Which type of pension systems protect against the income and health inequality consequences of a recession?

Background

Recent decades have seen a large increase in the study of inequalities. How incomes are distributed, and especially the degree to which wealth is concentrated amongst the rich has garnered attention from academics, policy makers and the general public. Many of the key ideas in this literature are addressed in Capital in the 21st Century (Piketty, 2014), and continued work confirms that since the 1980s nearly all economies can be characterized by large increases in inequality and the income and wealth shares of the top 10% (Alvaredo et al., 2017).

Parallel to the interest in income inequality, a similar field of research has evolved concerned with how health differs by income. While the rich enjoy a large share of wealth and income, the same can be said of health – it is true for every country in Europe that the rich live longer and in better health than the poor. Such inequalities have been well documented (van Doorslaer et al., 1997; Mackenbach et al., 1997), and can be striking. In the Netherlands for example, the difference in life expectancy between the top and bottom income quintile is almost 7 years, while the difference in healthy life years is twice this (Knoops & van Brakel, 2010).

The primary role of pensions and pension regulations is to provide income to the elderly who face a reduction in their working hours. Given societal preferences towards some degree of equity, a related concern is the role pensions play in determining inequalities. Do pension products and regulations, such as those determining generosity or entitlement, have inequality repercussions in either the health or income domain? Despite the interest in inequalities, there is a lack of evidence on how and why pensions influence the degree of both income and income related health inequalities. Some literature, summarized below, suggests that pensions reduce inequalities, especially in times of
economic crisis. However, a detailed analysis of these potential effects is currently missing. These questions are especially relevant given the dramatic changes in economic conditions during the recent recession, where vulnerable groups may have been disproportionately affected.

This project aims to fill this gap. We address the following questions. Firstly, what was the extent to which pensions led to or moderated changes in both income and income related health inequalities in Europe? Secondly, what can be learned about the degree to which different products and regulations increase or reduce these inequalities?

To answer the first question we will employ a decomposition analysis – a commonly used tool in studies of inequality (Fortin et al., 2011). Using micro data, year-to-year changes in inequalities can be broken down into factors, each of which give an indication of why the change occurred. By altering an existing decomposition framework used in Baeten et al. (2013) and Coveney et al. (2016), one can examine the role of the pensions to changes in inequality directly.

The second question can be answered in a comparison of both the changes in inequalities and the differences in pension regulations across countries. With this comparison, conclusions can be drawn as to which types of pension regulations and products have the greatest impact on inequalities. A wide range of products and regulations are in use across Europe, and it may be that certain characteristics lead to smaller or greater income or health inequalities. It is across these dimensions that we propose to study the effect of pensions on inequalities.

Specifically, this project will lead to the following outcomes:
(1) A novel decomposition of changes in income inequality across Europe, highlighting the role of pensions in the evolution of income inequality.
(2) As an extension, an examination of the role of pensions to the changes in income related health inequalities.
(3) A study of how these inequalities evolved before, during and after the 2007/2008 recession period in Europe, and the role of pensions in each of these periods
(4) Comparative evidence of the effectiveness of certain pension system characteristics, in addressing income (and health) inequalities.

Links to academic literature

The economic literature is limited with respect to the link between pensions and inequality in Europe. There are several existing papers attempting to quantify their effect on income inequality. Immervoll et al. (2005) show the degree to which public pensions change inequality measured by the Gini coefficient for 15 European countries. They find that pensions play a particularly important redistributive role in Europe, especially in Austria, France and Spain. These results are confirmed to some extent by Fuest et al. (2010) although they highlight the sensitivity of the method used to examine inequalities.

The relationship between pensions and income related health inequalities has not been well explored. Coveney et al. (2016) document the perhaps surprising finding that inequalities in health by income in Spain fell during the recession, and there is suggestive evidence that these reductions can be largely attributed to pensions protecting the incomes of the elderly. However, there is currently no systematic analysis looking specifically at the role of pensions on income related health inequalities.

Van Vliet et al. (2012) and Been et al. (2016) explore the relationship between pension characteristics, namely the mix of public and private schemes, and income inequality. Their initial findings are inconclusive, although a later analysis which takes advantage of additional data leads to the conclusion that a greater importance of private pensions is associated with increased income inequality. Our analysis aims to expand on these contributions in several ways. First, and most importantly, our decomposition analysis exploits individual-level panel data on incomes, in order to learn more about the mechanisms driving potential changes in inequality due to pension and non-pension incomes. In other words, we study inequalities on the micro rather than macro level. Secondly, we aim to address the health dimension of inequality, in addition to income. Third, we consider a richer set of pension characteristics than just the mix of public and private schemes. Lastly, our longitudinal data is available up to and including the year 2013, allowing identification of the longer run effects of the 2008 crisis.

Countries under comparison

The somewhat small literature in this area can be partly attributed to lack of data. However, the recent development and release of the European Union Survey on Income and Living Conditions (EU-SILC) provides a micro-level multi-country survey with information on individual income, with a detailed breakdown of income by source. Although coverage extends to all EU member countries, data quality is not equal across all members. In particular, we propose to study the following countries between the years 2004 to 2013, for which a suitable amount of data exists: Austria, Belgium, Finland, France, Greece, Iceland, Italy, Portugal, Spain, Sweden and the Netherlands.

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