Why a Funded Pension System is Useful and Why It is Not Useful

Hans-Werner Sinn

International Tax and Public Finance 7, 2000, pp. 389-410, CESifo Working Paper No. 195, September 1999, NBER Working Paper No. 7592, March 2000.

Abstract

Based on explicit present value calculations, the paper criticizes the view that the PAYGO system wastes economic resources. In present value terms, there is nothing to be gained from a transition to a funded system even though the latter offers a permanently higher rate of return. The sum of the implicit and explicit tax burdens that result from the need to respect the existing pension claims is the same under all systems and transition strategies. Nevertheless a partial transition to a funded system may be a way to overcome the current demographic crisis because it replaces missing human capital with real capital and helps smooth tax and child rearing costs across the generations.

Keywords:public pension, pay-as-you-go system, fully funded system

JEL Code: H5

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