Poland Still Lobbying EU on Open Pension Fund

UNCLAS WARSAW 001057

SIPDIS


Sensitive

STATE FOR EUR/NCE TARA ERATH AND MICHAEL SESSUMS
USDOC FOR 4232/ITA/MAC/EUR/JBURGESS AND MWILSON
TREASURY FOR OASIA MATTHEW GAERTNER
FRANKFURT FOR TREASURY JIM WALLAR

E.O. 12958: N/A
TAGS: EFIN ECON PREL PL EUN
SUBJECT: Poland Still Lobbying EU on Open Pension Fund
Classification as Part of its Convergence Strategy

Ref: (A) 2004 Warsaw 3901 (B) 2004 Warsaw 2780

(U) This cable is sensitive, but unclassified, and NOT for
Internet distribution.


1. (SBU) Summary: Poland is concerned that it will not be
able to meet the 2007 target date agreed with the EU for
meeting the Maastricht criteria on the road to adopting the
Euro if the EU does not change the way it counts pension
fund assets. In 2004, the EU's statistical agency,
Eurostat, decided that individual accounts under Open
Pension Funds had to be excluded from the calculation of
government deficits. In 1999, Poland enacted landmark
pension reform which allows the creation of IRA's under
Social Security, similar to reforms currently being
considered in the United States. These funds are currently
generating a significant surplus which Poland wants to be
included in the deficit calculation, which would help it
meet Maastricht criteria. This is not an idle statistical
debate. Excluding the revenue surplus currently generated
by Polish pension funds would increase Poland's projected
deficit-GDP ratio from 2.2% to 3.9% in 2007. Poland is
concerned that the EU definition would force it to make
drastic cuts in spending at a time when it plans heavy EU-
related expenditures. Should Poland persuade the EU to
change its definition, it would facilitate pension reforms
in other EU countries. End Summary.


2. (U) On February 15, Ministry of Finance U/S Grzegorz
Stanislawski told Econoffs that Poland continues to lobby
the EU hard on the issue of how to classify Open Pension
Funds (OFE in Polish). Stanislawski explained that Poland
is proud of its groundbreaking pension reform, introduced in
1999, which set up a smooth transition for existing workers
towards a system which would be able to finance pension
benefits without busting the government's budget. Under the
reform, the government authorized the creation of individual
retirement accounts (IRA's) for the first time. It also
created a system under which, over time, all workers will
direct a portion of their mandatory pension deductions from
their salary to IRA's. The reform set out a transition
period, dividing workers into three categories. Those born
before 1948 remained under the old pay-as-you-go (PAYG)
system. Those born between 1949 and 1968 had a choice of
either remaining with the old PAYG system, or opting for the
new system under which they can direct a portion of their
deductions to an IRA (similar to reforms currently under
consideration in the United States). Those born after 1968
must participate in the new system.

How it Works:
- - - - - - - -


3. (U) Wages in Poland are subject to almost 39% in
deductions, one of Europe's highest totals. The pension
component (19.52% of gross salary) is financed jointly by
employees and employers (each paying 9.76%). The full amount
of contributions from Poles under the PAYG system goes to
the Social Insurance Office (ZUS),which transfers the money
to the budget. For those under the new system, ZUS sends
12.22% of the combined employee and employer contributions
to the budget, and 7.3% to an IRA in a pension fund as
directed by the individual.

What's in Dispute?
- - - - - - - - - - -


4. (U) Poland is concerned because only a few EU members
have enacted pension reform (along with Sweden). Because
most EU countries remain in the pay-as-you-go system,
Eurostat did not issue guidance until 2004 on how to
classify these funds. In 2004, Eurostat ruled that Poland
(and other EU members) must exclude OFE's from the
government sector because the government does not guarantee
their returns.


5. (U) The only portion of this system under dispute with
Eurostat is how to account for the 7.3% contributions to
IRA's under the new system. Currently, these contributions
are generating a significant surplus, as pension funds will
not begin paying benefits until 2010. Meanwhile, they are
taking in close to one billion Zloty a month ($330 million),
which they are investing in government and local bonds and
in the stock market. The Ministry of Finance expects that


the current surplus should gradually dissipate as the funds
under the new system begin to pay benefits after 2010. As
the surpluses diminish, Finance expects the issue will
become less sensitive with Eurostat. In the meantime,
Eurostat argues that these surpluses should not be included
in calculating deficit ratios, while Poland argues that they
should.


6. (SBU) This is not just an idle statistical debate, but a
critical issue in determining when Poland will meet the
Maastricht Criteria to adopt the Euro. Poland forecasts
that its deficit to GDP ratio will be 2.2% in 2007 if OFE's
are included, and 3.9% if they are excluded. Excluding
OFE's will increase the projected public debt to GDP ratio
from 45.4% to 51.9% in 2007. Excluding them will require
the GOP to come up with much more drastic public spending
cuts to meet the 3% deficit limit, and will likely delay
Poland's entry into the ERM II by at least a year, in
MinFin's estimation.

Tactics:
- - - -


7. (SBU) Poland regards the 2004 Eurostat decision as the
opening of discussions within the EU, setting out the
framework for debate. In September, Eurostat published a
paper outlining some of the statistical issues at stake. In
that paper, it recognized that some countries, like Poland
and Sweden, had invested considerable resources in pension
reform several years earlier. As a result, it granted
Poland a transition period until 2007, through which time
OFE revenue will be included in the deficit calculation.
Poland is concerned about what happens afterwards.


8. (SBU) Poland is hoping that the EcoFin council will make
a final decision on this difficult issue at its March
meeting. Finance believes that the UK and Sweden already
support Poland's position, and that a number of countries
contemplating pension reforms, including Italy and Germany,
are increasingly sympathetic. Stanislawski understands some
finance ministers are concerned that accepting Poland's
argument would open the door to a range of subsidies.
Stanislawski said Poland understands those concerns, and
opposes loosening fiscal discipline as well. Poland
disputes the notion that this is a subsidy for the pension
system. Should the EU insist on excluding OFE's,
Stanislawski said this would be tantamount to insisting
Poland renationalize its pension funds, which would
significantly weaken the stability of Poland's budgets over
the longer term. If the EU refuses to budge, Poland will
request a further derogation until the end of 2009, to match
the period when OFE's will begin to pay pensions.

Convergence Issues:
- - - - - - - - - -


9. (SBU) Stanislawski said there has been considerable
discussion about possible changes to the Stability and
Growth Pact within EcoFin, including increasing the deficit-
GDP ratio to 3.25% or 3.5%. The GOP will stand by its
target of 3% or less by 2007, as outlined in its convergence
plan. In its latest assessment, the EU moderated its
criticism of Poland, although it expressed concern that the
planned savings under the Hausner plan looked doubtful (ref
b),and questioned whether Poland would meet its GDP growth
projections over the next three years (5%, 4.8% and 5.6%).

Comment:
- - - - - - -


10. (SBU) Poland implemented landmark pension reform at
considerable political cost in 1999 to deal with a
demographic shift which will see ever more retirees and
fewer workers over the next decades. The Polish Government
correctly forecast that future governments would not be able
to increase payroll taxes beyond their already high levels
to sustain a pay-as-you-go system. Poland has been very
pleased with the results of this reform, which have allowed
pension funds to develop as major sources of domestic
investment. The GOP would be very upset if the EU would
effectively penalize them by excluding OFE assets from
deficit calculations. One of the most important effects of
the pension reform was to reduce a major threat to the long-
term stability of the Polish budget. It would be ironic


indeed if the EU forced Poland back into a less fiscally
sustainable position to accommodate the EU's narrow
definitions under the Stability and Growth Pact. We expect
Poland will continue to push this issue over the next month
with other EU officials. Should Poland prevail, it will
improve prospects for pension reforms in other EU members.

Munter


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2005WARSAW01057 - Classification: UNCLASSIFIED