Chile’s Pensions Under Fire By Alvaro Vargas Llosa Price of Liberty

December 05, 2005

Would you disparage the two triple-expansion steam engines of the Titanic because the ship tragically hit an iceberg and captain Smith was slow to lower the boats so people could escape? Surely everyone realizes the engines had nothing to do with the problem. Well, a campaign has been raging against Chile’s private pensions blaming the sound engines of the ship for the existence of icebergs in the water and the slowness of the captain’s reaction!

The Presidential candidates in Chile’s upcoming elections have been drawn into the volatile battle over the country’s private pension funds. If it continues, one of the few success stories in Latin America’s economy—imitated in many countries—could begin to be overturned and the country’s march towards development severely hampered.

Almost 25 years ago, Chile’s salaried workers were allowed to opt out of the pay-as-you-go pension system and place part of their money in personal savings accounts managed by fund administrators of their own choosing. The majority of workers chose to become the owners of their own assets. Thanks to José Piñera’s reform, Chilean workers have seen their pensions earn an annual return of 10 percent. The cumulative pool of capital now amounts to $85 billion, if one includes the $15 billion that some retired workers have used to buy annuities from insurance companies—almost 90 percent of the nation’s GDP!

Chile’s pension system is much less restricted than other countries’. There are no barriers to entry, which is why six companies are competing in that market as opposed to fewer in other Chilean markets. Commissions have been coming down. If more Chileans decide to participate, they will go further down.

The principled objection one can raise is that in a free society there should not be mandatory savings for salaried workers. True. But even the mandatory aspect, which applies to a fixed sum of pesos, is diluting with time because real wages have tripled since the reform was implemented. In any case, the privatized system is a great leap forward compared to the previous system that had no connection between workers´contributions and their benefits, and when they could not dream of owning savings accounts with an average 10 percent rate of interest. So many Chileans have become used to assuming responsibility for their own retirement that it is politically conceivable that a future leader will one day dare let salaried workers, just like independent workers do today, decide whether they would rather invest in a retirement account or do something else with their money.

The current objections against Chile’s private pensions, however, have nothing to do with this argument. Rather, they charge that half the Chilean workforce will not get a decent pension. But guess what: those are people who either have no job at all, have a part-time job, or who have chosen, as independent workers, to invest their money otherwise. Not to mention those who are simply part of the underground economy.

Naturally, if you are out of a job or you have a short-term job, your account cannot grow like that of a long-term employee. And if you are a small entrepreneur or farmer who prefers to expand the business rather than open a retirement account, you will not get a “decent pension” but will probably get, unless someone wrecks the economy, a decent life!

It is significant that despite the ferocious attacks on private pensions, the candidates have not proposed to confiscate the workers’ assets and redistribute them. They realize they would turn half the workforce against them instantly. The critics of the capitalization system are actually celebrating private pensions without realizing it. By saying half the workforce does not get a decent pension, they are in effect saying: we would like to bring all of society into this successful venture. Significantly, the Socialist government is now complaining that the armed force’s pension scheme—which was kept as a pay-as-you-go system—is generating a deficit.

If Chile wants everyone to get decent pensions, two things are needed: full employment and a Gestapo that will tell 40 percent of the workforce, made up of independent workers, how to invest their money. Whose fault is it that there is now 10 percent total unemployment and 26 percent unemployment among the poorest Chileans? Whose fault is it that most employment contracts are short-term? Rigid labor markets are to blame—one of the areas in which there have been some reversals in Chile—as well as high taxes. If 18 percent of Chileans are poor because there are no jobs to get them out of poverty, who is to blame—three million little guys who have been able to save a good pension or a political and regulatory environment that makes it hard for Chileans to generate full employment?

This debate is a good opportunity to tell Chileans they cannot simply sleep on their laurels. Further reform is needed to achieve full development. But let’s stop blaming the engines for the presence of icebergs in the water and for the slow reaction of the captain of the ship!

Alvaro Vargas Llosa is a Senior Fellow and director of The Center on Global Prosperity at the Independent Institute. He is the author of Liberty for Latin America.

Robert Higgs is Senior Fellow in Political Economy at The Independent Institute, author of Against Leviathan and Crisis and Leviathan, and editor of the scholarly quarterly journal, The Independent Review. Click here for a bio on Dr. Higgs, the noted economist and historian.

William Marina is Research Fellow at the Independent Institute in Oakland, Calif., and Professor Emeritus of History at Florida Atlantic University.

David T. Beito is a Research Fellow at The Independent Institute, Associate Professor of History at the University of Alabama, and co-editor of the book, The Voluntary City: Choice, Community and Civil Society.

William Marina and David T. Beito belong to "Liberty and Power," a group blog at the History News Network.

For further articles and studies, see the Center on Peace & Liberty and OnPower.org.

Nicolas Heidorn is a public policy intern at The Independent Institute in Oakland, California.

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