Europe Economy

Why Greece's pensions are key to the debt deadlock

Greece's pension system has become a major sticking point in the bailout talks between the country's far-left government and its international creditors, with Athens offering little concession on Brussels demands for its overhaul.

The Greek government has pledged to stand firm against implementing further cuts to pensioners' income, but creditors insist that further austerity is probably necessary if Greece is to pay its bills.

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Talks have come down to the wire, with the Greek government and its European lenders yet to reach a compromise that would release the next tranche of 7.2 billion euros ($8.2 billion) in aid. The key sticking points include reform to the pensions' system and labor market.

Greece is due to pay a key debt instalment of 1.6 billion euros to the International Monetary Fund (IMF) at the end of June in order to avoid default.

Here we look at why pensions are so crucial to the debt talks and why Greece is so reluctant to back down.

A brief history

Greece has been criticized by its creditors for the huge amount of money it spends on pensions. Until the euro zone debt crisis hit, Greece offered one of the most generous benefit packages to retirees in Europe.

After 2010, measures were put in place by the Greek government that encouraged workers not to take early retirement, making retirement before the age of 60 very difficult. At the same time, the number of annual pension payments was reduced from 14 to 12, after the government eliminated "bonus payments".

The IMF praised the reforms at the time and while the "primary" or core pay-as-you-go system was overhauled, the "auxiliary" or secondary system made no changes.

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As it stands currently, Greece still spends more than any other country in the European Union on pensions as a proportion to GDP – with the country shelling out a whopping 17.5 percent according to Eurostat.

However this does not give us the full picture, as Greece has an aging population, with one of the highest "age dependency ratios" or the level of support given to younger and older citizens by the working age population.

The country's old-age dependency ratio is around 30 percent in Greece, one of the highest in Europe, according to Eurostat.

German Chancellor Angela Merkel and Greek Prime Minister Alexis Tsipras following talks at the Chancellery in Berlin March 23, 2015.
Hannibal Hanschke | Reuters

Poverty line

Unemployment in Greece is the worst in Europe, with over 25 percent of the population without a job, according to Eurostat. Youth unemployment is even worse, with over 50 percent of young people unemployed.

Eurostat figures show 73.5 percent of people who were unemployed in Greece in 2014 had been out of work for more than a year, compared with 67 percent in 2013.

This often means that the monthly state pension payment is the sole source of income for a family, rather than just a pensioner.

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"Two-thirds of pensioners have pensions below or close to the European poverty line," said sources close to the debt talks who asked to remain anonymous because of the sensitivity of the talks.

"It could also be noted that in Greece one pension often needs to serve a whole family, given our 27 percent unemployment rate and over 60 percent youth unemployment rate," they added.

Why are they so crucial?

The IMF has insisted that the Greek government cannot "offer truly credible measures" that will result in a deal without including a further set of adjustments to the pension system.

"Why insist on pensions? Pensions and wages account for about 75 percent of primary spending; the other 25 percent have already been cut to the bone," IMF chief economist Olivier Blanchard said in a blog post on Sunday.

"Pension expenditures account for over 16 percent of GDP, and transfers from the budget to the pension system are close to 10 percent of GDP

"We believe a reduction of pension expenditures of 1 percent of GDP (out of 16 percent) is needed, and that it can be done while protecting the poorest pensioners. We are open to alternative ways for designing both the VAT and the pension reforms, but these alternatives have to add up and deliver the required fiscal adjustment," he added.

Meanwhile, sources close to the debt talks said the 1 percent of GDP cuts were an "extraordinary demand for a country in which pensions have been slashed over the last 5 years".

Greece has suggested its European creditors should instead focus on "tax evasion, the power of the elites and the failings of the Greek public administration" rather than deeper cuts to pensions and real wages after six years of recession.