Financing Pensions from Consumption Taxes

Overview & Synopsis

Public pension schemes that rely on payroll deductions have failed to achieve adequate coverage in low and middle-income countries, and population aging in many countries will outpace coverage expansion with serious social consequences. Policy responses must address the twin objectives of poverty alleviation and consumption smoothing. An integrated social pension financed with general revenues can reduce old age poverty while limiting the distortions caused by minimum pensions within contributory schemes. Consumption smoothing requires a new approach to replace wage-based contributions. Technological advances in tax administration that make individualized VAT payments possible facilitate a shift from wage to consumption-financed pensions (CFPs). Such a shift would automatically increase coverage and reduce reliance on increasingly problematic labor taxes.