COLOMBIA GOES BACK TO THE DRAWING BOARD ON PENSION

UNCLAS SECTION 01 OF 03 BOGOTA 002912

SIPDIS

SENSITIVE

E.O. 12958: N/A
TAGS: ECON EFIN ELAB PGOV CO
SUBJECT: COLOMBIA GOES BACK TO THE DRAWING BOARD ON PENSION
REFORM

Sensitive but Unclassified -- please protect accordingly

SUMMARY

1. (SBU) Faced with the impending default of the Public
Pension Fund (managed by the Institute for Social Security),
the GOC is once again attempting to overhaul its public
pension system. This marks the Uribe administration's third
attempt to fix the problem, after the 2002 pension reform was
gutted in the Congress and the referendum's attempt to push
through reforms failed in October 2003. The GOC cannot
afford its current public system, which covers only 20
percent of all workers and is an odd mix of special regimes
educators, petroleum and military) that give the top five
percent benefits 180 times greater than the basic levels.
Central government pension spending has quadrupled over the
past decade and now accounts for about 3.4 percent of GDP.
Moreover, pension debt is the second largest contributing
factor to the GOC's chronic financial deficits (just behind
fiscal transfers to regional and local governments). As a
result of the funding imbalance of the public pension system,
the GOC's total indebtedness is expected to rise from
slightly over 50 percent to almost 60 percent of GDP by 2010
unless serious reforms are enacted. President Uribe has
formed a multi-sectoral group that includes businessmen,
labor leaders, members of Congress and civil society leaders
to develop a comprehensive reform package that he hopes to
have approved by the Congress this year. While many
recognize the dire pension situation, the necessary reforms
are unlikely to be politically viable. End Summary

THE CURRENT SITUATION


2. (SBU) Over the past decade, pension spending has
drained the budget. The Ministry of Finance and Public
Credit reports that 16 percent of the total central
government budget and 22 percent of the operational budget is
destined to pay pensions. Despite such heavy spending, the
public social security system will run out of reserves in

2004. The National Financial Association (ANIF) projects that
as a result public debt as a percentage of GDP will grow from
52.7 percent last year to 59.6 percent by 2010.


3. (SBU) The current system evolved from 1993 reforms
modeled after the pension system in Chile. It is a
two-pillar system where employees can choose to join a
private, defined contribution plan, or join the state social
security plan. Private pension plans are well-funded, with
over USD 8 billion currently invested in the system. The
public system, however, has run out of funding. Unlike other
countries that adopted such systems, Colombia's system had
neither a clear transition mechanism that would induce
workers to transfer to a private system nor a final-end date
for participation in the public system. Worse yet, lucrative
special pension regimes were maintained, making it more
beneficial for individuals to remain in these public regimes
rather than opting for private systems. As a result, a decade
after the initial 1993 reform, the public system still covers
50 percent of the insured.


4. (SBU) In late 2002, the Colombian Congress approved a
pension reform plan that will increase the contribution rate
to 15.5% in 2006 and will also gradually increase the minimum
required for coverage from 500 to 1300 weeks. A critical
reform, the elimination of the special pension regimes, was
taken out of the 2002 reforms by the Congress and also failed
to pass in the October 2003 referendum. These regimes
account for approximately 50 percent of the benefits in the
public pension system and allow some workers to contribute
for less than a year to receive a pension at 55 (50 for
women) that is 90 percent of their highest salary. Other
reforms required would eliminate the Mesada 14 (an additional
allotment given to pensioners as a way to secure their
savings against inflation, which prior to the late nineties
averaged 20 percent per year) and standardize the minimum
benefit at a level below the minimum monthly wage of
approximately USD 1500 a year (which represents the current
floor for pension benefits). In addition a major element of
the proposed reforms would have been to remove the tax exempt
status of pension beneficiaries. Had the full reforms sought
in the 2002 draft law or in the 2004 referendum vote been
approved, the pension system would have significantly moved
toward long-term balance. In addition, such reforms would
have made the private pension plans, which are adequately
funded, more attractive, thereby reducing the number of
individuals in the public system. Instead, the GOC will give
the Social Security Institute 713 Billion pesos to cover the
second half of 2004.

CURRENT REFORM PLANS


5. (SBU) Vice Minister of Social Protection, Jairo Nunez,
told econoff that the Presidentially-mandated commission to
reform the pension system has agreed on four main areas for
action. First, the public and private sector agree that
Mesada 14 is an exceptional drain. President Uribe disagrees
because he understands it is an important political issue and
has stated that it can not be completely cut. Second, there
is universal agreement that special regimes, especially for
some government workers and oil workers, must be cut. The
government has said that special regimes for the military
will continue, though there are some that believe that these
benefits should be reduced. Third, discussions concerning a
reduction in the minimum pension will be politically
difficult, yet the savings to the system are critical.
Finally, there are many workers under special contracts that
receive benefits not contained in the basic system, which the
commission believes should be cut.


6. (SBU) These excessive benefits are bankrupting the
system. For example, 16 percent of pension costs go just to
pay Mesada 14, and 60 percent of public-sector pensioners
receive the minimum pension which is the same as their last
monthly, working wage. Minister of Social Protection Diego
Palacio believes that fully reforming the system could reduce
the fiscal deficit by about USD 700 million in the short run
while also stabilizing the system for 20 to 25 years.
According to Minister Palacio, eliminating the Mesada would
save the GOC USD 19 million in the first year while minimum
salary reforms could save USD 46 million.


7. (SBU) Minister of Finance Carrasquilla, while
announcing the goals of the multi-sectoral commission, urged
the public to understand the fiscal importance of these
reforms. Minister Palacio echoed this and cast the issue as a
rational decision for the Congress -- either reform the
system or let the government go bankrupt. The administration
hopes such arguments, and close cooperation with Congressmen
on the multi-sectoral commission, will allow the reforms to
go through Congress quickly. Some reforms, such as lowering
the minimum level of pensions and taxing pensions, require
constitutional amendment which require eight separate votes
over two different Congresses. If successful in the
March-June congressional session (majority vote by quorum of
legislators),the bill would also have to pass by a qualified
majority (majority of total members) in the July-December
session. According to many observers, the most costly (both
politically and fiscally) of the reforms, the elimination of
Mesada 14 and, most especially the establishment of a minimum
pension, will not pass. Vice Minister Nunez suggested that
the next step would be to tax Mesada 14 at such a high rate
that it is virtually eliminated (but President Uribe opposes
this). In addition, the commission is considering a scaled
system where lower pensions would receive a full month's
wages and those with higher pensions would receive a lower
percentage of their final salary.

COMMENT


8. (SBU) Only 20 percent of the population is covered
under the current pension system, yet public pensions cost
about 3.4 percent of GDP. This number will grow to 6 percent
in 2010, in effect consuming all new revenues projected from
the 2002/2003 tax reforms. Opinions within government as to
the possibility of pension reform are split. An official at
the central bank noted that he is not optimistic about
passage of any pension reforms while a senior official at the
Ministry of Finance noted that pension reforms will face a
hard fight, but that they will pass. On March 15,
legislators within the multi-sectoral commission formed by
President Uribe announced its intention to support
legislative reforms which would eliminate special pension
regimes and Mesada 14 benefits for new retirees while
maintaining them for existing pensioners. Other issues, such
as reducing the minimum pension level and taxing pensions,
were put on the back burner. Despite government assurances
to the contrary, political difficulties will prevent a
definitive solution to the problem. At best the politically
acceptable reforms are likely to delay the pension system
reckoning day. END COMMENT.
DRUCKER