Adapting to changes in life expectancy in the Finnish earnings-related pension scheme

Mikko Sankala, Finnish Centre for Pensions
Kaarlo Reipas, Finnish Centre for Pensions

In this article we discuss the policy choices made in order to adapt to changes in life expectancy in the Finnish earnings-related pension scheme and study different adaptation methods by using a rule-based simulation model. An automatic balancing mechanism called the life expectancy coefficient was introduced in the reform of 2005 to combat increasing pension expenditure. The life expectancy coefficient automatically adjusts the level of beginning pensions to changes in life expectancy. If life expectancy increases, monthly pensions are decreased and if life expectancy decreases, monthly pensions are increased. In 2014 the social partners reached an agreement on the content of the upcoming pension reform, which will come into effect in 2017. One of its main goals is to increase the effective retirement age and lengthen working careers by introducing a link of the general retirement age to life expectancy. This link is also taken into account by mitigating the life expectancy coefficient, which will raise the size of future pensions if the prevailing trends in mortality continue. We have simulated three mortality scenarios (baseline, low and high mortality) and two legislation scenarios (with and without the link of the retirement age to mortality) to assess the effect that mortality has on the effective retirement age, pension benefit levels and pension expenditure. According to our simulations, the link postpones retirement as measured by the effective retirement age and increases the pensions of future retirees. As the effective retirement age rises, the size of the workforce and the wage sum also increase. The link of the retirement age to life expectancy reduces the effect that life expectancy has on benefit levels and the financial sustainability of the earnings-related pension scheme.