Why would the government force its population to save for retirement?

Question

Here in Denmark we pretty much have "forced" retirement saving. Almost everybody in regular employment pays about $15 a month plus 12% of their monthly salary into a pension fund. [1]

You can save more on the side, but not less.

Why would a country do this?

I think there are two major drawbacks to this.

1. People have different tastes and needs. Some people might want to spend more money now, while others may be aiming for a much more uniform distribution of income. Why prevent people from living according to their tastes and needs?

2. Risk is a factor. The return from the investments may change due to economic factors, the retirement age and tax rules may change due to political factors, and so on and so forth. Most people work from their 20s until retirement in their 60s and 70s. That's a period of 40-50 years, over which so much can change, so taking away people's income now and promising them you'll pay them back so many decades later is a promise with too much variability and risk involved, and people have different risk aversions. The forced retirement system ignores this risk aversion and pretends every population member is identical.

What are the pros?

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[1] To be precise, you only pay 4% of your salary into the pension fund, and your employer pays the remaining 8%, but it's still kind of the same thing, because we could imagine the employer could just give me those 8% as a salary instead of putting it in my pension fund.

Answer 1

Old people starving is bad.

There exist many people who don't bother with financial planning and they might end up without enough to live on when they are too old to work. By forcing a pension you avoid anyone having to work until they die, or dying shortly after they can't work.

Many of these social programs also divert funds to other people who need assistance, and by bundling it with a pension system it is less obnoxious to the tax payers.

Outlawing skydiving or smoking as retirement plans (jokes on him - I'll be dead by then) is of course a cost, but most people prefer improving the conditions of the people who are worst off.

Answer 2

If your country also has a welfare system, and someone doesn't save for their retirement, they'll end up on welfare when they stop working. So the government is going to have to pay their expenses either way. The forced retirement savings ensures that this won't all come out of public funds, but will instead come from money they put into the system earlier.

One could argue that citizens who save on their own should be able to opt out of the government pension system. But this would likely be a record-keeping nightmare. The government also probably guarantees a certain payout in their system, few investments can provide similar guarantees. If you lose all your retirement savings due to poor choices, you'll end up on the dole and the government will have to make up for these bad decisions.

Some countries are going with an in-between strategy. Rather than force everyone into the government system, they provide tax benefits for individual retirement savings. However, as seen in systems like the US's IRA and 401(k) systems, too many people don't choose to participate in these plans. So what some countries have started doing is making automatic contributions from payrolls to such plans by default, while allowing people to opt out if they want. Behavioral economists have found that inertia is strong in most people: if you have to make an active decision, you often won't (unless you're forced). So in an opt-out system, most people stay in; in an opt-in system, many people stay out. It's still technically voluntary, but participation rates are generally much higher.

In the US we have both: all employees are required to contribute to Social Security, and we have tax-advantaged retirement savings programs. But the latter are opt-in, so as I mentioned above, participation rates are relatively low. According to CNBC:

the vast majority of Americans have under $1,000 saved and half of all Americans have nothing at all put away for retirement.

Answer 3

You're approaching this with a completely skewed frame of mind. The people, through its elected representatives, decided to pool together their money so that anyone can afford retirement. This is pretty far from the impression you seem to have of a government stealing the money of its citizens for nefarious reasons.

This is one of the main pillars of social security. Social security is a fundamental human right, as outlined in Article 22 of the Universal Declaration of Human Rights:

Everyone, as a member of society, has the right to social security and is entitled to realization, through national effort and international co-operation and in accordance with the organization and resources of each State, of the economic, social and cultural rights indispensable for his dignity and the free development of his personality.

What does it mean? It means that if you have an accident at 60 years old, then you don't have to worry about spending your life savings to pay for treatment and then starve when you finally retire. It means that you don't need a degree in finance to invest your money wisely and make sure you're not left with peanuts when you retire. It means that you don't have to live your whole life with the fear of what's going to happen if you haven't saved enough. It means that you can live in a country where old people aren't starving or living in squalor, that you don't have to see old homeless people begging for money in the streets every day when you go to work or shopping. It means that people who haven't the possibility of saving during their life aren't condemned to die when they get fired from their minimum wage job for being too old.

It is also clearly less risky than everyone randomly investing their money. By pooling together, you can afford to pay investing experts to know what to do, and you can invest money in such a way that it benefits the national economy, instead of just seeking the highest return on investment no matter the cost for others.

Now maybe it's more important for you to live according to your "tastes and needs", but the people of Denmark decided together that they preferred the human right called "social security".

Answer 4

Simply put, when people are too old to work, they still need to live somewhere, they need to eat, and they need medical care.

The alternatives to forcing people to save are:

1. Let people who run out of money die, or kill them outright.
2. Support people who run out of money at taxpayers' expense.
3. Use reverse inheritance to get relatives to pay for them.
4. Regularly hand out fixed amounts of money to all retirees.

The first option is rather unpopular, and the second option creates a ridiculously strong incentive for people to spend - or hide - their money. The third option comes with a ton of issues, the most obvious ones being it only covers some of the population, drives wealthy taxpayers with poorer relatives out of the country, and plenty of relatives will want to or have to cut corners to refuse decent living conditions. The fourth option is really the "force people to save" system looked at from a slightly different perspective.

Answer 5

1) Many modern societies have decided taking care of their citizens through retirement is a good and necessary thing. They can 'force' citizens to save, or they can just take the money as taxes. Same end result, for the most part. Letting people decide entirely on their own isn't exactly ideal. What do you do with the retiree that decided to blow all their savings before they hit retirement age?

2) All investing carries risk. Long term investing carries significantly less risk. So not sure your premise is accurate.

Answer 6

Hard to believe nobody covered this yet.

Government-forced retirement savings has by its nature the nice property of not being lost in bankruptcy. While this doesn't have to exist (we note in the USA, Uncle Sam will gladly collect what it is due from Social Security (the US version of forced retirement savings)), it exists by default and so the lawmakers have to break it intentionally, which would be bad for their reelections.

This, generally, is a good thing for society. Otherwise, some people in their fifties who get into financial trouble for whatever reason would be destitute and unable to work in their seventies and eighties. We don't want that.

Answer 7

Not the government

Here in Denmark we pretty much have "forced" retirement saving. Almost everybody in regular employment pays about $15 a month plus 12% of their monthly salary into a pension fund.

This 15 Krone plus 4% plus 8% of income is not government mandated. It is union mandated. The union for that industrial sector mandates that. You can read more about this on Wikipedia. It is neither government funded nor managed. It is unlike Social Security in the United States.

Denmark does have its own government pension plan. However, this is not it. The government pension plan is funded via taxes and pays out a means tested amount, so well to do people get less (possibly nothing) than poor people do.

It is apparently true that virtually all jobs comes with this plan. However, it is not government mandated. It is just a common benefit that Danish unions negotiate. It is negotiated more broadly than in other countries but not universally. It's also worth noting that the 12% is industry specific. The actual range is 9% to 17%. Presumably the OP is always subject to the 12% because the OP only works in one industry, so the same union applies everywhere.

The entire premise of the question is false. It's not the government. It's the union (and the employers negotiating with the union) that require this.

The irony is that the government probably encourages these plans, albeit short of mandating them. Because people who make enough from their pension plan will trigger the means testing for the government pension plan. So the more that the government can get into this kind of plan, the less the government will have to fund with taxes later.

Answer 8

Although you are referencing Denmark, I believe that you are asking this question generally.

I do make several assumptions:

1. Many people, left to their own devices, will not save enough to live on in retirement.
2. Also, Crazy Stuff (TM) can happen, leaving people destitute.
3. Many nations lack reliable local charity (familial, religious, or otherwise) or see the national level as a community in and of itself. Not everybody has the stereotypical American view of national government as some sort of foreign entity to mistrust and fight against.

Cynically speaking:

1. If the government owns your retirement money or just a huge chunk of it, then the government has a great deal of power over you.
2. If the government owns your retirement money, then corrupt officials can greatly benefit by (mis)directing this enormous flow of money to 'funds' managed by their friends. Even 1% skimmed would be very nice.
3. It's just a tax to support the current elderly people, but people get less upset about it since they don't see it as a tax and hope to benefit from it themselves (later.)

Practically speaking:

1. The national government then can either let old people starve/freeze to death or pay out. Many people consider the first option unacceptable (citation needed)
2. If you're going to have to pay anyway, then you might as well just charge people in advance so that the burden on "other" people isn't as harsh.

Generously speaking:

1. It can increase the power that your citizens wield when negotiating for their retirement plans - billions of dollars can get you much better terms (since fees and such are a huge cost for many retirement plans^)
2. Having a stable flow of capital (the savings people make for retirement) can encourage businesses to expand, since they will be confident in their ability to find funding/capital.
3. Fiscal and monetary policy can be easier to manage if you control more of the overall money supply.

You may have noticed that point cynical point #2 and practical point #2 are extremely similar. They differ in whether or not people's money is actually still 'theirs'. As in, if I pay in a million dollars, do I get a million dollars back plus the growth? That kind of system is practical #2. If, on the other hand, all the money goes into a giant fund that only gives back some universal amount, then it's cynical #3 and just a tax.

^ Yes, there are many cheap and effective retirement funds. There are, however, numerous straight-up predatory retirement funds.

Answer 9

Partly it is a form of risk pooling, also known as insurance: not everyone lives to old age, so not everyone spends money in old age. By pooling retirement spending together, the level of spending is made more predictable for each payer.

In the United States, where I live, this program is even titled "old-age insurance." The idea is that you insure against the risk of getting old. Some people never get old, and so never receive the payments; those who do get old may receive more in benefits than they paid in.

The population statistics of the United States show that living into old age is the exception rather than the rule:

Source: Wikipedia: Demography of the United States

Saving enough money to live to old age is therefore expensive relative to its expected benefit. There is no need to accuse people of poor planning to realize that a rational citizen may well decide that money is better spent on near-term expenses (for example, their children's education) than on saving for an unlikely event. Or, the expense may be beyond what many citizens can afford. Insuring against old age is therefore analogous to insuring against a car accident or other unlikely but expensive event, another area where mandatory insurance coverage is common.

Answer 10

First, way too many people are fiscally irresponsible! They would spend all their money and then die in debt.

1. Old people get to be provided for in the Social Security, Medicaid and/or Medicare
2. Less taxes for everyone
3. The money collected is invested, and actually earns money (If a stock is down for say 2 years, the extra money exists so don't sell it until the stock rebounds.)
4. You don't have to pay 50%+ taxes
5. We don't have another "great depression"

Every public debt is eventually absorbed by the taxpayers and increases taxes

If we have no social security (or whatever your country calls it) we 10x the homeless elderly who can't feed or care for themselves. Then need medical care, food, and etc. How will this be paid for? In any modern society shooting the elderly or letting them die is totally unacceptable. So now the government still has pay for their care, and the government has to it. Where does the government get money when it needs it from, everyone, up go the taxes.

The biggest down side is the government has an ever increasing debt as it has to pay for more and more elderly. If you pay in advance you're building equity instead of paying for run-a-way debt.

Prior to the enactment of social security, in USA, we had a "great depression" because of many reasons, but including the side effects of having too many poor and homeless people.

I did research and nursing homes are $300-$400 a day. However, if you qualify(you have few assets left) for medicare they negotiate a better deal, and because its government run they have to accept it. Professional in home help $20-$30 per hour depending on the level of needs. Adult day care $50 to $80 a day depending of the level of need.

https://www.ssa.gov/history/briefhistory3.html (warning this brief history isn't that brief! 54 pages!)

State Old-Age Pensions

Following the outbreak of the Great Depression, poverty among the elderly grew dramatically. The best estimates are that in 1934 over half of the elderly in America lacked sufficient income to be self-supporting. Despite this, state welfare pensions for the elderly were practically non-existent before 1930. A spurt of pension legislation was passed in the years immediately prior to passage of the Social Security Act, so that 30 states had some form of old-age pension program by 1935. However, these programs were generally inadequate and ineffective. Only about 3% of the elderly were actually receiving benefits under these states plans, and the average benefit amount was about 65 cents a day.

There were many reasons for the low participation in state-run pension systems. Many elderly were reluctant to "go on welfare." Restrictive eligibility criteria kept many poor seniors from qualifying. Some jurisdictions, while having state programs on the books, failed to actually implement them. Many of the state-passed pension laws provided for counties within the state to opt to participate in the pension program. As a result, in 1929 of the six states with operating pension laws on the books only 53 of the 264 counties eligible to adopt a pension plan actually did so. After 1929, the States began enacting laws without county options. By 1932 seventeen states had old age pension laws, although none were in the south, and 87% of the money available under these laws were expended in only three states (California, Massachusetts and New York).

Answer 11

This is too long for a comment, and may well be an answer.

You seem to be asking (despite mentioning Denmark) about forced-savings schemes in general. But the name 'forced-savings' is a frequently a misnomer, particularly as it pertains to risk.

If you save your money to invest in an equity market you are absolutely correct that you are exposed to the volatility of that market. But that's not the only financial product one could purchase, for retirement it would make more sense to purchase an annuity which guarantees a certain income.

But annuities have an adverse-selection problem: the people who buy them (as opposed to other financial instruments) are the ones who expect to live a long time. You can work around that however by buying them in bulk for a diverse population. Many employers do just that: my employer for example gives all of us 3% of income in an annuity savings plan. But the most diverse and numerically stable population around is in fact the entire population.

So comparing a society-wide annuity scheme with self savings is apples-vs-oranges (side note: the debate about privatizing US Social Security frequently confuses this point). The adverse selection problem makes the price of individually-purchased annuities (the closest private-sector analog) overpriced.

Whether the government should be in this business is a matter of taste. But there are real efficiency gains possible when it does set up this sort of system.

Answer 12

It all depends on the kind of safety net you have.

If you have a "let them eat cat food" philosophy, then giving people the "choice" to be irresponsible now does not burden society, financially, later when they are mired in poverty and can't afford to live.

If your safety net takes care of people, as it does in most of the western world, and especially in northern European nations, then someone with the self-control of a second grader would present a disproportionate burden on society when society has to dig into its pockets to make up for their irresponsible choices of the past.

Since those nations have a more robust societal safety net, it makes sense that they'd ask those who will be using it to help to fund it. It costs more, short-term, but there's much greater value and security vs a libertarian dystopia, long-term.

Answer 13

1. Because even now an average citizen is rather in debt, which means people generally not good with money. Let people roam free without pension savings and by the time they retire we will see a lot more old homeless people. It's better to force them to save for their pension.

2. Current pension payments from working people provide for retires from the past. When exactly do you cut the rope? Who exactly will be the one who worked all life and never will be paid because pension was cancelled?

Answer 14

In many countries the deal is not to save for yourself but to finance the retirement of the current old generation. If you look at it like that, it is clear that this is a deal society accepted as a whole and thus carries as a whole. It also makes clear why it is more safe than you managing your investment privately. Private investments are always prone to economical change - your stock investments may crumble in an economic crisis and be worth next to nothing when you need it. A generation contract guarantees at least a basic level of support. It may be affected by an economic crisis as well, but as long as the society can keep you alive, it will.

In general it doesn't aim at individual optimisation, but in providing a general basis for a secure retirement.

Answer 15

A point not yet mentioned is the volatility of laws and social contracts.

Let's assume we have a generation that makes up for a large part of the society (let's call them "baby boomers", maybe). If we hadn't a social safety net, but had imposed the full responsibility on each single person, what would prevent this generation from spending their money carelessly, and when they grow old, change the laws so that the next generation (which is outnumbered) has to pay their rent?

Having a large number of people threatened by poverty creates a large incentive for these people to change the laws in their favor, even if they profited from them earlier on. If you grant a generation that much freedom and responsibility, it may very well be that the next generation has to pay the price.

Answer 16

In fact, unlike squirrel that save the pine seed and help the forest eco-system, the whole pension saving idea is full of flaw, loophole and abuse. It is a complicated topics that no single answer can be universally apply to every country.

In addition, most people simply confuse and mix up social safety net with retirement saving. I.e. Social safety net are an "insurance like" policy that deal with uncontrollable tragedy beyond a single person tragedy. For example, no matter how much a person save (or invest), it is never enough to cover stuff like a terminal illness, tragedy that burn down the house, etc.

Now back to retirement saving.

1. Cushion for the rainy day.
2. Reduce the money flow into the market, cushioning the inflation
3. With the inflation cushion as due to above point, government can print more money openly or sneakily, to help reduce its debt.
4. To make part of the money flow into financial institution, which allow "better use of fund" for "wealth generation".
5. Allow some government to collect saving from the people to spend on "future infrastructure development"

Answer 17

There is some insidious concerns to this matter:

Governments compete with one another for productive citizens

https://www.ssa.gov/history/ottob.html

One way government compete with one another is by taxing you in front and promise to pay it back latter, thereby retaining citizens by using your investments as hostage.

For example: Lets say you live & work in the USA and you suddenly find a better job in Germany. If, up to that point in time, you have been paid your whole salary (without tax) then you could just bring all your money to Germany and renounce your US citizenship.

But if you put tons of money on social security, you can't just get out. If you leave then you lose your investment.

This depends on a few factors, like whether you are eligible for your pensions. This isn't an issue for private investments (you can get those back). But a government can stipulate that you only receive your pension if you remain a citizen of that government.

Governments would like to prevent people from getting too rich

If a person is wealthy, then they are happy and useful to the government.

If a person is "too" wealthy, then they rely less on the government and are free to change countries when it suits them.

FICA is expensive. It's 15% of income. That would slow down capital accumulation and prevent some people from making tons of money faster.

For example, Eduaro Saverin won't ever get his FICA tax back. Not that it's a big incentive for him. But for many less wealthy people, it will be a big problem.

If a person was paying tons of FICA tax in US, but then they move to Indonesia, they would never see that money again for the rest of my life. They might feel like they are being scammed.

There are many things that governments can do to prevent this from being perceived as such.

One thing a government can do is to limit FICA tax. Say once you earn more than $300k a year, your marginal FICA tax is 0. That's one thing. At least hard working people have hope that if they are productive enough, they will be free from those shackles.

Another is to allow those who are out of US to simply collect their FICA. Governments can also allow descendants of those who died to inherit their FICA investments.

I do not know whether governments do that. However, even if they do, it'll just be a mess. Filling paper work is difficult.