KDI - Korea Development Institute - RESEARCH - Research Areas

Summary

Research Monograph KOR Research on Structural Reforms to Enhance Sustainability of the Public Pension System

This study aims to explore structural reform measures for South Korea’s national pension scheme that can ensure both fiscal sustainability and intergenerational equity. Additionally, it seeks to redefine the basic pension system to guarantee an adequate level of retirement income. To achieve these objectives, the paper integrates fiscal projections, based on a new fiscal forecasting model, with analysis from an overlapping generations (OLG) model. Furthermore, it addresses legal issues related to pension reform and examines cases from major countries where social consensus was achieved during the reform process. The paper also discusses the introduction of the Guarantee Pension and various issues facing public pension systems in Korea.

Chapter 2. Reform Measures and Projections for the National Pension System

This chapter examines reform measures for the national pension system and analyzes their fiscal implications. Since its introduction in 1988, the national pension has undergone several reforms, adjusting both the contribution rate and the income replacement rate. However, earlier reforms seem inadequate to secure long-term fiscal sustainability. Therefore, this research has developed a projection model based on models from the National Pension Research Institute and the National Assembly Budget Office to estimate the current financial situation.

The fiscal projection model estimates the revenues and expenditures of the national pension using demographic forecasts, macroeconomic outlooks, and policy variables. According to the projections, its surplus, which stood at 72.1 trillion KRW in 2023, is expected to turn into a deficit by 2040 and further expand to a deficit of 1,005.2 trillion KRW by 2100. Consequently, the pension fund, which was 1,015.8 trillion KRW in 2023, is projected to reach a peak of 1,972.0 trillion KRW in 2039, after which it will gradually decrease to depletion by 2054.

To enhance the sustainability of the national pension, a scenario analysis is conducted, which suggest that raising the contribution rate from 9% to 12% would deplete the fund by 2060. An increase to 15% would extend solvency to 2068, while a rate of 18% would last until 2079. These findings indicate that even with a substantial and challenging increase in contribution rates, the current defined benefit (DB) scheme―which guarantees a benefit ratio over 2 regardless of contributions―would makes it difficult to sustain the fund throughout the projection period. This highlights the challenge of securing intergenerational equity and maintaining the pension fund's solvency solely through contribution rate increases under the current pension structure, which may face resistance from younger generations.

In response, this research proposes a structural reform of the national pension scheme by introducing a reformed defined contribution (DC) system called the "New Pension," while referring to the pre-reform DB system as the "Old Pension." The shortfall in benefits under the Old Pension would be covered by the government budget, allowing all generations to receive at least their principal contributions back (expected benefit ratio of 1).

The proposed DC New Pension would operate as a Cohort Collective Defined Contribution pension system, where individuals within their cohort participate in an insurance scheme to receive a pension benefit amount until death. To this end, a model has been developed to project revenues, expenditures, balance, and reserves under this system. The results indicate that under the cohort-based DC scheme, the pension fund would not be depleted, even with declining birth rates or extended projection periods, as benefits are paid only from the accumulated contributions and investment returns.

However, since the Old Pension inevitably leads to a fiscal deficit, the study also calculates the scale of this deficit. While various methods exist to measure the shortfall of public pensions, this study aligns with the logic of the Old Pension by calculating the benefits corresponding only to contributions made by current beneficiaries and active contributors (closed group method without future accruals). The financial deficit for contributions made up to 2023 is estimated at 609 trillion KRW (in 2023 present value), but if contributions continue until 2028, this deficit is projected to rise by an additional 260 trillion KRW, bringing the total shortall to 869 trillion KRW. This emphasizes the need to implement pension reforms as early as possible to mitigate the fiscal burden on the government budget from the shortfall in the Old Pension fund.

Chapter 3. Reform Measures and Projections for the Basic Pension

This section analyzes the proposed reform measures for the basic pension system and their fiscal implications. Given the high rate of elderly poverty and the substantial coverage gaps in the national pension, this study examines long-term fiscal projections for the basic pension to ensure its sustainability and enhance its effectiveness in reducing poverty. Various reform scenarios are assessed in the context of these projections to guide future policy decisions.

South Korea has one of the highest elderly poverty rates among OECD countries, largely due to the relatively recent introduction of the national pension and the fact that many older adults were unable to enroll. To address this issue, the Basic Old-Age Pension was introduced in 2008 and later restructured into the basic pension system in 2014. Currently, the basic pension provides up to approximately 333,000 KRW per month as of 2023, targeting the bottom 70% of the elderly based on their recognized income.

The current basic pension system operates on a goal coverage rate, distributing pensions to 70% of older adults. However, as the population ages and the standard pension amount increases, the fiscal pressure on the system intensifies. At the same time, as the national pension benefits increase for new retirees and economic conditions improve, the income threshold for basic pension eligibility has been rising annually. Recently, this has resulted in individuals with recognized incomes approaching 100% of the median income qualifying for the basic pension benefits. Consequently, policy discussions have emerged around improving the poverty reduction effect of the basic pension by tightening eligibility criteria, reducing the number of beneficiaries, and increasing the standard pension amount.

In this context, the study conducts fiscal projections for various reform scenarios currently under consideration for the basic pension. One scenario, proposed by Yun Seok-Myung (2023), involves fixing the eligibility threshold at its current level and indexing it to inflation. To estimate the impact of this selective reform measure on the number of beneficiaries, the study projects changes in the distribution of recognized income among future elderly populations using data from the 2014-2021 Fiscal Panel. The projections assume that the current trend in recognized income persists through 2070. The estimated distribution changes are then applied to the basic pension fiscal projection model developed by Shin Kyung-Hye and Kim Hyeong-Soo (2021) to perform the fiscal projections.

The fiscal projections reveal that maintaining the current system would result in total cumulative expenditures of approximately 3,143 trillion KRW between 2023 and 2070. In contrast, a universal expansion scenario, which increases coverage from 70% to 100% of the elderly population and raises the standard pension amount from the inflation-adjusted 333,000 KRW to 400,000 KRW from 2024 onward, would result in total cumulative expenditures of approximately 5,510 trillion KRW over the same period, which is about 75% higher than maintaining the current system. However, under the targeted improvement scenario, where the eligibility threshold is fixed at the 2023 level and indexed to inflation, the proportion of beneficiaries would gradually decrease from 70% to 23% of the elderly population each year. Even with an increase in the standard pension amount to 400,000 KRW from 2024, total expenditure would amount to 2,012 trillion KRW, a reduction of approximately 36% compared to the current system. Notably, the savings generated from reduced expenditures could increase the standard pension amount to 570,000 KRW by 2070.

It is crucial to consider the basic pension reform in conjunction with the national pension system. As the population ages and the national pension system matures, the basic pension should aim to enhance fiscal sustainability and effectiveness in poverty reduction by making eligibility criteria more targeted and increasing the standard pension amount. To achieve these objectives, the national pension must continue to fulfill its role as a public retirement income security system, while further development of the private pension system is necessary to strengthen income security provided by a multi-pillar approach. Ultimately, the basic pension could prioritize supporting the income of relatively economically disadvantaged elderly individuals, while the national pension and private pensions provide income security for those in relatively better economic conditions.

Chapter 4. Analysis of a DC-Type National Pension System Using an Overlapping Generations Model

This chapter analyzes how different age groups and income classes respond to various pension systems and economic environments by employing a heterogeneous agent overlapping generations (OLG) model within a general equilibrium framework. Unlike the financial projection model discussed in the previous chapter―which treats each gender×age×subscription period group as a homogeneous entity and does not account for endogenous changes in macroeconomic variables such as interest rates and wages―this model allows for a deeper and more nuanced analysis.

This study assumes the population structure of 2070 to examine the potential issues that may arise if the defined benefit (DB) pension system is maintained and to compare it with the responses of various age and income groups under a reformed defined contribution (DC) pension system.

In a population structure characterized by advanced aging like that of 2070, the DB pension system would require an increase in the contribution rate from 9% to 18%, yet still necessitate government support, estimated to be as high as 8.8% of GDP. In contrast, transitioning to a DC pension system would significantly reduce the government's fiscal burden and enhance the sustainability of the national pension fund. While overall production and the average living standards of the working-age population would improve under the DC system, the lower income replacement rate might exacerbate disparities. The DC system makes it more challenging to secure adequate retirement income, which could potentially widen the gap in income security between age groups compared to the DB system.

Specifically, in a DC pension system, households are likely to increase savings in preparation for retirement, leading to lower interest rates and higher wage rates, potentially worsening inequality between retirees and the working-age population. To address this, a mixed approach that uses part of the government financial support for the DB system as a supplementary support for the DC framework could be considered, providing economic benefits to both working and retired age groups. When considering a mixed approach, the DC system generally results in higher total production and post-tax income. Additionally, if the fund's rate of return exceeds the nominal growth rate, the pay-as-you-go (PAYG) pension system may become inefficient in the long term, making a DC system with government support potentially more efficient than a DB system.

Chapter 5. Directions for Public Pension System Reform

This chapter examines the legal issues surrounding national pension reforms and analyzes international cases of social consensus achieved during pension reforms in major countries. It also assesses the validity of structural reform measures for public pensions and explores the potential for restructuring the basic pension and introducing supplementary pensions to address the shortcomings of the current system. Finally, the chapter discusses issues related to South Korea’s public pension systems.

Reforming the national pension inevitably requires legislative amendments in line with constitutional principles, such as property rights, the principle of legitimate expectation, and the principle of proportionality. Legal reviews serve as an important reference, particularly Constitutional Court rulings on mandatory pension enrollment and the legality of premium collection. Adjustments to the contribution rate and income replacement rate are key measures for ensuring the financial sustainability of the national pension. While these adjustments may infringe on property rights, legislative actions that minimize the breach of trust and adhere to the principle of proportionality could be permissible within the constitutional framework.

Ideally, pension reform is achieved through broad social consensus, with active involvement from stakeholders to adjust and align various interests toward a collective agreement. However, South Korea may be ill-suited for a social dialogue-based model like Finland’s or a political consensus model like Sweden’s. The country’s low unionization rate, the absence of representative organizations for self-employed and vulnerable workers, the weak tradition of social dialogue in institutions like the Economic and Social Development Commission, and the adversarial nature of the country's two-party political system all pose challenges.

Given these challenges, the government-led consultative approach, as observed in countries like Germany, the UK, and Japan, may offer a more effective pathway for pension reform in South Korea. What is recommended in this paper is the establishment of a Pension Reform Committee composed of a small number of experts, which would be instrumental in objectively analyzing the situation and proposing directions and principles for reform, for the government to consider adopting.

The current DB pension system faces challenges in improving its fiscal sustainability solely through parametric adjustments, such as increasing contribution rates, lowering income replacement rates, or adjusting the pensionable age. These efforts are constrained by optimistic demographic assumptions underpinning policy decisions. Therefore, it is necessary to explore strategies to address potential issues from introducing a funded DC system, including investment return risks, mortality and wage growth projection errors, and income redistribution concerns. Additionally, reforms should prioritize securing retirement income adequacy.

Furthermore, the chapter discusses restructuring the basic pension and introducing the Guarantee Pension. The restructuring of the basic pension aims to protect individuals who fall outside the coverage of the national pension system, with a focus on strengthening retirement security for low-income groups. Drawing lessons from Finland and Sweden, which operate selective basic pension systems, and Canada, which has a universal system, the chapter explores the future direction of South Korea’s basic pension. South Korea should design a system that, like Finland and Sweden, targets a more limited group of beneficiaries for basic and supplementary pensions to ensure minimum retirement income for low-income seniors.

Lastly, the chapter briefly discusses proposals to enhance the national pension system, including increasing National Pension contribution rates, extending the mandatory enrollment period, raising the ceiling on standard monthly income, addressing the issue of income gaps caused by extending the pensionable age, and exploring integration options to improve equity between the national pension and occupational pensions, such as the Government Employees Pension.

Summary

Policy Study KOR A Study on Elderly Poverty: Focusing on Income and Consumption

This study investigates elderly poverty in South Korea by incorporating both consumption and income to provide a comprehensive assessment of the economic status of the elderly population. By examining these two factors, the study aims to identify vulnerable groups experiencing financial difficulties across multiple dimensions. The findings underscore the variability within income poverty among older adults, highlighting notable differences based on asset holdings. Accounting for both income and consumption allows a more nuanced understanding of elderly poverty, revealing vulnerable groups facing economic hardships in both dimensions. Furthermore, elderly poverty is examined across generations, showing that its high rate in Korea primarily stems from pre-1950s cohorts, who benefited less from rapid economic growth and pension schemes. Consequently, effective poverty alleviation strategies should target the older and poorer demographic relatively left out of economic growth and pension programs. Restructuring the Basic Pension to offer substantial support to vulnerable groups, while excluding high-asset but low-income individuals, can enhance the system’s sustainability and effectiveness in poverty alleviation.

Summary

KDI FOCUS Korea’s National Pension: Structural Reform Measures

South Korea has been under acute pressure to sustain its National Pension Plan without the risk of fund depletion. Given the looming fiscal threat, this study proposes the introduction of a new pension, a fully-funded system designed to ensure intergenerational equity. This reform aims to guarantee that future generations can receive pension benefits equivalent to the contributions paid and investment returns, without the fear of resource exhaustion. For contributions made prior to the reform, the benefits promised under the existing plan should be honored, while addressing the resultant financial shortfalls of the old pension through separate management and strategic utilization of the general budget to bridge these gaps. This study stresses the urgency of immediate action since the prompt implementation will substantially reduce fiscal stress.

- Under the current scheme, South Korea’s National Pension Fund is projected to be depleted by 2054. As a result, subsequent increases in contribution rates will be prohibitively high for future generations.

- Amid rapid shifts in demographic structure, it is essential to undertake structural reforms and adjust pension parameters to enhance intergenerational equity.

- This study proposes pension reform measures that can keep the expected return rate around one, while approaching this target rate is challenging in Korea, particularly due to the sharp decline in the total fertility rate.

- Provided that the current operation is maintained, increasing the contribution rate from 9% to 18% is likely to result in the reserve fund's complete depletion by around 2080.

- To avoid imposing undue burdens on future generations, adopting a fully-funded “New Pension” system with an expected return rate one is essential.

- With a 15.5% contribution rate, a fully-funded new pension plan will sustain the current average benefit levels for those born in 2006 and later.

- The parallel operation of the old and new pension plans means that the expected return rate gradually declines for each successive birth year, converging to one for those born in 2006 and later.

- To support the adoption of the New Pension, it is necessary to consider measures that ensure the general budget covers the unfunded liabilities of the old pension, estimated at approximately 609 trillion won (26.9% of GDP).

- Since providing general finances early and swiftly minimizes the nominal fiscal burden, it is advisable to initiate fiscal injection before the old pension fund is depleted.

- Delaying the reform of the fully-funded new pension plan by five years is expected to result in an additional 260 trillion won in unfunded liabilities that will need to be covered by the general budget.

- Even though the expected return rate of public pensions is similar to that of private pensions, the necessity of public pensions for social stability is wellrecognized, and worth considering is the fact that Korea’s NPF has recorded somewhat higher returns than private ones.

- With high uncertainties like dramatic demographic changes, bolstering the financial stability of the new pension system requires transitioning from the Defined Benefit (DB) model to the Defined Contribution (DC) model.

- Unlike individual account systems, applying a DCtype pension to age cohorts enables the integration of an income redistribution function.

- In a new DC pension system, it is possible to adjust the income replacement rate through modifications to the contribution rate.

Summary

KDI FOCUS Assessing Old-Age Poverty with Income and Assets: Generational Insights and Policy Directions

Korea’s old-age poverty rate, based solely on income, ranks among the highest in the OECD. While the rate drops slightly when assets are considered, it remains persistently high. There are marked disparities in poverty rates across different elderly birth cohorts, with older groups facing higher rates. A greater share of the low-income, low-asset segment also marks the observed inequality. To effectively address poverty among the elderly, policy efforts should prioritize support for the oldest members of this vulnerable low-income, low-asset segment. Concurrently, financial assistance for seniors in the low-income, high-asset group should be scaled back. A practical move toward this direction would be revising the eligibility criteria for the Basic Pension to include asset-inclusive pensionable earnings.

- Korea’s old-age poverty rate was 43.4% in 2018, the highest among OECD countries (average 13.1%).

- The old-age poverty rate varies markedly across the five elderly generations, with those born in the 1940s or earlier having the highest rates.

- The recent decrease in the old-age poverty rate and the disparities seen across age cohorts can likely be attributed to the growing proportion of individuals born in the 1950s who tend to be less impoverished.

- Given the nascent state of public transfers in Korea, asset accumulation is the likely channel of retirement planning, meaning income alone does not provide a complete picture of old-age poverty.

- When incorporating both income and assets into the analysis, the old-age poverty rate determined by asset incomization is markedly lower than that derived from income alone but remains elevated.

- Korea’s old-age poverty rate, evaluated using both income and assets, still ranks among the highest in the world.

- When incorporating assets into the analysis, the share of the low-income, low-asset varies significantly across generations, particularly among those born in the 1940s and earlier.

- The difference in levels of old-age poverty across generations can be attributed to the intergenerational income disparity caused by rapid economic growth and the differing maturity levels of retirement security systems for each generation.

- To provide targeted assistance for the most vulnerable, the Basic Pension should be based on asset-adjusted pensionable earnings, reducing the support for seniors in the low-income, high-asset category.

Summary

KDI FOCUS Addressing the Prolonged Pension Gap

As the age for National Pension eligibility rises, creating an income gap, many older people typically offset this by increasing their labor earnings, studies suggest. Those facing a pension gap tend to increase earnings without an accompanying rise in poverty or reduction in consumption. However, households with excessive medical expenses struggle to fully offset the reduced pension, as increased labor income doesn't completely make up for the pension shortfall. Given the ongoing upward trajectory of the pensionable age, meticulous monitoring of elderly employment trends and bolstering support for prolonged employment are of paramount importance. For immediate relief, older households, constricted by caregiving obligations and facing labor supply limitations, require further reinforcement through targeted support programs.

- Increasing the National Pension eligibility age can bolster the fund's financial viability. However, without adequate income supplementation during the pension gap, this change may potentially escalate poverty rates and diminish the quality of life among older individuals.

- The goal of raising the pensionable age is twofold: to reduce long-term pension benefit expenditures by postponing the commencement of pension benefits, and to encourage labor market participation among the elderly.

- In response to the extended pension gap, pensioners supplemented their income through work. Consequently, no significant changes were observed in either the average household income or poverty rates.

- The increase in pensionable age has not significantly impacted household consumption expenditures.

- Households with medical expenses exceeding the median level struggled to counterbalance the decline in public pension income. They faced constraints in amplifying their labor income during the pension gap period.

- Generations impacted by the elevated pensionable age have navigated the pension gap by boosting their labor earnings, compared to unaffected cohorts. Consequently, no alterations were observed in their poverty rate or consumption expenditures.

- Continual monitoring of employment trends among the elderly, alongside the enhancement of employment extension support and reemployment services for middle-aged and senior populations, is crucial given the anticipated future extension of the pension gap.

- The promotion of a phased retirement system, linked to a partial pension scheme, is essential for encouraging long-term employment.

- Efforts must be made to address deficiencies in the disability pension system in order to strengthen income supplementation for individuals unable to work due to injury or illness.

- Appropriate care services should be provided for elderly households facing significant caregiving burdens for sick household members.

Summary

Policy Study KOR The Impact of Increase in Pension Age on Employment, Income and Consumption

Due to population aging and a relatively low contribution rate relative to high pension payments, a pension fund in Korea is financially unstable. To improve financial stability, the Korean government passed a law in 1998 that gradually increased the pension age from age 60 to 65 between 2013 and 2033. The purpose of the reform was to prolong the retirement age and delay the pension payment among the elderly. However, as the statutory retirement age has remained at age 60 since 2016, the gap between the statutory retirement age and pension age has widened. This widening gap has brought the need to explore whether and how people have been supplementing their income and consumption in the time of income crevasse.

This paper uses cohort discontinuity regression to estimate the impact of the increase in the pension age on employment, income, and consumption in Korea by using a discontinuous jump in the pension age from 61 to 62 between the 1956 and 1957 cohorts. It finds that an increase in pension age from 61 to 62 leads to a rise in labor income and does not lead to a drop in disposable income and consumption at age 61, despite the decrease in pension amount. However, a heterogenous effect depends on the family characteristics, such as the rate of medical expense out of total consumption expenditure and the education level of the household head. In particular, the labor income of families with high rates of medical expense out of total consumption did not increase despite the decline in pension amount. Along with the decreased business and property income, they experience a drop in disposable income. Moreover, a family with a household head in high school but without a college degree does not increase the labor income. Along with the decline in business and property income, they experience a drop in disposable income and consumption.

These results suggest that the vulnerable group from the increase in pension age policy might be the family who can-not extends labor participation due to health problems or the care-giver burden of the family member with the health problem. Moreover, the vulnerable group from the increase in pension age in Korea might not be the lowest and highest education group but instead those in the middle.

This paper suggests the following policy implication. First, the government needs to provide an income supplement to those who can not extend their employment in the period of income crevasse due to health problems and provide care-giving service to those who can not participate in work due to the care-giving burden between the statutory and pension age. Secondly, the government might want to implement a partial pension system that allows receiving early pension partially, which gives more flexibility in combining work and pension. Thirdly, to reduce the gap between the statutory age and pension age, the government might want to gradually extend the re-employment system while transforming the seniority-based wage system into one that reflects the productivity and task of the person's job. Fourth, the government might want to enhance the job-training program for the elderly by evaluating the program's effectiveness and grasping the need of both the employer and employee's side.

Summary

Policy Study KOR A Study on the Delegation Management of Investments in Alternative Assets for NPS Funds

This study analyzes whether the current performance evaluation and compensation systems for alternative investment businesses in NPS funds are optimally designed to resolve incentive problems. The majority of alternative investment tasks are delegated to private equity funds (PEF), which have expertise in management and asset valuation of alternative investment assets. However, this expertise also gives rise to an inefficient transmission of information on the value of invested assets privately known to PEFs. Specifically, PEFs may have a distorted incentive to overestimate the value of invested assets to convince the NPS fund not to withdraw their funding until the investment has fully matured. On the contrary, PEFs also bear the cost of false reporting: they may be penalized by the regulatory authorities for any violations of good faith duties.

Combining moral hazard with strategic communication with lying costs, we find that PEFs’ incentive to misreport the valuation results is closely related to bonus pays that are contingent on the high return of invested assets. Specifically, the incentive to misreport is low if and only if the bonus pay is either very low or very high. We also find that the incentive to misreport grows stronger if the NPS fund rewards its employees based on the mid-term valuation of invested assets, suggesting that the mid-term performance evaluation with the NPS funds should be reconsidered. Lastly, we find that the optimal compensation system to resolve the incentive misalignment problems should contain a sufficiently large base upfront pay.

Summary

Policy Study KOR Enhancing the Sustainability of Housing Pension: Focusing on Housing Prices

According to the 2016 Survey of Household Finances and Living Conditions, a mere 8.7% of retired households answered that their income was ‘sufficient’ enough to cover their living expenses while 39.0% and 21.5% believed it to be ‘insufficient’ or ‘severly lacking.’ In fact, as Korea’s population continues to rapidly age (over 14% of the total population is 65yrs and over), the proportion of households who are unable to afford a comfortable retirement is expected to rise in 2017. Seniors, in particular, are vulnerable in light of their low share of financial assets―mainly cash―compared to other age groups. Accordingly, estate liquidation may be a valid consideration for the government as the majority of assets held by the senior population is comprised of real estate.

Under the circumstances, this study explores the sustainability of the ongoing housing pension scheme in order to determine whether current asset-liquidation measures need to be enhanced in the long-term. For this, assumptions about the current housing pension scheme model were first reviewed and their long-term practicability was analyzed. Specifically, a quantitative analysis was conducted to examine whether the current payment level of the housing pension―which is determined by the present value of housing prices―is sustainable enough to properly respond to possible downward pressures in the housing market. Recommendations are also presented on the various aspects to consider when revising the model.

Among the determinants of housing prices, this study takes into account the demographic structure variable and economic growth rate variable to look into the housing price trends in the mid- to long-term. In doing so, the analysis uses the housing price determinants model constructed on co-integrated regression. The empirical analysis shows that real housing prices are affected positively by the economic growth rate and negatively by population aging. Indeed, if Korea’s economic growth is fixed at 3% until 2030 but the demographic structure changes as projected by Statistics Korea, real housing prices will rise by an annual average of 0.44% until the fourth quarter of 2020 and descend thereafter to 1.52% by 2030. This trend appears to be driven by increasing home sales and decreasing residential areas as those aged 65 and over rapidly become major players in the housing market.

Meanwhile, based on the estimated long-term trends in real housing prices, this study also examines nominal housing prices. Assuming that YoY inflation increases by 1%p and 2%p, respectively, nominal housing prices would decline by an annual average of 0.33% in 2017-2030 for the former and increase 0.66% for the latter. These long-term trends in housing prices differ somewhat from those in the basic assumptions which are reflected in the current housing pension scheme. That is, the scheme assumes an annual average increase of 2.1% in housing prices, which is higher than the growth rate of nominal housing prices estimated in the aforementioned empirical analysis. Ultimately, this implies that the government will likely have to bear the burden of the increased losses. A quantitative analysis reveals that if nominal housing prices grow consistently at 0.33%, the total loss to be covered by government expenditure will surge to 7.8 trillion won by 2044. A growth rate of 0.66% will entail a loss of 4.5 trillion won. These results show that if the growth in housing prices remains below Korea Housing Finance Corporation’s (HF) estimates for the growth in nominal housing prices (2.1%) and moves as assumed in the empirical analysis, the financial burden arising from the government guarantee on the housing pension will be quite substantial. Furthermore, an analysis on the demand for the housing pension scheme reveals that households are 8.86%p more likely to join the scheme when housing prices are expected to descend. This implies that when a decline in housing prices is expected, the housing pension estimation model should be adjusted in a more conservative manner considering the possibility of more households joining the scheme.

To elaborate on the scheme model, regionally differentiated housing prices should be reflected and HF’s assumptions for the growth in housing prices need to be adjusted. In addition, regional price trends must be considered separately as the registration rate is merely 0.88% and the majority of registered households reside in the capital region. At the same time, in regards to the low registration rate, a balance must be struck between promoting the scheme and improving its sustainability. The government is currently developing measures to invigorate the scheme by providing tax benefits. Indeed, tax reductions can serve as a useful means to cash-strapped seniors burdened by taxes. Also, in terms of institutional improvements, HF should be given more options other than the auction sale of mortgaged homes.

Summary

Policy Study KOR A Welfare Analysis of Sustainable Pension Reforms

This paper employs a Life-Cycle Overlapping Generations Model to quantify the welfare impacts of plans to postpone the depletion of the National Pension Fund. In order for the model to fully incorporate the rapidly changing demographic structure of Korea, we build and calibrate a model in transition directly. The model is considered suitable for analyzing the effects of demographic changes on the Korean economy and the effects of plans to change the National Pension System. According to the model simulation, to postpone the depletion of the National Pension Fund for 30 years, the premium rate must be increased to 18.3% from the current rate of 9%. By postponing the depletion of the fund reserve, young and future generations gain significantly at the expense of the old generations. The simulation results should be, however, interpreted that the current system is unjustifiably partial to the old generations. Moreover, given the current premium rate, it is desirable to strengthen the income redistributing function of the National Pension System.

Summary

Policy Study KOR A Study of the Effect of NPS on Decision of Household Saving and Asset Based on Income Group and Household Debt

This study estimates the individual’s social security wealth using the Korea Labor Panel Data (KLIPS) and investigates the effect of pension wealth by income level on household savings and choice of asset composition respectively based on panel analysis. In addition, we analyze the marginal effect of pension wealth by income level according to the household debt burden level based on the mortgage recognition rate (LTV) of the household and examine the effect of pension wealth on household financial assets and non-financial assets. The results show that the pension wealth crowds out househole net worth and the crowding-out effect decreases as the income level increases. It is found both in household financial assets and non-financial assets. When the household debt burden level is taken into consideration, the households are analyzed to construct more savings and assets for consumption smoothing as the debt burden level increases. Financial assets and non-financial assets are analyzed in detail, and it is found that the pension wealth crowds out the real estate assets and the protection insurance which is a long-term saving to prepare for old age. These results suggest that current income inequality may lead to the imbalance of old-age income after retirement. At the same time, it is confirmed that the national pension plays a role of substitute for long-term savings by performing the old-income guarantee function. It means that the household’s non-financial assets can be used as a means of personal retirement.

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