Child Allowance in Pension System Lightens Load on Families

The future viability of Germany’s state pension system is ensured by families with children. In the social security system, however, there is no special allowance for those with children, which means that working parents pay the same pension contributions as those without children. A study conducted by Mannheim’s Centre for European Economic Research (ZEW) on behalf of the Federal Ministry for Economic Affairs and Energy considered the consequences of introducing a child allowance of 7,248 euros per child in the state pension system. The study estimated the impact on the national budget, income distribution, and the labour market. It found that families with at least one member paying compulsory pension contributions and with allowable children would save on average 594 euros per year under the reform.

The maximum savings for families, however, would be greater still: a married couple with two children, for example, could gain up to 1,355 euros per year as a result of the reform.

Not all households would benefit from the reform, however. This may be because their income even after the deduction of the child allowance would remain above the contribution threshold, or because the earners in the household are self-employed or civil servants, or because there are no children in the household. For households receiving Arbeitslosengeld II (long-term unemployment benefits), the corresponding reduction of benefit payments would cancel out the effect of the child allowance, so that their income would remain constant. The average per year saving would therefore only be 90 euros per household.

On the whole, households in the lower and middle income brackets would benefit more from the reform than those with higher incomes. The result of the reform would be to reduce income inequality and the at-risk-of-poverty rate.

In addition, the reform would lead to revenue losses in the social security system. These would nonetheless be offset to some extent by an increase in income tax revenue and a reduction in expenditure on transfer payments. All told, the costs of the reform would run to 4.5 billion euros per year.

“All in all, it is a sensible reform proposal”

The ZEW study also simulated the possibility of financing the reform in a revenue neutral manner, either by raising the pension contribution level or the VAT rate. After adjusting for labour supply and demand, revenue neutral financing of the child allowance in the pension system would require the contribution level to be increased by 0.6 per cent. Alternatively, the reform could be financed by raising the VAT rate by 0.46 per cent. The former option would nonetheless have a more favourable impact on employment. Furthermore, it would not negatively affect families who do not pay compulsory pension contributions.

“All in all, this is a sensible proposal,” says Professor Andreas Peichl, head of ZEW’s Research Group “International Distribution and Redistribution” and co-author of the study. “The pay-as-you-go pension system is based on the idea that future generations will pay into it. It is therefore only fair that parents with children should receive greater support vis-à-vis their pension contributions than those without children.” The alternative of burdening childless adults with higher contributions or reducing their pension entitlements, he said, would hardly be politically viable.

For further information please contact:

Prof. Dr. Andreas Peichl, Phone: +49(0)621/1235-389, E-Mail peichl@zew.de