Latvia should strengthen old-age safety nets and raise the basic state pension in order to reduce pensioner poverty, especially among women, and address the challenge of a fast declining population, according to a new OECD report.
The OECD Review of the Pension System in Latvia highlights the challenges facing the pension system. Latvia’s working-age population (people aged between 20 and 64 years) is expected to fall by about 20% over the next two decades, due to low fertility rates, increasing life expectancy and high emigration. The pension system is designed to automatically adapt to demographic trends. While this will secure the system’s financial stability over time, it will also reduce pension benefits.
Already today, Latvia’s old-age poverty rate is the second-highest in the OECD, after Korea: more than 25% of people aged 65 and older have an income below the relative poverty line. Older women are especially vulnerable: more than one-third of females over 75 live in poverty and the notional defined contribution (NDC) scheme does not offer survivor benefits for spouses.
At 64 euros per month in 2017, the basic pension represents 8% of gross average earnings against the OECD average of 19% and has not increased in nominal terms for more than 10 years. There is substantial room to increase the level of old-age safety nets, according to the report. In order to avoid a negative impact on work incentives, the minimum pension should be set so that each year of contribution increases the benefit.
The normal retirement age is 63 years and 3 months for both men and women and will reach 65 in 2025. As benefit levels decline when life expectancy increases, linking the future retirement age to life expectancy gains will help prevent too many people retiring with too low entitlements.
The Latvian NDC scheme meets its objective of delivering pension benefits that depend on contributions made during the working life in a financially sustainable way. However, the current practice of transferring funded defined contribution (FDC) assets to the NDC scheme to compute regular pension payments, the so-called annuities, should be eliminated as the two schemes are based on different rules and principles.
The design of the mandatory and voluntary funded pension schemes should be improved. Introducing a default investment strategy so that the amount of risky assets invested falls as people get closer to retirement would help.
Administrative fees charged by private financial service providers for the management of the FDC scheme are high in international comparison. In part, this may reflect the relatively recent introduction of the system, but it is mostly due to a lack of competition between pension providers. Recent reforms introduced in early 2018 to rein in costs go in the right direction but require strong monitoring to be effective.