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From issue: Coping with (In)Security (Fall 2007)

AQ Feature

Fixing Social Security in Latin America (Again)

Shannon O'Neil

Rising discontent over the shortcomings of private systems has put pension reform back on the agenda. Here are a few pointers to make sure the next round fares better.

Since 1980 Chile has been at the forefront of the debate over social security reform in Latin America—though not always happily. More than two decades after then-Chilean Labor Minister Jose Piñera announced a ground-breaking plan for individual retirement savings accounts that he promised would lead to “a new political, social, and economic reality,” Chile is leading other Latin nations in a major reassessment. President Michelle Bachelet is pushing Congress toward a fundamental reform of its once-celebrated privatized pension system. Ironically, many countries that once eagerly climbed aboard Chile’s social security bandwagon in the 1990s are now following suit, again. Major reforms to social security have already been enacted this year in Argentina, and similar changes are under discussion in Bolivia, El Salvador and Nicaragua, among others.

What went wrong? The Chilean system looked promising at first. After years of living with a “broken” and corrupt public pension model, Chileans welcomed a change, and the country as a whole profited from the rapid expansion of the private pension market, whose assets rose into the billions of dollars by the mid-1980s. Few doubt that it was one of the drivers of Chile’s so-called economic miracle.

The lesson wasn’t lost on other countries in the region. By the 1990s, countries as diverse as Mexico, Argentina and Bolivia had adapted the Chilean model—often with the same boundless rhetoric. Then-Mexican President Ernesto Zedillo promised that privatization would make social security “more just, more solid, and more efficient.” In Peru the government simply stated, “The future is in good hands—your own.”

But even as Chile’s example was winning converts around the world, including in the United States, it was losing support from the people whose lives and financial security the system was meant to serve. Public opinion polls during the 2005 presidential elections confirmed the steadily declining support as the optimistic expectations for the private system began to fall apart. For most retirees, in fact, private pensions are turning out not to be a livable alternative.

While selling state-owned enterprises pumps huge cash flows into government coffers, privatizing pensions has the opposite effect. As revenue from social security taxes is diverted into the new privately managed individual accounts, governments are left holding the bag for existing pensions. The resulting social security “deficit” can strain budgets to the breaking point. State pension bills for Latin America’s aging generation, faithful contributors throughout their working lives, can range from one to five percent of annual GDP...

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