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Monday, October 23, 2006

Accounting For The Costs of Ageing

One of the big underlying issues in the debate over the 2007 budget and the associated problem of the sustainability of public finances in Italy is the question of pending liabilities in pensions, health care and the social security system. Earlier this week we had some discussion on this topic. Paris also provided a couple of useful links giving details of the current pensions state of play (and here, hat-tip to FxTalks. In the coming days we will try and do something more systematic about the Italian pensions system, since I entirely agree with Paris that the pensions system (and the various other related issues) form a big part of the 'Italian question'.

For today I am simply putting up a post I just wrote for the Demography Matters blog, about a new set of accounting proposals for how to classify incurred liabilities, which are due to appear in the US today. Now the US may seem to be a very, very long way from Italy, but I think the proposals are interesting, and valid for the reasons I explain below. I also think that the OECD objections are predicatable, but nothing like so valid. The issue is: do electors have a right to know what is in store for them? Of course the problem is seen as being that 'you can't tell the people outright what is going to happen', you need to use the euphemism 'reform process' and you also need to keep changing the target as you move. But this, as we can see, is the approach that just isn't working, since electors are merely lulled into complacency by this, with the reforms being normally too few and too late. So maybe facing up to the truth is what we really need to do, since maybe this way, and only just maybe, we could avoid a disastrous default in some obscure country or other. Nothing in life is ever 100% definitely inevitable, except death of course, and even that finality can be postponed considerably, depending on just how you live.

Accounting For The Costs of Ageing

This article which appears in todays FT seems to me to raise issues which are extremely important, indeed it gets to the heart of the matter:

A radical new approach to government accounting that would require the US administration to account for the cost of future social security payments year by year as people build up entitlements will be proposed on Monday.

The proposal by the federal accounting standards advisory board (FASAB) – which would also require the government to account for benefits accrued under Medicare and other social insurance programmes in the same way – is unprecedented internationally. It would radically change the presentation of US government finances, in effect bringing forward the cost of rapidly increasing social security and Medicare obligations and greatly increasing the reported fiscal deficit.


As the FT notes the proposal is unprecedented internationally, but is exactly what is needed. Assessing sustainability in public finances involves having relatively accurate knowledge of two things: accumulated liabilities, and future rates of economic growth. The 'unprecedented' component in the FASB proposals would go a long way towards improving the situation vis-a-vis the first item, the second one, of course, still needs a lot of thought and work.

The FT has obtained a copy of the FASAB preliminary views paper which will be released on Monday. In it, the independent board majority argues that “for social insurance programmes an expense is incurred and a liability arises when participants substantially meet eligibility requirements during their working lives”.

By contrast, the government representatives argue that the liability arises only when the benefit amount is “due and payable” as under current accounting rules.

The majority independent directors want the government to start providing for the future cost of social security and other benefits when workers become fully insured after 10 years in covered employment.

They say the current arrangement is “flawed” because it “fails?.?.?.?to recognise the accruing cost of social insurance programmes in each reporting period”.

Adopting the proposed new rule would bring the government more into line with the private sector, an approach that has considerable support within a section of the Republican party and may in this instance be of interest to Democrats too.

However, it would break with international public accounting practice, which essentially treats social insurance offered by sovereign governments as a political commitment to pay future benefits rather than a financial liability.

The Organisation for Economic Co-operation and Development has written to the FASAB saying it is “very concerned” about the proposed rule change.

The letter, signed by Barry Anderson, head of the OECD’s budgeting and public expenditures division, says that “classifying these transactions the same as private sector liabilities is wrong” and could confuse the public.

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