Albania: Pension Policy Challenges in 20201 Executive Summary Albania introduced important parametric reforms to its Defined Benefit (DB) pension system in 2015, with some reforms still in the process of being fully implemented, such as the increase in retirement ages. These reforms have improved the long-term sustainability of the system, but questions remain about the adequacy of benefits and whether the introduction of a non-contributory pension would compensate for the declining trend in coverage. Albania should continue monitoring the effects of the reforms, as well as improving specific aspects of the system, like rural pensions, disability pensions, and special regimes. Measures can also be explored to expand voluntary savings to complement first pillar pensions. 1. Main Indicators The Albanian pension system is a DB system funded by contributions, with state funding covering the deficit. In 2015, Albania implemented a pension reform package with the objectives of improving the fiscal sustainability of the system, strengthening the link between contributions and benefits, and improving coverage. The measures that were initiated in January 2015 were mainly in three areas: (a) parametric reforms to the existing DB scheme, (b) revision of pension arrangements for special groups of workers, and (c) introduction of a noncontributory social pension. In terms of parametric changes, the pension formula was modified to the sum of a basic pension floor plus a supplement. The basic pension corresponds to the amount of the social pension prorated by the number of years contributed, with respect to the total number of insured years defined in the law. In 2016, the necessary insured years stood at 35, increasing by four months each year until 40. The supplemental pension is calculated as 1 percent of the average indexed wage over the individual’s entire career for every year of contribution. The pension ceiling was lifted, the minimum contributory wage was unified with the official minimum wage, the maximum contributory wage was indexed to average wage increases, and the pension indexation was limited to the inflation rate. The retirement age for women (60 years till 2015) would gradually increase by two months per year to reach 63 years by 2032. From 2032, the retirement age for men would increase by one month per year, while for women it would continue to be increased by two months per year. Thus, the retirement age for men and women is intended to be 67 years by 2056. 1 This note was prepared under the World Bank’s Advisory Services and Analytics (ASA) activity for Western Balkans Pensions in Q1 2020. It does not capture the developments during and after the global Covid-19 pandemic and its potential impact on the pension system in Albania. Analysis of the effects of Covid-19 on pensions in Albania, policy responses undertaken by the authorities, and further policy options will be carried out through follow-up ASA for Western Balkans and other World Bank programs and activities. 1 Table 1: Pension Parameters in Albania Retirement age 65 years for males and 60 years and 8 months for females (gradually increasing to meet at 67 years by 2056), with 15 years of contribution Early pension: A reduced pension may be paid up to three years before the normal retirement age, with at least 37 years of contribution (gradually rising by four months a year until reaching 40 years in 2029). The pension is reduced by 0.6 percent for each month it is claimed before the normal retirement age. Pension The monthly pension is the ratio of the insured person's coverage period to the coverage calculation period required by law multiplied by the amount of the old-age social pension, plus 1 percent of the insured person's average covered earnings for each year of coverage. The minimum monthly old-age pension is the monthly old-age social pension. Valorization The maximum contributory wage is indexed to average wage increases. Indexation Indexation of pensions was limited to the inflation rate in the 2015 reforms. postretirement Eligibility for Contributions in at least 75 percent of the tenure since age 20 and at least one year in the last disability pension 5 years before disability Level of disabilitySame calculation as old-age pension. pension Full disability receives full pension plus an ALL 3,300 supplement. Partial disability receives 50 percent of the full disability pension plus an ALL 2,200 supplement. Eligibility for The deceased received or was entitled to receive a social insurance old-age or disability survivor’s pension. pension Eligible survivors include a widow(er) caring for a dependent child younger than age 8 years; a widow(er) with a disability; a widow age 55 years or older or a widower age 60 years or older; dependent children younger than age 18 years (age 25 years if a university student; no limit if disabled from childhood); dependent parents and grandparents age 65 years or older who lived with the deceased for the last 12 months; and dependent grandchildren. The widow(er)'s pension ceases upon remarriage. Level of Spouse's pension: 50% of the social insurance old-age or disability pension the deceased survivor’s received or was entitled to receive. pension Orphan's pension: 25% of the social insurance old-age or disability pension the deceased received or was entitled to receive is paid to each eligible child; 50% for a full orphan if there are no other eligible dependents. Other eligible survivor's pension: 25% of the social insurance old-age or disability pension the deceased received or was entitled to receive is paid to each dependent. The maximum combined survivor benefit is 100% of the social insurance old-age or disability pension the deceased received or was entitled to receive; 50% if the surviving spouse is working or receiving a pension in his or her own right. Contribution rates 21.6% of gross salary—12.8% by employer and 8.8% by employee. The minimum monthly earnings used to calculate contributions are the legal monthly minimum wage. The legal monthly minimum wage is ALL 24,000. The maximum monthly earnings used to calculate contributions are ALL 105,850. Source: National Legislation and Social Security Programs Throughout the World, Europe 2018 In terms of special regimes, the reforms considered gradually phasing out the subsidized rural pension scheme. The State's supplementary pensions for constitutional functionaries were revised to adjust the balance between contributions and benefits and reduce the State subsidy. The retirement age for members of parliament and ministers was increased from 55 years to 60 years, with an increase in benefits and modifications on benefit calculations. In addition, the retirement 2 age for underground miners was reduced by five years (from 60 years to 55 years), with an increase in the contribution rate by 5 percent of the gross wage. Finally, to complement the contributory system, a social pension was introduced for all individuals who did not qualify for a contributory pension. This social pension is means-tested and is provided to those older than 70 years who had been residents in Albania at least for the last five years. The social pension amount would be equal to the partial pension calculated at 15 years of insurance pegged to the minimum wage. Table 2: Number of Contributors and Beneficiaries in the System 2018 2017 Contributors (average number) persons 778,111 752,383 By subjects 721,160 694,411 Urban 662,220 635,885 Rural 58,940 58,526 By state 39,272 41,014 Short-term benefit 17,679 16,958 Number of pensions (end balance) persons 635,735 621,186 Urban pensions 508,651 488,408 Rural pensions 127,084 132,778 Dependency ratio (Pensioners as % of contributors) 81.7% 82.6% Support ratio (Contributors per 100 pensioners) 122.40 121.12 Source: Social Insurance Institute Statistical Book, 2018. As total employment, particularly formal jobs, has increased in the economy, the total number of contributors has increased in recent years, reaching 63 percent of total employment in 2018. This has decreased the dependency ratio of the system, though it is still at a relatively high 81.7 percent. In addition, the number of old-age pensioners is still a relatively large proportion (91 percent) of the population 60 years of age or older in Albania. Total pension expenditure increased between 2012 and 2016, but remained at around 7.4 percent of gross domestic product (GDP) until 2018. Contributory income has also increased during the period, which has kept the deficit covered by government expenses relatively stable at 2.7 percent of GDP. 3 Figure 1: Total Expenditure on Social Security Benefits, Contributions, and Deficit 8.0% 7.0% 6.0% 5.0% % of GDP 4.0% 3.0% 2.0% 1.0% 0.0% 2012 2013 2014 2015 2016 2017 2018 Direct Contribution Income Deficit Social Security expenses Source: Social Insurance Institute Statistical Book, 2018. Table 3: Average Pensions by Type of Pension (ALL) 2014 2015 2016 2017 2018 Urban pension amount Old-age pensions 14,518 14,585 14,873 15,527 15,875 Disability pensions 12,593 12,648 12,803 13,390 13,817 Survivors pensions 6,765 6,696 6,613 6,707 6,897 Rural pension amount Old-age pensions 7,825 8,330 8,556 8,808 8,792 Disability pensions 6,113 6,501 6,595 6,451 6,630 Survivors pensions 3,252 3,240 2,830 2,478 2,312 Source: Social Insurance Institute Statistical Book, 2018. The average pension amount (in Albanian leks) has increased slightly over the years. However, when comparing average pensions with average contributory income, the replacement rate for urban old-age pensions has decreased from 43.2 percent in 2015 to 41 percent in 2018 in gross terms. 4 Figure 2: Average Gross Replacement Rate for Urban Old-age Pensions in Albania 43.5 43 42.5 42 41.5 41 40.5 40 39.5 2015 2016 2017 2018 Source: Social Insurance Institute Statistical Book, 2018. 2. International comparison Pension expenditure in Albania is at the lower end of the spectrum compared with the European Union (EU) and other Western Balkan countries. However, it is noteworthy that its deficit costs the budget around 2.7 percent of GDP. Figure 3: Pension Expenditure as % of GDP Source: Eurostat, pension agencies in Western Balkans countries. In 2016, benefit generosity was at the middle of the spectrum compared with other countries in the region. However, the observed decline in replacement rates will need to be monitored over time to assess whether this fall represents a sustained trend. 5 Figure 4: Benefit Ratio (Average Pension to Average Gross Wages) Source: EU Aging Report 2018, Public pension agencies in Western Balkans countries. Albania presents one of the smallest support ratios (number of contributors per 100 beneficiaries) of all the countries in Europe. Despite recent reforms in 2015 to control the number of early pension beneficiaries, demographic trends keep pushing this ratio down. On the other hand, as coverage of the pension system has decreased since 1994, the number of pensioners is also likely to decrease due to the increase in informal work. As the post-1994 generations begin to retire, the number of contributors and pensioners are both likely to fall, with an undetermined effect on the support ratio. If the support ratio continues to deteriorate, the system's sustainability and ability to pay relevant pensions in the long run will be compromised. Figure 5: Support Ratio (Contributors per 100 Pensioners) Source: EU Aging Report 2018, Public pension agencies in Western Balkans countries. 6 Albania’s total contribution rate of 21.6 percent is close to the European average of 21 percent and higher than the Organisation of Economic Co-operation and Development (OECD) average of 18 percent. However, as observed, contributions levied are not enough to pay for the total amount of pension benefits given by the system. Figure 6: Social Security Contribution Rates (OECD and European Countries) Source: OECD, Pensions at a Glance, 2018, pension agencies in Western Balkans countries. 3. Recommendations and Future Work The 2015 pension reforms introduced went in the right direction of improving sustainability as well as providing a closer link between contributions and benefits (that is, strengthening incentives to contribute) and ensuring a basic floor of income support in old age with the introduction of a basic pension. It is important to monitor the evolution of key parameters such as pension expenditure, contributors and contributory income, replacement rates, and average retirement ages to keep track of the effects of the reforms. In addition, the demographic trend and slight decline in replacement rates observed recently suggest the need to explore complementary sources of retirement income for low- to middle-income individuals. While low-income individuals may be protected by the basic pension and minimum pension, those toward the middle of the income distribution may lack additional sources of retirement income. If the benefit ratio deteriorates (currently meeting the International Labour Organization [ILO] criteria of 40 percent of wages after 30 years of contribution), complementary low-cost savings-based retirement schemes may be explored to provide further income support in old age. Given the recent reforms and the continuous evolution of economic and demographic factors, long- term financial and demographic projections of the system are needed to understand the long-term implications of the reforms and to provide a solid basis to assess policy recommendations and their long-term impacts on the system. In addition, room for work on specific aspects of the pension system, such as special regimes and coverage of rural pension, remains. International experience 7 can serve as a useful benchmark to analyze options to continue strengthening the system in Albania, improving its sustainability, coverage and equity. The World Bank can support the monitoring of key indicators in the pension system and analyze reforms in specific areas of the system through its regional ASA on pensions in the Western Balkans. 8