German Pension Insurance

The German equivalent of our Social Security System (it also includes pensions as well as retired health insurance) is called German Pension Insurance (Deutsche Rentenversicherung, here DRV; it is an entity, a public corporation). This system is based on the principle that those currently working, together with their employers, will pay the pensions of those who are retired. The DRV is therefore not an annuity system but described as a cross-generational exchange. You work now and pay for your parents/grandparents. When you are old enough, your children/grand-children pay for you. The system is based on annual income and expenditures. It is organized under law in such a manner that any shortfalls that occur between income and expenditures are covered by the German Federal Government.

Income is derived from contributions, earnings on short-term investments, fees, and miscellaneous sources not further defined. Expenditures are principally pension payments, pensioners’ health insurance (equivalent to our Medicare) and long term care insurance premiums paid out by DRV, and administrative costs.

In the 1991-2009 period, DRV’s income has amounted to 76.1 percent of its expenditures, thus requiring 23.9 percent in Federal funding. In the earlier 1960-1990 period, DRV did better. Its income was 80.8 percent of expenditures, the Federal portion 19.2 percent. The Germans view 1991 as a watershed. East Germany became part of Germany in that year. And the higher tax-based (versus contributions/earnings-based) support in the post-1990 period is due to the higher costs produced by unification. Herewith a chart, obtained from DRV-research here, but in German, showing the 1991-2009 period in highlights.

Note the very close relationship between income and outflow—and further that the total income less federal contribution is below total income throughout this period. This means that in Germany social security never has any surpluses. Our system has produced annual operating surpluses as far back as the eye can see. DRV is carefully managed so that annual contributions match, with a federal add-on (Zusatz is the German word), actual outflow. The structure of this program therefore is quite different from ours. We use the term “trust fund,” which is suggestive of invested resources generating an income; functionally, of course, we also pay all expenditures from annual contributions and miscellaneous earnings.

While it is a public corporation, not-for-profit, the DRV is entirely independent of the government and self-administering. What surpluses it generates it invests on its own account. By law, paragraph 217 of the German Social Law, these investments are required to be liquid and short term, maximally 12 month investments; they may, of course, be investments in stocks as well. The Federal contribution is based on a complex formula, also set out in law, therefore not an automatic payment of whatever short-fall may actually occur.

Let’s compare that system to ours using data from this Social Security Administration document, updated one year from other sources. The following graphic shows the same data for the same years on the OASI, the Old-Age and Survivors Insurance portion of Social Security. Social Security also has another portion, the DI, Disability Insurance. DI is smaller but equally solvent:

All income here is from contributions, hence no curves showing other Federal involvement. No additional tax revenues were, or had to be, used. The fund is in surplus. Indeed, the cumulative surplus for the program, in 1991 was $267.8 billion, in 2009 $2,336.8 billion. Our system is not based on an annual balancing act! It has a huge surplus, in 2009 more than four times the expenditure level in that year.

Our Social Security system has problems because it is conceived of as an annuity, a trust fund but does not actually operate as one. The surpluses shown just flow into the general tax base. They are not independently invested. As shown, for most of its history it has generated rather massive surpluses—whereas the German system, based on an annual focus, has not. It seems to me that social security reformers in this country might examine at least two alternatives—a system like Germany’s or a true trust fund approach where our Social Security Administration also becomes an independent, self-administered corporation with oversight by, say, the Department of Labor.

In actual fact, Social Security here is much better off, much more solvent, and today uses zero percent tax revenues. Yet here we wring our hands and have coniption fits over Social Security whereas in Germany, where contributions only cover only 75 percent of costs, they are happy as clams with their system. Go figure!

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