The economic principles of pension provision

To examine pensions Samuelson's overlapping-generations model is generally used: its basic workings are set out here for an open economy. Pay-as-you-go (PAYGO) pensions are attractive when the rate of population growth exceeds the real rate of interest; then all generations are better off for the existence of the pension. The only cost is the income tax distortion. Once the rate of growth falls below the real interest rate, only the cost is left and it is better for the state to'fund'its pensions. If the state borrows to finance the transition to a funded system, it substitutes explicit debt for unfunded liabilities, which leaves its balance sheet unchanged; this avoids the problem of the existing young generation'paying twice'for its pensions.