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Bush babbles about the success of the Chilean privatization of Social 
Security---But the Chile government has to subsidize it more heavily 
than the U.S.!--five to six percent vs. U.S. 4.2


         January 27, 2005


   Chile's Retirees Find Shortfall in Private Plan

*By LARRY ROHTER *

SANTIAGO, Chile - Nearly 25 years ago, Chile embarked on a sweeping 
experiment that has since been emulated, in one way or another, in a 
score of other countries. Rather than finance pensions through a system 
to which workers, employers and the government all contributed, millions 
of people began to pay 10 percent of their salaries to private 
investment accounts that they controlled.

Under the Chilean program - which President Bush has cited as a model 
for his plans to overhaul Social Security - the promise was that such 
investments, by helping to spur economic growth and generating higher 
returns, would deliver monthly pension benefits larger than what the 
traditional system could offer.

But now that the first generation of workers to depend on the new system 
is beginning to retire, Chileans are finding that it is falling far 
short of what was originally advertised under the authoritarian 
government of Gen. Augusto Pinochet.

For all the program's success in economic terms, the government 
continues to direct billions of dollars to a safety net for those whose 
contributions were not large enough to ensure even a minimum pension 
approaching $140 a month. Many others - because they earned much of 
their income in the underground economy, are self-employed, or work only 
seasonally - remain outside the system altogether. Combined, those 
groups constitute roughly half the Chilean labor force. Only half of 
workers are captured by the system.

Even many middle-class workers who contributed regularly are finding 
that their private accounts - burdened with hidden fees that may have 
soaked up as much as a third of their original investment - are failing 
to deliver as much in benefits as they would have received if they had 
stayed in the old system.

Dagoberto Sáez, for example, is a 66-year-old laboratory technician here 
who plans, because of a recent heart attack, to retire in March. He 
earns just under $950 a month; his pension fund has told him that his 
nearly 24 years of contributions will finance a 20-year annuity paying 
only $315 a month.

"Colleagues and friends with the same pay grade who stayed in the old 
system, people who work right alongside me," he said, "are retiring with 
pensions of almost $700 a month - good until they die. I have a salary 
that allows me to live with dignity, and all of a sudden I am going to 
be plunged into poverty, all because I made the mistake of believing the 
promises they made to us back in 1981."

With many Chileans finding themselves in a situation much like that of 
Mr. Sáez, people are still looking to the government, not private 
pension funds, to ensure a secure retirement.

"It is evident the system requires reform," the minister of labor and 
social security, Ricardo Scolari, said in an interview here. Chile's 
current approach based on private pension funds has "important 
strengths," he said, but "it is absolutely impossible to think that a 
system of this nature is going to resolve the income needs of Chileans 
when they reach old age."

In formulating proposals in the United States for individual accounts, 
advocates of partial privatization of Social Security have sought to 
overcome some of the problems in Chile. They have suggested, for 
example, setting low limits on the fees that fund managers will be 
allowed to charge and continuing to provide a major part of retirement 
income through the traditional system of guaranteed payments.

The program in Chile differs from the voluntary model that President 
Bush is considering. Participation here has been not voluntary for 
people entering the labor force since 1981.

On the other hand, Chile was careful before it started its private 
system to accumulate several years of budget surpluses, in contrast to 
the recent large deficits in the United States.

The Chilean example also makes clear that introducing private accounts 
does not solve a lot of the problems faced in the United States, Europe 
and Japan, where pay-as-you-go systems remain the principal means of 
government retirement support.

Over all, Chile has spent more than $66 billion on benefits since 
privatization was introduced. Despite initial projections that the 
system would be self-sustaining by now, spending on pensions makes up 
more than a quarter of the national budget, nearly as much as the 
spending on education and health combined.

Faced with the likelihood of the gap remaining as it is or, as Mr. 
Scolari said, "perhaps even widening," the Chilean government is 
contemplating a new round of pension changes. Suggestions that have been 
floated include many also under consideration in the United States and 
Europe, like reducing benefits or setting a higher retirement age.

The problems have emerged despite what all here agree is the main 
strength of the privatized system: an average 10 percent annual return 
on investments. Those results have been achieved by the pension funds 
largely through the purchase of stocks and corporate and government 
bonds - investments that helped fuel an economic expansion giving Chile 
the highest growth rate in Latin America over the last 20 years.

"The great success of the system is its high profit rate, more than 
double what was initially projected," said Guillermo Arthur Errázuriz, 
executive director of the Association of Pension Fund Administrators. 
"In total, workers have set aside nearly $61 billion, which is invested 
in the sectors of the economy that show the most potential."

Among the admirers of the privatized system here is Mr. Bush, who on a 
visit in November called Chile "a great example" for other countries. On 
other occasions, he has suggested that the United States could "take 
some lessons from Chile, particularly when it comes to how to run our 
pension plans."

The main architect of the Chilean system is José Piñera, who was labor 
and social security minister from 1978 to 1980 during the Pinochet 
dictatorship. Mr. Piñera is now chairman of the International Center for 
Pension Reform, co-chairman of the Cato Institute's Project on Social 
Security Choice, and he has been a board member of several Chilean 
corporations.

Mr. Piñera declined repeated requests to be interviewed for this 
article. In an article on the Op-Ed page of The New York Times 
<http://www.nytimes.com/redirect/marketwatch/redirect.ctx?MW=http://custom.marketwatch.com/custom/nyt-com/html-companyprofile.asp&symb=NYT> 
last month, though, he extolled the Chilean system as one based on 
ownership, choice and responsibility and one that is widely popular 
because it gives workers a stake in the economy.

Among other achievements emphasized here by advocates of the privatized 
funds are the creation of a modern capital market, cheaper credit for 
companies that formerly could turn only to banks when they wanted to 
expand, and a brake on deficit spending by the government.

Critics respond that the privatized system has been less successful in 
ensuring a dignified retirement for the elderly.

"What we have is a system that is good for Chile but bad for most 
Chileans," said a government official who specializes in pension issues 
and who spoke on condition of anonymity, fearing retaliation from 
corporate interests. "If people really had freedom of choice, 90 percent 
of them would opt to go back to the old system."

Among the complaints most often heard here is that contributors are 
forced to pay exorbitant commissions to the pension funds. Exactly how 
much goes to such fees is a subject of debate, but a recent World Bank 
study calculated that a quarter to a third of all contributions paid by 
a person retiring in 2000 would have gone to pay such charges.

But most Chileans are unaware of how much they are paying to the funds 
because the lengthy quarterly financial balance sheet they receive "is 
not comprehensible," according to Guillermo Larraín, director of the 
Superintendency of Pension Funds, a government agency. "It needs to be 
replaced by a simple and transparent financial statement," he said, so 
workers can determine which fund charges the lowest fees.

In recent years, the number of pension funds has been winnowed to 6 from 
a high of 22 in the early 1990's. They have enjoyed record earnings, so 
much so that foreign banks and insurance companies are investing in the 
industry. While the pension fund association puts the average annual 
return on assets just under 30 percent, government figures show profits 
of 50 percent in 2000, with some independent studies suggesting the 
funds did that well over the five-year period ended in 2003.

Proponents of the system justify the high returns as an appropriate 
reward for the risk they undertake. But a recent World Bank report, 
"Keeping the Promise of Social Security in Latin America," minimized 
that, noting that through the 1990's, only three large companies 
accounted for half of all shares traded on the Santiago stock exchange 
and that pension funds tend to follow a herd instinct and invest in the 
safest choices on the market.

Government officials like Mr. Larraín and Mr. Scolari acknowledge that 
"commissions are high and need to come down." They say that "more 
competition is needed" to foster lower fees. But existing regulations 
frustrate the creation of new funds - something that seems just fine to 
pension funds that have become a powerful political and economic force.

"The dynamic of the market," Mr. Larraín said, "is one of consolidation 
and concentration."

Some other problems of the Chilean system stem from factors that do not 
apply with the same force in the United States and other advanced 
economies. Nearly half of Chilean workers, for example, are employed off 
the books in the so-called informal sector, while many others are hired 
as independent contractors, who are not required to contribute to a 
pension account and do not do so regularly because they cannot afford it.

By the government's own calculations, only about half the work force 
contributes to a pension fund. "We are aware there is a big hole and 
that we need to take corrective measures," Mr. Larraín said.

Because many of the claims initially made on behalf of the privatized 
system proved exaggerated or inaccurate, the transition period has 
turned out to be longer and more expensive than anticipated. The annual 
cost to the government, still the guarantor of last resort, has remained 
steady at 5 to 6 percent of the nation's economic output. (By 
comparison, in 2003, Social Security outlays in the United States 
totaled 4.2 percent of the gross domestic product.)

Chile spends about $2 billion a year to pay retirees from its armed 
forces, according to Mr. Scolari. The military imposed privatization on 
the rest of the country, but was careful to preserve its own advantages 
and exclude fellow soldiers from the system. Despite calls that the 
military be forced to give up its exemption, no civilian government has 
been prepared to pursue that.

Proponents of the privatized system argue that those costs will diminish 
in coming years, as those still receiving benefits from the old system 
gradually die off. But critics disagree, pointing to the large numbers 
of younger Chileans in the work force who either do not participate or 
whose contributions will fall short of the amount required for a minimum 
pension.

For those remaining in the government's original pay-as-you-go system, 
the maximum retirement benefit is now about $1,250 a month. The National 
Center for Alternative Development Studies, a research institute here, 
calculates that to get that same amount from a private pension fund, 
workers would have to contribute more than $250,000 over their careers, 
a target that has been reached by fewer than 500 of the private system's 
7 million past and present contributors.

This leaves many Chileans in a situation that has led to the coining of 
a phrase: "pension damage." There is now even an Association of People 
With Pension Damage, 157,000 members and growing, that consists of 
Chileans, mostly former government employees, who find that their 
pensions, based on contributions to the private system, are 
significantly less than if they had remained in the old system.

"They come to us in desperation," said Yasmir Fariña, the group's 
president, "because those who stayed in the government system are often 
retiring with monthly pensions twice as large as everyone else's."


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