Indexing Public Pensions in Progress to Wages or Prices

Abstract

Initial public pensions are indexed to the economy-wide average wages, but
pensions in progress are indexed to prices, average wages or their combinations
– varying across countries and periods. We create a simple overlapping cohorts
framework to study the properties of indexing pensions in progress – emphasizing
a neglected issue: close wage paths should imply close benefit paths even at real
wage shocks. This robustness criterion of an equitable pension system is only
satisfied by wage indexing, which in turn requires the adjustment of the accrual
rate. To minimize the redistribution from low-earning short-lived citizens to
high-earning long-lived ones, progression should be introduced.