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DISCUSSION PAPER IPD Public Systems for Public Employees in Brazil Options for Reform By Flavio Rabelo São Paulo Business Administration School, Getúlio Vargas Foundation September 2001 Presented
DISCUSSION PAPER IPD Public Systems for Public Employees in Brazil Options for Reform By Flavio Rabelo São Paulo Business Administration School, Getúlio Vargas Foundation September 2001 Presented at the Oxford IPD Workshop, Sept 4-5, 2001 PENSION SYSTEMS FOR PUBLIC EMPLOYEES IN BRAZIL: OPTIONS FOR REFORM Flavio Marcilio Rabelo 1,2 Introduction Like most developing countries, Brazil is in pursuit of a pension reform able to guarantee old-age protection to its citizens without overburdening the fiscal budget. The past decade has seen some progress, most of which occurred as a result of the 1998 Constitutional Amendment nº 20. When one thinks of pension reform it is natural to look to a system that covers the greatest portion of the population and thus is fundamental to the welfare of the low-income segment. In the Brazilian case, however, if one focuses on how the current deficits of different pension systems affect the country s fiscal condition, priority will be given to the systems covering public employees. In many developing countries public-sector workers constitute one of the most well organized groups in society and are politically well equipped to defend their rights. The pension system that covers these employees tends therefore to be more generous than the one covering private-sector workers. In fact, it may be argued that lower wages in the public sector are compensated by the generosity of the pension system (De Jong and Turner, 1998). Even in other Latin American countries, such as Argentina and Mexico, that implemented wider pension reforms, these reforms did little to correct the problems of public-employee 1 Associate Professor of Business Strategy, São Paulo Business Administration School, Getúlio Vargas Foundation. 2 I would like to thank the staff of the Secretaria de Previdência Social of the Social Security Ministry, headed by Mr. Vinicius Pinheiro, for providing essential information for this paper and for discussing various issues related to the public-sector pension system. I am especially indebted to Delubio Gomes da Silva, Marcelo Caetano, and Helio Ribeiro Jr. pension systems (Raimundi and Mariano, 1996; Rofman, 2000). The Federal Government in Argentina concluded in 1993 treaty with the Provinces that included the absorption of many State pension funds (Cajas Provinciales) that were running significant deficits with huge fiscal consequences to the Federal Government. In Mexico the reforms implemented also left the public-employee pension system unaltered (Sales-Sarrapy et al. 1999). This paper discusses in its first section the origins of the pension system covering public employees in Brazil at all three governmental levels (Federal, State, and municipal) and its current actuarial and financial condition. This section also compares the coverage and financial needs of this system with the one directed at the private sector. The second section of this paper discusses the effects of the 1998 Constitutional Amendment nº 20 on the operation of public-employee pension plans. In the third section the paper discusses the reform of the Federal employee retirement system in the U.S. The paper argues that this reform experience may provide interesting insights for the reform of public-sector pensions in Brazil and other developing countries. The fourth section deals with the reform experiences of four Brazilian States. Emphasis is given to the efforts made by these States to introduce some degree of pre-funding into their pension systems, to set more adequate contribution rates and to create an efficient management structure. Finally, World Bank recommendations and the author s proposal for reform of the Brazilian public-employee pension system are treated in the fifth section. Besides discussing the conditions for the actuarial equilibrium of public-employee pension systems in Brazil, this paper raises the deeper question of whether there is an efficiency justification for making separate retirement provisions for public-sector workers and private-sector workers. If one thinks of the beneficial effects of a greater risk pool and lower administration costs, there might well be solid ground for integrating these two systems, at least as a basic retirement plan, which might be supplemented by special defined-contribution plans. 2 History of the Public-Employee Pension System In order to grasp the current situation of the Brazilian pension system, it is first necessary to understand the components of this system. The public pillar, which is defined-benefit and pay-as-you-go, may be divided into two systems: (a) the general system (RGPS), which is intended to function as a universal system covering the whole population of individuals engaged in private-sector activities (employees and self-employed), and (b) the system covering public-sector employees. Although some uniform rules regulate system (b) such as benefit formulas and requirements for retirement in fact, all States and around 2,000 municipalities manage their own systems, setting the contribution rates. The Federal Government also has a separate system for its employees. The private sector funded pillar is still quite underdeveloped in Brazil. Occupational pension plans defined-benefit and defined-contribution cover less then 8% of the workforce formally employed in the private sector (Rabelo, 2000b). Personal pension plans have experienced rapid growth since 1995, but their rate of coverage is still limited, even though no precise data on this matter exists. Employment relations in the private sector have been governed since the late thirties by the Consolidated Labor Legislation (CLT) enacted during the Vargas dictatorship. Before the 1988 Constitution, employment in the public sector was usually regulated by a set of statutory standards specific to each public entity, even though the public sector was also allowed to hire employees under CLT. As a general rule, these statutory standards tended to provide greater employment stability and more generous retirement benefits than CLT. In the seventies, a decade of high economic growth and urban expansion in Brazil, the state apparatus had to hire more personnel in order to attend the increased demand for services. To facilitate this personnel expansion, government at all levels (Federal, State, and municipal) increased the number of civil servants hired under CLT, since hiring employees under the statutory regime was a much more complicated and longer process. In fact, before 1988, around 75% of Federal Government employees were already working under CLT. This type of employment relationship meant that state bodies had to contribute as an 3 employer to the general social security system (RGPS) and also to an employment time guarantee fund (FGTS) 3. Most States and municipalities, however, did not pay their employer contributions to the National Institute of Social Security (INSS) the agency responsible for the management of RGPS as this agency lacked effective enforcement instruments. An important landmark was the 1988 Constitution, which created a set of unified rules for employment in the public sector. Prior to this, statutory rules governing public employment varied widely among public entities. The law also established unified rules governing the social security benefits of public employees and reaffirmed employment stability in the public sector. At the same time a powerful measure to deal with government bodies in debt to the INSS was introduced. A new law authorized the Federal Government to withhold transferences from State and Municipal Participation Funds to those who had not settled their debts with the INSS. Since transfers from these funds were important sources of revenues for many States and municipalities, mayors and Governors could no longer simply ignore paying their employer contributions a 20% contribution rate of the total wage bill to the INSS. As a result States and municipalities accumulate presently a very expressive debt to INSS and became eager to move to a different type of employment contract. The new Constitution opened up the possibility of creating separate pension systems for public employees, without mentioning any requirement in terms of financial and actuarial equilibrium. This was a clear stimulus for public bodies to revert to the statutory regime (now with unified rules) as the preferential employment contract. All levels of public employees hired under CLT were transferred en masse to these separate pension regimes. The equation was indeed a very perverse one: separate pension regimes, characterized by an extremely generous benefit formula and low contribution rates, were created, passing on the financing burden to future generations. 3 A State-managed compulsory savings vehicle, to which employers contribute with 8% of employee wages, and to which the employee may only have access upon retirement or in the purchase of housing. 4 The Constitution determined that the benefit formula of all public-employee pension plans must contain two provisions: (a) the guarantee of a retirement benefit (and an ensuing survivor pension) equal to the last wage received by the employee when in activity, and (b) the automatic transfer to retirement benefits and survivor pension of any salary increase granted to active workers (whether due to a productivity raise or job reclassification). The Constitution, however, did not establish a minimum retirement age: the only requirement was at least 30 years of service, but not necessarily 30 years of specific contributions to the Federal, State, or municipal pension system that would pay the retirement benefit. In theory, the employee may have contributed 29 years to the RGPS (11% up to the RGPS ceiling), yet receive a benefit from a public-sector pension system with only one year of contribution. Also, Federal legislation failed to insist on the actuarial and financial equilibrium of public-sector pension plans. States and municipalities were in fact legally allowed to create pension plans for their employees with practically as many benefits as desired and to set a contribution rate insufficient to maintain the system in equilibrium. Usually the State or municipal law that created the pension plans only established a contribution destined to finance survivor pensions and/or health care. Though employee contributions were effectively transferred to the entity managing survivors benefits, employers contributions were frequently forgotten. Federal, State, or municipal treasuries then solely financed retirement benefits. It is no surprise then that public-employee pension systems are at present operating with very high deficits. Table 1 shows the financial situation of the general system (RGPS) and that of public-employee systems at all three government levels. The measured deficit represents current government spending to finance pension benefits. The deficit with imputed government contribution considers an employer contribution equivalent to two times that of the employees 4, and even in this case the system presents a significant deficit. Government transfers to finance the public-employee pension system were then over four times higher then transfers to cover the deficit of the RGPS. In 2000, the financing needs of the consolidated public-employee pension systems reached 4.1% of Brazil s GDP. These 4 That is the normal government contribution rate in U.S. public pension plans and also in the Local Government Pension System (LGPS) in the U.K. 5 numbers are even more impressive when one compares the coverage of each of these systems (tables 2, 3 and 4). In 2000, the RGPS paid pension benefits to a population of approximately 19.5 million people. As shown in table 2, retirement and survivor benefits alone are being paid to circa 16 million people 5. The Federal and State public-employee pension systems totaled 3.4 million beneficiaries and in 2000 paid benefits of R$48.8 billion, which equals 74% of all benefits paid by the RGPS. Clearly this is a perverse social-security arrangement that, in fact, transfers income from the lower income strata to a segment of the middle class. Tables 3 and 4 also show a very worrisome characteristic of the public-employee pension system: the low ratio of active workers to retirees and survivors with pensions. At the Federal level, retirees and survivors with pensions represent 49.3% of all personnel (1.02 ratio). The situation in the States, particularly the most populous ones, is not much better. In the State of Rio Grande do Sul (RS), for example, the number of retirees and survivors with pensions is already superior to that of active employees. Since no pre-funding exists and employee contributions are low, the State and municipal treasuries have to answer for both the greater part of ongoing retirement benefits and the payroll of active employees. This has a perverse effect on the human-resource policies of the public sector. It becomes increasingly difficult for States and municipalities to hire new employee to replace those retired and to grant salary increases to active employees 6. In April 2001, an actuarial evaluation of the Federal public-employee pension system was completed, based on data covering 96% of the universe of Federal civil servants in Brazil (Probus, 2001). A separate evaluation was done for the military pension system (Governo Federal, 2001). The average monthly retiree benefit for Federal civil servants was R$1, and the average survivor pension was R$1, (compare these to average 5 The rest are temporary benefits (sickness, incarceration, accident) and social assistance benefits. In 1999, retirement and survivor pensions represented 88% of the value of total benefits paid by the RGPS. 6 It must be kept in mind that any increase given to active employees must also be granted to pension beneficiaries. 6 RGPS benefits in table 1). Graphs 1 and 2 show the actuarial projections for the deficit of these two systems. It must be said that the decline in the deficit of the civil servants pension system after the 2020s is due to two excessively optimistic hypothesis made by the Government (and highlighted by the actuary in his report): (a) a steep decrease in both the number of active employees and their respective beneficiaries 7, and (b) the low parameter of exponential real-wage growth (1.5% a.a.). According to the actuary, in 2000 Federal Government spending on the pension system of its civil employees represented 1.12% of GDP, and this percentage is expected to grow to 1.14% in The costs of the pension system for military personnel represented an extra 0.79% of GDP in 2001 and are projected to grow to 0.81% in The government will not replace employees that are in non-typical State careers. 7 Table 1 Estimates of Financing Needs of the Various Pension Regimes in Brazil I - GENERAL REGIME RGPS Current R$ Billions Values as % GDP Current R$ Billions Values as % GDP Current R$ Billions Contributions Benefits Values as % GDP Measured Deficit II - PUBLIC SECTOR PENSIONS Contributions Retiree and Survivors Pensions Measured Deficit Deficit with imputed Government Contribution* Federal Public Pension System Contributions Retiree and Survivors Pensions Measured Deficit Deficit with imputed Government Contribution State Public Pension Systems Contributions Retiree and Survivors Pensions Measured Deficit Deficit with imputed Government Contribution Municipal Public Pension Systems** Contributions Retiree and Survivors Pensions Measured Deficit Deficit with imputed Government Contribution Source: SPS/MPAS * At the ratio of 2:1. ** Data for 2000 are estimates. 8 Table 2 - A Picture of the General Regime (RGPS) in 1999 Number of Beneficiaries Average Benefit Value (R$) Retiree Pensions 11,094, Contribution Time 3,222, Age 5,658, Invalidity 2,213, Survivor Pensions 4,953, Total 16,048,905 Source: Anuário Estatístico da Previdência Social (1999) Table 3 A Picture of the Federal Pension System for Civil Servants and Military Personnel in 2000 Branch Current Active Retirees Survivors with Total Pensions Executive - Civil 536, , ,090 1,140,288 Executive - Military 328, , , ,414 Legislative 19,458 7,424 3,485 30,367 Judiciary 80,932 15,417 5, ,637 Transfers 112,913 37,241 22, ,645 Total 1,942,119 1,107, ,838 3,834,053 Source: Boletim Estatístico do Ministério do Planejamento, Orçamento e Gestão (junho, 2001). 9 Table 4 Covered Population of State Pension Systems STATE Current Expenses (Retirees + Current Survivors Retirees Actives/(Retirees Survivors)/Total Personnel Actives with Pensions + Survivors) Expenses AL 32,202 11,886 4, AM 47,407 12,656 3, BA 155,140 48,720 16, CE 88,667 22,151 10, DF 118,952 30,358 9, ES 59,684 16,478 5, GO 75,029 26,816 6, MA 79,457 16,326 6, MG 250, ,000 26, MS 39,906 9,351 2, MT 46,032 9,179 4, PA 92,453 21,036 8, PB 74,871 19,199 7, PE 113,927 38,574 23, PI 52,930 15,690 6, PR 104,894 61,719 13, RJ 215, ,008 84, RN 73,742 13,166 6, RS 165, ,765 57, SC 53,119 30,929 8, SE 35,266 8,741 2, SP 562, , , TO 22,916 2, TOTAL 2,560,958 1,035, , Source: Secretarias Estaduais de Administração 2000 (data published by DEPEM/SPS/MPAS) 10 Graph 1 Actuarial Projection of the Federal Civil Employee Pension System Federal Government - Executive - Civil Employees , ,00 Values in US Dollars , , , , ,00 0, Year Contribution Current Actives Deficit Source: Probus (2001) Table 5 shows the current financial situation of State public-employee pension systems 8. With the exception of two recently created States, all other systems are running a deficit. In a great number of States, particularly the ones with significant industrial production (SP, RJ, MG, RS), Government spending on benefit payments (the current deficit) already represents over 20% of the States Current Net Revenue (RCL) 9. Though thorough actuarial 8 The Social Security Ministry is still colleting data that will allow a diagnosis of municipal public-employee pension systems. 9 This concept refers to the sum of all revenue sources of a State or a municipality less some specified items: constitutional transfers (in the case of States) and pension system contributions collected from public employees. 11 projections of these pension systems are not available, in the few States where such analyses have been undertaken, they show a rapidly worsening situation that may lead, if correction measures are not introduced, to a greatly reduced capability of these States to keep up with necessary investments in education, health care, and security. It should be born in mind that the insufficiency of these investments will affect most adversely the lowincome population. As mentioned before, these pension systems were created without concern for their actuarial and financial equilibrium, a flaw that explains the relatively low contribution rates charged to employees, given the generosity of promised benefits (table 6). Graph 2 Actuarial Projection of the Military Pension System Military , ,00 Values in US Dollars , , , , , Year Contributions Current Actives Deficit Source: Governo Federal do Brasil (2001). 12 Table 5 - Financial Situation of State Public Employees Pension Systems (1998) State Net Result Net Result (Benefits - Net Result as Net Result as (Benefits - Net Result Net Result as Employee a % of State a % of State Employee as a % of a % of State Contributions) GDP RCL Contributions) State GDP RCL AC NA 1.58 AL (1) NA AM NA 6.07 AP NA 3.41 BA NA CE (1) NA 6.48 DF NA ES NA GO NA MA (1) NA MG NA MS (1) NA 8.97 MT (1) NA 9.26 PA NA PB NA PE NA PI NA 5.16 PR NA RJ NA RN (1) NA RO NA 0.56 RR NA 2.77 RS (1) NA SC NA SE (1) NA 7.68 SP NA TO NA 0.14 Source: Demonstrativos Estados / Dados Publicados pelos Estados / STN / SPS-MPAS 13 Table 6 State Contribution Rates (As of 14/01/2000) UNIT ACTIVE RETIREES SURVIVORS FEDERAL GOVERNMENT 11% AC 8% up to R$177 4% up to R$177 10% above R$177 5% above R$177 AL 11% for survivor pe
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