Academic journal article The American Journal of Economics and Sociology

Comparing Pension Systems in the Circular Flow of Income

Academic journal article The American Journal of Economics and Sociology

Comparing Pension Systems in the Circular Flow of Income

Article excerpt

Introduction

Under the Washington consensus, market-based solutions have been sought in areas as diverse as education, health, and social care. Individuals are encouraged to take responsibility for their own standard of living, health, and financial security, and the main function of the state is to ensure that the right incentives are established in efficient markets. A key area of neoliberal dominance, which affects us all, is in the area of retirement planning. Individuals are encouraged to make private plans for their retirement, investing their savings, either directly or via their employer, into pension funds.

The critical thrust of this consensus is that state funded Pay-as-You-Go pensions are not sustainable in the long term, due to declining fertility and increasing longevity. Policymakers have argued, for example, that the pension age should increase since more retirees will be increasingly dependent on a smaller workforce, and this workforce will not be able to afford, or will be unwilling, to pay taxes to finance the pensions of the swollen cohorts of older population. It is also argued in the neoliberal approach that collecting less tax to pay for state pensions would create room for more individual savings, with the dual benefits of giving individuals a share in the means of production and generating more private investment and, therefore, growth.

In this article we compare state and private pension systems using the circular flow of income as an organizing framework. As Toporowski (2000) has argued, this provides a way of examining the financial structures associated with phenomena such as pensions in a way that reflects reality: focusing on the key institutions that characterize mature capitalism. Instead of the neoclassical theoretical ideal of a rational agent, smoothing consumption over the life cycle, a systemic approach can be developed that focuses on the actual structure and interconnections between institutions. Developing the theme of this special issue, we examine the social provisioning of pensions: how pensions are organized by society, and in particular by key institutions such as the state and pension fund providers. The contribution of this article is to explore how the circular flow of income can be used to provide an overview of how pension systems work, and draw together some of the key issues. By looking at the circular flow as a whole, this approach generalizes, for example, from insights into the relationship between pension funds and finance (Toporowski 2000), the way in which savers are mistreated (Sullivan 2004), the inequalities associated with funded systems (Ginn and Arber 1999), and the relationship between savings and demand (Cesaratto 2006).

The first part of the article will show how the circular flow can be used to compare state and funded pensions systems, with the UK as an exemplar, setting out the key neoliberal case for funded pensions. In the second part, we explore how the circular flow can be used to draw together important elements of a critique of funded pensions. A concluding part summarizes the key issues suggested by this approach, and provides some suggestions for future empirical research.

Comparing State and Private Pension Systems

Common to all pension systems is the premise that most people retire after a substantial adult working life. The circular flow of income provides a way of capturing the importance of work by modeling the flow of wages from firms to households, and the flow of consumption from households to firms. The key problem at the heart of any nation's pension system is how a flow of consumption, at or above subsistence, can be maintained when adults no longer work, and no longer receive wages from work.

To explore how pensions can be modeled using the circular flow of income, we have made the simplifying assumption that there are two types of household: worker households and retired households. …

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