Piñera Brings Chilean Reform to Russia

September 6, 2000

In the September issue of Foreign Affairs, Jose Piñera, Co-chair of Cato's Project on Social Security Privatization and founder of Chile's privatized pension system, argues that Russia needs to copy Chile's free market economic reforms if it is to emerge from its Communist past. Specifically, Piñera argues, Russia's ailing pay-as-you-go pension system should be replaced with a system of personal retirement accounts invested in real economic assets like stocks and bonds. Piñera traveled to Russia in May along with Ian Vasquez, director of Cato's Project on Global Economic Liberty, to advise the Russian government on pension reform and other economic issues. Following the visit, top economic advisors to Russian President Vladamir Putin indicated that personal account legislation will soon be introduced into parliament. In his article, Piñera highlights the inevitability of reform:

"Like those of all countries with pay-as-you-go social-security schemes, Russia's system is going broke and will have to be reformed sooner or later. Indeed, inflation has eaten away at the real value of pensioners' benefits over the years. The inadequate benefits are accompanied by social-security payroll taxes of 29 percent. This high rate raises the costs of labor and encourages unemployment, putting further pressure on the public pension program. Expenditures on social security already constitute much of the government's budget outlays. In short, the high costs and low benefits of the public pension system rob people of security in their old age and discourage overall economic growth. The longer the country postpones reform, the more difficult it will be to make the transition to a fully funded system."

"The Russian government should follow the principles applied in Chile: workers should be allowed to place their retirement savings in their own accounts to be privately managed by competing firms, which would invest that money in capital markets over the working lifetimes of their clients. Giving ordinary Russians the choice of remaining in the state-run system or moving into the private system makes it more difficult for politicians to obstruct reform. (When workers were given that choice in Chile in 1981, 25 percent chose the new system within the first month alone; now 94 percent are in the private system.) New entrants to the labor force, however, should go directly into the private pension system. That will permit Russia eventually to close the door on the state-run system that politicians -- as has been the case in all countries -- have abused for political purposes, and it will protect the private system from being undermined by a publicly managed, unfunded system. Finally, the benefits of current retirees and of those people remaining in the old system should not be altered. Such a measure is both fair and politically prudent since it, too, removes potential opposition to privatization.

"Gaining the most from pension privatization would not only require other reforms; it would drive them. A reform that allows Russians to invest their pension savings abroad sends a powerful signal about the openness of the country's economy and about the Russian government's view that capital will be permitted to flow both ways, something that would itself encourage greater foreign investment in Russia. But the most important impact of pension reform is the paradigm shift it produces by creating a country of property-owning workers who favor free-market economic policies. Put simply, the rise of worker capitalism would turn Marx on his head. Done properly and accompanied by other reforms, pension reform can stimulate a virtuous cycle in which workers invest their savings in capital markets, and markets increasingly invest in Russia as both the financial and the corporate sectors develop.

"Since the Republican presidential candidate, George W. Bush, has recently announced his desire to reform Social Security by introducing private retirement accounts, a new "pension reform race" between the United States and Russia -- a more benign kind of race than in the past -- has broken out. And in this race, Russia has a chance of 'beating' the United States."

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