The development of private pension pillars in Itlay: an assessment of recent reforms

During the last 15 years Italy has undertaken a deep pension reform process of both public and private pillars. After the reforms the Italian pension system is still public and pay as you go, even if a lot of measures aimed at increasing the role of the funded private sector have been introduced since 1993. The main objective of the reform process has been the financial sustainability of the public scheme (to fulfil the constraints to the public finances fixed by the EU), which has been pursued by extending the retirement age, changing the pension benefit formula (from defined benefit to Notional Defined Contribution – NDC) and the indexation rule (from wages to prices), and linking benefits to the retirement age and to economic and demographic developments . The latter has been done in an actuarially fair way by using the NDC method. However, in order to achieve sustainability, the reforms have hugely reduced the replacement rates provided by the public scheme (especially for early retirees). In order to keep the old replacement rates constant and, in some cases not to be exposed to social exclusion risks, workers will have to work longer (because benefits depend on the retirement age) or will have to pay contributions to supplementary private pension schemes, as often suggested in the political economy debate. However, participation in private schemes (both occupational and personal) is voluntary, recent (they were regulated in 1993) and their take up is still low. At the end of 2006, the membership of pension funds was about 14% of private sector employees; in order to increase it the 2005 reform, phased in from January 2007, has sought to induce workers to devolve to pension funds the TFR (trattamento di fine rapporto), a deferred part of the salary which is retained by firms and is paid lump sum to employees when the job relationship ends (for firing, dismissal, retirement). This paper analyzes the role of Italian private pension schemes, focussing, in particular, on the choice – induced by the 2005 reform – between maintaining TFR in firms or moving it to pension funds. These choices are treated as two different investment options in our appraisal of the development of private pensions in Italy. In the second section we will describe the main features of private schemes are described and the TFR is defined, presenting also some data on enrolment in pension funds after the 2005 reform . In the third section the many elements which can affect individual choice between retaining TFR in firms or devolving it to a pension fund are analyzed, showing that these two options are not at all perfect substitutes. In the fourth section the main features of the Italian private schemes development are assessed, focussing especially on their risk-return profile, on the administrative costs they impose on members and on the effects on the Italian economic system of their asset allocation strategy. The conclusions, outlined in the fifth section, will provide an overall evaluation of the reforms in the 1990s, focussing on the possible auspicious role of private pension schemes within the Italian pension system.