensions will rise 2.7 % (West) and 3.7 % (East) this summer. According to him, this proves that the German system is better than in the US, because so many Americans have to rely on pension funds which have lost many billions, forcing them to accept a much lower standard of living.

Maybe he should have kept his mouth shut. Obviously, if you invest in equity-based pension plans, you bear the risk of a sharp downturn. Americans have been collectively stupid by putting so much of their money into equities, but that doesn't prove that the German pay-as-you-go system is superior. Americans could have chosen to put their pension assets into treasuries or other (non-subprime) fixed-income, and their pension plans would be completely unaffected by the crisis.

German pensions can only be increased because of last year's boom: Employment and wages were both up, and pension contributions grew accordingly. No longer: Unemployment will increase rapidly over the next few months, and contributions per job will also go down due to decreased working hours. It will be quite hard to keep pensions constant in 2010: If pensions had to be financed solely by contributions, there would probably be a cut in 2010. As this is not politically feasible, government subsidies to the pension system will once more be increased. A superior system? Hardly!

Having said that, I do believe that there is a worldwide "savings glut", and that going forward, real returns on savings will be very low. If everyone saves for retirement by accumulating assets, there are simply not enough profitable investments for all those funds. So the return on funded pension plans will be bad. But the return on German-style pay-as-you-go plans will also be bad, and particularly bad for countries with unfavorable demographics such as Germany.

But in any case, the 3 % pension hike is yet another German stimulus contribution. Who says Germany isn't doing enough to stimulate demand?