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Review of Political Economy

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The principle of scarcity, pension

policy and growth
Massimo Pivetti
Facolt di Giurisprudenza, Universit di Roma La Sapienza,
Published online: 23 Jan 2007.

To cite this article: Massimo Pivetti (2006) The principle of scarcity, pension policy and growth,
Review of Political Economy, 18:3, 379-390, DOI: 10.1080/09538250600797875

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Review of Political Economy,
Volume 18, Number 3, 379 390, July 2006

The Principle of Scarcity, Pension

Policy and Growth
Facolta` di Giurisprudenza, Universita` di Roma La Sapienza, Italy

ABSTRACT The picture one is bound to form of the whole question of pensions depends
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on whether one views it through the lens of the principle of scarcity or through that of the
principle of the underutilisation of productive resources in a market economy. A
generous PAYG system of the defined-benefit type is here defended as the best
retirement system one can conceive of in light of the principle of underutilised
resources. The nature of the main obstacles that the implementation of such a system is
likely to encounter in the present set of historical conditions is outlined in the final part
of the paper.

1. Starting from some Resilient Vulgarities

The key principle underlying all of Americas retirement security should be
individual self-reliance in planning for retirement. . . . Personal accounts give
[workers] a sense of ownership, an element of choice, and the opportunity to
leave something to their heirs; [besides], owing assets makes people more
oriented toward the future . . . and more likely to participate in the political
process. Financial assets have also been found to be associated with positive
physical and mental wealth effects, [and] married couples with property and
financial assets are less likely to divorce than couples without assets. (Council
of Economic Advisers, 2002, pp. 81, 96)

Propositions such as these express well the current ideology behind the down-
sizing of the traditional defined-benefit public pension system, in favour of per-
sonal account-based systems, fully funded and based on defined contributions,
in which individuals accumulate assets. Although they may sound somewhat
over-commercial, at least to European ears, they reflect nevertheless the ultimate
convictions of most modern economists, American and European alike. Individ-
ual self-reliance in planning for retirement is indeed again at the very core of their
recommendations, in spite of only four years having elapsed since the well-known
plethora of corporate and accounting scandals, which made dramatically visible

Correspondence Address: Massimo Pivetti, Istituto di Economia e Finanza, Facolta` di

Giurisprudenza, Universita` di Roma La Sapienza, Piazzale Aldo Moro 5, Rome, Italy. Email:

ISSN 0953-8259 print=ISSN 1465-3982 online=06=03037912 # 2006 Taylor & Francis

DOI: 10.1080=09538250600797875
380 M. Pivetti

the extent to which the living conditions of significant sections of the populations
are exposed to the risk of unchecked combinations of greed and fraud, to enor-
mously wide fluctuations in stock market prices, and to hidden fees paid to finan-
cial managers.1 In speaking of economists convictions, I am not taking into
account here that section of the economic profession which, one way or
another, is bound up with fund-management companies, and whose support for
a larger weight of private accounts within retirement systems around the world
is just part of the job for which they are paid.2
Making people more oriented toward the future means that personal
accounts should add to overall savingshence to capital formation and the
productivity of labourthus helping to cope with the problem, brought about
by ageing populations, of the increasing number of consumers relative to that of
producers.3 This is the kernel of the argument for substituting private retirement
saving for a substantial portion of state benefits, together with the insisted upon
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notion that the old defined-benefit pay-as-you-go (PAYG) systems will soon be
bankrupt as increasing numbers of pensioners are relying on decreasing
numbers of taxpayers to finance them.4

According to a 2004 official report, in the UK reductions in yield resulting from providers charges
can absorb about 20 30% of an individuals pension savings (cf. Pensions Commission, 2004, ch. 6).
Overall financial liberalisation over the last 25 years has greatly increased the economic and
political weight of the financial services industry, which is of course also the chief direct beneficiary
of the downsizing of the traditional defined-benefit public pension schemes. Though important,
I believe nevertheless that the role played by this increased influence of fund-management compa-
nies in the process of pensions privatisation is secondary, at least in Europe, to deeper changes afoot,
over the same period, in the relative power of this continents social classes and groups (more on this
in Section 4, below).
See, for example, Bank of International Settlements (1998), World Bank (1994) and Holzmann &
Hinz (2005); see especially the innumerable contributions by Martin Feldstein on social security,
starting from Feldstein (1974). This widely circulated paper expressed forcibly, for the first time,
the notion that the pay-as-you-go nature of social security was bound to exert a substantial
depressing effect on the savings rate and the level of GDP. According to the empirical estimates
presented in the paper, household US data showed that the social security programme approximately
halved the personal savings rate, leading the author to argue that this could not fail to bring about a
marked reduction in the stock of capital and the level of national income: During the 1960s personal
saving accounted for 60 percent of total private saving. By halving personal saving, social security
reduced total private saving by 38 percent. In the long run, this decrease in the rate of private saving
would also decrease the private capital stock by 38 percent, and [a] 38 percent decrease in the
capital stock implies a substantial reduction in GDP (Feldstein, 1974, p. 922). While there are
authors who point out that there is not enough solid evidence to support the expectation that substi-
tuting private retirement saving for state benefits will increase the economys propensity to save
(cf. for example Barr, 2000; Diamond & Orszag, 2005, pp. 47 54), the idea is generally accepted
that the presence of such an effect, if it could be proved, would constitute a positive feature of pre-
funding for future pension commitments: A key issue in determining whether advance funding is
advantageous is the extent to which it results in net additions to national savings (Holzmann &
Hinz, 2005, p. 5).
The main motivation for the [World] Bank to support pension reform has not changed. Instead it
has been strengthened by the past decade of experience: most pension systems in the world . . . create
significant distortions in the operation of market economies, and they are not financially sustainable
when faced with an aging population (Holzmann & Hinz, 2005, p. 3).
The Principle of Scarcity, Pension Policy and Growth 381

As was only to be expected, the theoretical restoration of the last 30 years has
had a substantially significant impact on the way of reasoning about pensions that
is currently dominant. Naturally, Martin Feldstein would not perceive any theor-
etical restoration behind the fact that [e]conomists today would regard the adverse
effect of Social Security on saving and capital accumulation as a deterrent to
growth rather than as a favorable source of Keynesian demand (Feldstein,
2005, p. 11). Like most economists, Feldstein sees the development of economic
ideas as a cumulative process by which our understanding of the working of the
economic system is continuously improved. Accordingly, the way of reasoning
about pensions that is currently dominant is seen as merely resulting from the
fact that economists have learn[t] morethat they now better understand
how to provide social insurance protection with greater economic efficiency
and more responsiveness to individual tastes (Feldstein, 2005, p. 12).
In fact, however, the pension debate may be regarded as the absolute epitome
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of the dichotomy between what we may call the principle of scarcity, and what
has been called the principle of the underutilisation of productive resources in a
market economy (Garegnani, 2004, pp. 36 37). And since it is the former of
these two principles that has come again to permeate the beliefs of the economic
profession, it is only natural that the policy problem of pensions is now generally
viewed as the most important aspect of the overall technical problem of allocating
given productive resources, and of containing the share of a given output that is
allotted to consumption so that a larger share of it is saved and allotted to
capital formation (the more efficiently thus allotted, many an author would add,
the more developed the financial market and the less hampered international
capital flows come to be).
In sum, according to the principle of scarcity (or the principle of full utilis-
ation of resources in a market economy) public pensions must be reduced in the
face of ageing populations if growth in the economic welfare for the community
as a whole is to be sustained. Should, instead, the average level of state benefits be
preserved, then either the disposal of goods for active workers must diminish,
which is bound to act as a disincentive, so that a negative impact on output
levels will come about through the supply of labour, or else the standard of
living enjoyed by active workers is preserved too, in which case reduced
overall savings will result in less capital formation and the well-being of future
generations will be affected.5

The design of a pension system or its reform must explicitly recognize that pension benefits are
claims against future economic output. To fulfil their primary goals, pension systems must contribute
to future economic output. Reforms should, therefore, be designed and implemented in a manner that
supports growth and development and diminishes possible distortions in capital and labour markets.
This requires the inclusion of secondary development goals, which seek to create positive develop-
mental outcomes by minimizing the potential negative impacts that pension systems may have on
labour markets and macroeconomic stability while leveraging positive impacts through increased
national saving and financial market development (Holzmann & Hinz, 2005, p. 6).
382 M. Pivetti

2. On the Best Retirement System

By thinking instead of pensions in the light of the principle of underutilised
resources, one is bound to form a picture of the whole question that is totally
different from the one just outlined. The most important difference one meets is
that neither the current standard of living of the producers nor growth of the
cake over time needs to be jeopardised by the preservation of a system of generous
state benefits for the elderly. Let us try to outline the best retirement system one
can conceive in the light of the principle of underutilised resources, and then
consider the main obstacles its implementation is likely to encounter in the
present conditions.
The best retirement system one can think of, from the point of view of the
disposal of goods and services for the community as a whole, as well as the
growth of its productive resources, is but a perfected version of the PAYG
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system of the defined-benefit type that prevailed in Western Europe over the
first 30 years following the Second World War. The feature of that system
which in my view is crucial to economic welfare and growth is the exogeneity
of benefits and contribution rates. Benefits are predetermined independently of
lifetime expectancy, both as to their initial level as a fraction of the pensioners
earlier income and to their indexing. With given contribution rates, the balance
of the pension budget over time in the face of ageing populations will then have
to be pursued through policies of fuller utilisation of resources.
In the perfected system I have in mind, the different categories of retired
dependent workers should get uniform treatment, and their benefits should be so
predetermined that they are ensured the same standard of living they have
become accustomed to, as well as its increase over time in step with that of
active workers.6 Moreover, in the presence of increases in labour productivity
that are not matched with proportional increases in real wages, and of decreases
in the employment rate, governments should provide against possible imbalances
in the pension budget thereupon arising through recourse to progressive taxation
on non-labour income. Finally, and for obvious reasons, recourse to raising the
retirement age should be contemplated only in the case of imbalances that
occurred in the context of persistent near-full-employment situations.
Such a generous public retirement system is most likely to be the most apt to
contain the burden of pensions, through its positive impact on employment and
growth. A first important reason for this is simply that capital is not a self-subsis-
tent entity existing apart from consumption (Keynes, 1936, p. 106), with the
corollary that every strengthening in the propensity to consume regarded as a per-
manent phenomenon must strengthen the demand for capital as well as the demand
for consumption. Growth of productive resources and of potential output, in other

Uniform treatment, as well as the principle according to which the different categories of retired
dependent workers should be ensured the same standard of living to which they have become accus-
tomed, also imply that all possibilities of opportunistic behaviours should be ruled out. Thus benefits
should be so calculated that they do not take into account last-minute promotions, nor rewards for
services that are not representative of the retirees normal activity over the last 2 or 3 years of his or
her working career.
The Principle of Scarcity, Pension Policy and Growth 383

words, is bound to be sustained, rather than held back, by a strong propensity to

consume. So a retirement system of the type just depicted, by redistributing
income in a way likely to raise the propensity to consume, may prove positively
favourable to the growth of capital. Consumption demand would indeed be sus-
tained both as regards demand by the elderly and demand by active workers,
the latter especially through a lesser degree of uncertainty about the future. It
can be said, in brief, that the reasons why a generous PAYG system of the
defined-benefit type is most likely to raise the communitys propensity to
consume, thereby strengthening also the demand for capital, are just the reverse
mirror image of those for which it is reasonable to expect that privatisation of pen-
sions would contain consumption and raise the saving rate, and hence discourage
capital formation.
With predetermined levels of benefits and retirement conditions, the only
means governments are left with to check the burden of pensions is by promoting
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full employment and growth. It pertains to the inner logic of a PAYG system of the
defined-benefit type that the rate of growth of output cannot be treated as exogen-
ous, or given, if the long-run balance of the pension budget is to be ensured.
For any given level of contribution rates, the presence of a social constraint
represented by the preservation of the relative living standard of the elderly actu-
ally entails that the balance of the pension budget constraint must be met by
acting upon the growth rate of the retirement systems revenues, and hence
upon the growth rate of output.
In addition therefore to strengthening the economys propensity to consume,
generous public pensions, when faced with an ageing population, are bound to
impose upon governments the political necessity to pursue an active policy with
respect to the fundamental problem of growth.

3. The Burden of Pensions as an entirely Policy-controlled

The foregoing discussion points to the pension burden as a variable that does not
merely reflect demography and the average level of pensions. Let us now consider
Since in order to balance the pension budget over time pension expenditures
must tend to equal in amount the payroll taxes and/or other taxes levied to finance
them, the burden of public pensions on any single community may well be
measured by the ratio of pension expenditure to GDP. Indeed, it is generally
with reference to this ratio that grim projections for the distant future are being
continuously produced, and the need for pension reform insistently advocated.
As has already been pointed out, what is generally meant by pension reform is sub-
stituting, one way or another, private saving accounts for a portion of state
benefits, so as to check the growth of our ratios numerator and thus ensure the
long-run sustainability of the system. The average level of state benefits,
however, is far from being the only determinant of the pension burden that is
subject to policy control. In actual fact, all of the determinants of the pension
burden are policy-controlled magnitudes, as decomposition of the ratio of
384 M. Pivetti

pension expenditure (PE) to GDP may help one to realize:

GDP LFpr  Er  P

where EDr is the elderly dependency rate (the ratio of the referees to the working
age population), AP is the average pension, LFpr is the labour force participation
rate, Er is the employment rate, and P is GDP per worker.
Decomposition (1), first of all, simply tells us that even an ageing community
can well afford to keep a generous public retirement system, provided its output
grows at sufficiently high rates. For any given behaviour of the elderly dependency
rate and of the average pension, the burden of pensions will be lighter the larger
the rise in income per person, which is an increasing function of the participation
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rate, the employment rate, and of output per worker. It is especially the consider-
ation of these three variables that should lead one to view the pursuing of full
employment policies as the key strategy to ensure the system its real and financial
sustainability over time.
If unemployment rates were kept very low, through a policy of fuller utilis-
ation of resources, then also labour force participation would tend to increase and
output per worker to grow faster. High employment, availability of reasonably
stable jobs and rising wages encourage participation. In fact, the rapid decrease
in labour force participation of men experienced by advanced capitalism since
the late 1970s, and the slow increase in the participation of women, may
be regarded as the outcome of persistently high unemployment, with its inevitable
accompaniment of low and stagnant wages. As for output per worker, its growth
also depends largely on employment rates. If they were kept at sufficiently high
levels, workers would eventually have enough bargaining power to push for
significant wage increases, which are among the most relevant causes of techno-
logical improvements and increases in labour productivity. It is true that the
capitalists reaction to significant wage increases, while tending on the one hand
to raise output per worker via the introduction of labour saving innovations, on
the other it tends to have a negative impact on employment, thereby eventually
acting as a check on wages. However, as one can infer from the experience of
advanced capitalism over the 30 years following the Second World War, it is ulti-
mately the very function of a policy of fuller utilisation of resources to neutralise,
by demand management, this negative impact on employment arising from the
capitalists reaction to wage increases: this, with a view to making rising real
wages and consumption into persistent phenomena, while keeping strong the
incentive to innovate throughout the economy (on this see Pivetti, 2005).
One might observe that if productivity growth is used to offset ageing, then it
cannot be used to increase pensions in line with increased productivity (Cesaratto,
2005, p. 323). In terms of decomposition (1), and to the extent that real wages actu-
ally kept pace with productivity, the here-advocated indexation of pensions to
wages would indeed hinder the possibility of preventing the ratio of pensions to
GDP from rising, unless the villain of the piecethe growth of EDr in the numer-
ator of decomposition (1)could be kept at bay by the growth of only LFr and Er.
The Principle of Scarcity, Pension Policy and Growth 385

First, however, a rising ratio of pensions to GDP is not, in itself, a very

significant phenomenon. What really matters for the question of the burden and
sustainability of pensions over time is not the course of this ratio but that of the
absolute level of the communitys real income, net of pensions. The active
section of the population would obviously be better off by renouncing in favour
of pensioners 30 out of a total income of 150, than by renouncing only 10 out
of a total of 100. It is also obvious that as long as income per capita does not
fall, a rising old-age dependency rate and indexation of pensions to wages do
not imply any fall in the standard of living of people employed. Thus, again,
it is the primary importance of income growth to the matter in hand that should
lead one to regard the attainment of high levels of LFpr, Er and Phence
the pursuing of persistent full employment policiesas the key condition of a
generous public pension policy.7
Secondly, one should not overlook the fact that even Edr, the elderly depen-
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dency rate at the numerator of decomposition (1), is subject to policy control. The
widespread idea that the demographic aspect of the social security question is
beyond the control of policy-makers, or that it is susceptible of being policy-con-
trolled to a very moderate extent and only in the extreme long run (see for example
Bank of International Settlements, 1998, p. 5), is hardly supported by empirical
evidence. Both life expectancy and fertility rates are markedly dependent on the
state of the economy and the overall economic and social welfare of the commu-
nity, as the experience of the former Soviet Union and of the other countries of the
former Soviet Bloc has shown us very clearly. In less than 10 years, as is well
known, the worsening of the economic and social conditions that followed the
events of 1989 91 has brought about in that part of the world (and especially
in the former Soviet Union) a dramatic shortening of life expectancy and a
marked fall in fertility rates.8 By contrast, the case of France, whose relatively
high fertility rates have resulted over the last 8 years in an increase in its
working age population that is twice as large (12%) as that experienced by the
UK (6%), shows how a generous family policy, provided it is consistently
pursued, can assure some demographic dynamism even in an advanced industrial
country plagued with high unemployment.
Some pension reformers, by their insisting on the increasing longevity of the
elderly as a problem, seem sometimes to think the unthinkable. They seem to
suggest, albeit discreetly, that ageing could well be coped with also by checking
longevitythat is to say, by lowering the living standards of the elderly.
The policy decision to downsize and gradually eliminate any defined benefit final
salary public pension scheme might actually prove an effective (and democratic)

It must be pointed out, however, that for several European countries no serious problem of sustain-
ability should arise for pensions over the next 4 to 5 decades, even if output continued to grow at the
low rates we have become accustomed to. In fact, owing to the expected decline in their population,
income per person would in any case keep on rising over the same period (see on this also note 9,
On the association between the worsening of economic and social conditions in Russia and the fall
in both fertility rates and life expectancy, see Cabanne & Tchistiakova (2002, ch. 2); on the short-
ening of life expectancy in Russia, see also Brainerd & Cutler (2005).
386 M. Pivetti

means to this end. Naturally, it is to be hoped that increasing longevity will again
come to be widely welcomed as the highly-desirable result of the progress of civi-
lisation, and that, in order to slow down the ageing process, policy-makers in the
advanced industrial nations will instead focus on fertility rates, with a view to
increasing them through high employment, more stable jobs, rising wages, and
the strengthening of the welfare state.

4. A Pessimistic Overview
However, the latter-mentioned things seem most unlikely in the present historical
conditions, which differ significantly from those that brought about the post-war
social pact and the expansion of generous PAYG schemes as one of its essential
component parts. Capitalism nowadays does not seem any more to be troubled
by the necessity to prove itself capable of overcoming its chief historical short-
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comings. The policy changes brought about by the new conditions of unchal-
lenged capitalism are especially visible in the case of the European Union.
Following the Maastricht Treaty and the Stability Pact (which have been
recently incorporated in the would-be European Constitution), the loss of monet-
ary and fiscal sovereignty suffered by each member state has not been compen-
sated for by any process of political unification; no fiscal and budgetary
centralisation has been established that can be targeted at promoting growth in
the Union as a whole (see on this Pivetti, 1998). A situation of national political
irresponsibility has thus been brought about with respect to such crucial issues
as employment levels and income distribution. This has greatly simplified the
economic policy choices of the individual governments. Between the end of the
1960s and the first half of the 1970s it became very clear in Europe that growth
and high levels of employment, by increasing the bargaining power of wage
earners, are bound sooner or later to make the distributive conflict tougher,
while income policies capable of keeping distributive tensions under control
require the presence of a pervasive and costly social state, supported and only
made viable by a system of strongly progressive taxation.
Nowadays, however, thanks to Maastricht and the Stability Pact, the renun-
ciation of high employment by European governments appears as something
that is forced upon them by objective technical constraintsthe result, nobody
would deny, of a loss of national sovereignty, but a loss determined by ineluctable
circumstances. A widespread illusion of ineluctability of this situation of national
irresponsibility is what appears to have added to the confidence with which the
different governments believe that they can largely disregard, and not be overly
afraid of, the social and political repercussions of an overall policy stance that is
both deflationary and markedly class-oriented. Thanks to persistently high unem-
ployment, wages have tended everywhere to increase less than labour productivity
and profit margins have soared. Thanks to financial liberalisation, tax systems have
become everywhere in Europe more saving friendly: reliance on capital income
taxation as a primary revenue source has steadily decreased, the overall progres-
sivity of tax systems has been greatly reduced, and the relative weights of
labour income taxation and of indirect taxation have increased. A continental
check on social spending has eventually come about as a corollary of all this.
The Principle of Scarcity, Pension Policy and Growth 387

I have been arguing in this note that a policy of fuller utilisation of resources
and a generous public pension policy are closely interconnected. According to this
view, the downsizing that Europe is experiencing of the traditional defined-benefit
PAYG systems is not an inevitable implication of ageing populations; it is rather
an implication of the giving up by policy-makers of high employment and growth
as primary policy objectives. The question of the likelihood that generous public
retirement systems are preservedor rebuilt, where they have already been
dismantledthen ultimately leads back to that of the likelihood of a return in
Europe to full employment and growth policies. Here, however, the point is that
their abandonment over the last 25 years or so has increased dramatically the rela-
tive power of capitalists, their agents et hoc genus omne, hence bringing about a
colossal redistribution of wealth and income in their favour. Now, where and
what are today the circumstances that could eventually accustom the players to
much lower stakes than at present (Keynes, 1936, p. 374)? Admittedly, it is far
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from easy to conceive of factors and conditions that could again ensure the Euro-
pean working classes a situation of relative prosperity such as that they enjoyed
over the post-war golden period of high employment and growth.

5. Pension Policy and the Left

Although generous public pensions are hardly conceivable without a policy of
fuller utilisation of resources, it nevertheless remains true that a public retirement
system of the type depicted in Section 2 above tends, by itself, to exert a positive
impact on growthboth directly, by strengthening the propensity to consume and
the demand for capital, and by tending to compel policy-makers to adopt an expan-
sionary policy stance in order to check the burden of pensions on their constitu-
ency (cf. above). Generous defined-benefit public pension schemes, therefore,
might correctly be regarded as a relevant built-in growth factor, if one could
only assume that, once introduced, they were little capable of undergoing down-
sizing or substitution by other less generous schemes.
Such an assumption, however, cannot be made, for the simple reason that the
former stern defenders and makers of those very schemes have eventually joined
up with the most fervent supporters of their reform. The current position of the
Italian Left on the pension debate well illustrates the point.
In Italy, labour unions and the Left have come to share with official circles
and academic opinion the idea that, because of ageing, the community cannot
afford anymore to ensure its elderly both a high replacement rate and indexation
of pensions to wages, and that, if the average level of public benefits is not
curtailed, the burden of pensions cannot fail to eventually bring about a substantial
and sustained fall in the standard of living of people employed.9 They are thus

According to the calculations used by the Ragioneria Generale dello Stato (RGS) to evaluate the
behaviour of the burden of pensions over time, growth of GDP over the next 50 years or so should
occur at an average rate of only 1.5% per year because of a declining labour supply (cf. Ministero
dellEconomia e delle Finanze-RGS, 2001). In practice, output is not viewed as demand
constrained and its rate of growth is viewed as determined by the rate of growth of the labour
force and the rate of growth of labour productivity: conditions of full employment (or natural
388 M. Pivetti

endorsing a gradual abandonment of the traditional defined-benefit PAYG

scheme, for whose adoption they had successfully struggled at the end of the
1960s, in favour of a personal-account PAYG scheme, based on defined contri-
With the new scheme, at the time of retirement the annual benefit will
depend, first of all, on the total amount of contributions paid into the workers
personal account over his or her whole working life; naturally, this amount will
be the lower the longer he or she happens to have remained unemployed or under-
paid. The benefit will then depend on the contributions rate of return, established
in the new system at a level equal to a five-year moving average of the rate of
growth of GDP, with a view to guaranteeing the long-run financial balance of
the system. It can be said that, in contrast with the inner logic of a PAYG
system of the defined-benefit type (cf. above), the rate of growth of output acts
here as the exogenous variablea sort of natural magnitude to be taken as
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given.10 Finally, since the individual accounting and capitalisation of lifetime

contributions define the total amount of benefits to be paid for the whole expected
period to be spent by the worker in retirement, his average annual benefit will also
depend on the length of expected lifetime in retirement, i.e. it will be lower the
longer is life expectancy (with an initial level further reduced if benefits were
indexed to wages).11
It is widely acknowledged that the new PAYG scheme will bring about, for
all dependent workers, a marked reduction of pensions as a fraction of their earlier
income. Left-wing defenders of the new scheme tend to console themselves for
this unpleasant outcome of the reform with the thought of its actuarial fair-
nessi.e. with the consideration of the link between contributions and benefits
ensured at the individual level by the new PAYG scheme. With the new PAYG
scheme, they also point out, all possibilities are ruled out that, owing to the differ-
ent progression of wages and salaries, the contributions of blue-collar workers end

unemployment) are implicitly assumed. It should be observed, in any case, that the low average
rate of growth of GDP, projected on the basis of the expected decline in the size of the labour
force, would still imply a very significant rise in income per person over the next four to five
decades, owing to the large population decline expected to take place in Italy over the same
period on the basis of current demographic trends. (Population size for Italy is expected to fall
by about 12%, the largest expected decline within the EU 15 states; see Lisiankova & Wright,
2005, Table 1, p. 76.) As already pointed out in the text (Section 3), whatever implications popu-
lation ageing may have on the labour force and the number of people employed, the standard of
living of all the inhabitants of a country can well keep on rising as long as its income per
person continues to rise. So one does not see why, in the expected conditions, population
ageing should imply a substantial and sustained fall in the standard of living of people employed,
if unaccompanied by a less generous PAYG scheme. It would seem that population ageing, unac-
companied by a downsizing of the public pension system, could lead to a fall in the standard of
living of wage earners only if concomitant with a massive redistribution of available income in
favour of non-wage earners.
It has indeed become customary among macroeconomists over the last 20 years to identify both the
natural rate of growth of output and the natural rate of unemployment with moving averages of
the actual rates (cf. for example Mankiw, 1997, ch. 5, Fig. 5.1).
On the potential virtues of this new contribution-based PAYG scheme for the long-run financial
equilibrium of the pension system, see Gronchi & Aprile (1998).
The Principle of Scarcity, Pension Policy and Growth 389

up financing the pensions of, say, army generals or university professors. It is hard
to imagine, however, that actuarial fairness, plus the knowledge that executives
are also getting poorer at retirement, may compensate a factory worker for the fall
in his standard of living, brought about by a markedly lower replacement rate.
Be that as it may, the fact remains that the majority of the defenders of the
new PAYG scheme acknowledge that it will cause unacceptable levels of
poverty among the elderly, unless it is integrated with the parallel development
of a system of fully-funded private schemesa system which in turn would
hardly have any chance of developing in Italy without the reform the traditional
PAYG system is undergoing. With the introduction of privatisation in Italys
retirement system too, we come to the part of the story everybody is familiar
with. Echoes of all the usual paraphernalia are there. A chorus of approval of
the so-called second pillar of a truly modern pension system is accompanied,
on the one hand, by indoctrination in the virtues of market competition and the
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overall advantages of individual self-reliance in planning for retirement, and on

the other, by the ill-concealed satisfaction of the financial services industry
eager for the forthcoming big fees.
It has often been maintained, in the pension debate, that generous PAYG
systems of the defined-benefit type were subject to political risk, i.e. that they
had the serious shortcoming of being vulnerable to rule changes. Actual experi-
ence in Italy and other European countries has shown that such vulnerability
indeed was there. The European materialisation of the political risk in question,
however, has also clearly exposed its ultimate source: a crass yielding of the Left
to the market and its ideological construct.

I am grateful to an anonymous referee and the editor of this issue, Sergio Cesar-
atto, for extensive comments and suggestions.

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