Longevity, Systemic Models and Business Risk

figure 1: Public expenditure on the pension system in Italy and the expected demographic development
Source: ANIA.

The replacement strategies of the public sector are not mere theory, since the withdrawal of the State from the roles played so far is de facto unfeasible, not only in the field of welfare, even if we were all convinced and agreed that it was be desirable. Perhaps in this case mere replacement would be tactically and conceptually wrong. Mutatis mutandis, in the end it would be the same historical mistake made by the state with reference to the family.
In principle, the complex management of the full longevity risk calls for a marked capacity for ‘ex post adjustments’, typically exclusive to the state, since it works through the general tax system, even though it still meets many obstacles in this matter too. As a matter of fact, the options actually available (and therefore used) at political level tend to involve the maintaining or slightly decreasing of the tax burden, against a background of structural public deficits which, albeit to different degrees and according to different dynamics, trouble all advanced economies. Therefore, we are dealing with a real, though not traditional social good9, given that it is not the classic problems of free riding and lack of a capacity for full appropriation which are emerging.
Indeed, we can safely assume that no rational person voluntarily plunges into poverty in old age by taking excessive risks (for example excessive consumption) in a typical case of moral gambling simply because he or she can rely upon the public safety net. Rather, we are faced with the public sector’s usual tendency, which I would call ‘ex post financial flexibility’: to be rigidly tied to contracts and to the need for complying with their obligations which makes the risk (be it the insurance risk or any other) for private operators costly and potentially catastrophic.
Furthermore, the ‘demographic game’ is a serious source of uncertainty for individuals, which tends to reduce the production of a commodity compared to what the expected average value of the commodity to operators with a rational maximising attitude would suggest10.
The position of public and private operators may be considered very similar in terms of accountability. In general, demographic losses are in large part not suffered by those who have taken on the risk which results in them, but it will be future generations of politicians and managers who will be held accountable.
However, there is a fundamental difference which tends to prevail: private accounting systems at least unveil such losses when they take place, through the reservation obligations11, whereas the state balance sheets record the demographic loss only gradually when it takes place through outbound cash flows. Many years ago the second public debt — which was hidden and much greater than the first — was widely discussed. With the arrival of I.F.R.S., it is very likely that the logic of fair value will further restrict the degree of freedom in terms of the assessment of demographic liabilities.

9 The term is used in the traditional sense of economic theory.
10 A comparison can be made with the issue of research and development, where the marked uncertainty of investments (not excluding the possibility of 100% losses) generally renders R&D investments socially sub-optimal. This point is made convingly by S. Rossi, “La Regina ed il cavallo”.
11 In Italy, mention can be made of the ISVAP 343/D circular letter, which defines reservation obligations for insufficient pensions and envisages the option of amortising charges in time.

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