US embassy cable - 03ROME2474

UNCLAS  ROME 002474 
 
SIPDIS 
 
 
DOL FOR ILAB/BRUMFIELD 
DEPARTMENT FOR DRL/IL AND EUR/WE 
 
E.O. 12958:  N/A 
TAGS: ELAB, ECON, PGOV, IT 
SUBJECT:  PENSION REFORM:  NERO'S ORCHESTRA PRACTICING FOR 
UPCOMING PERFORMANCE 
 
REF: ROME 1899 
 
SUMMARY 
------- 
1.  Like many of its European partners, the Berlusconi 
government is struggling to reform Italy's generous pension 
system and control anticipated runaway growth in pension 
expenditures in the coming years.  At this stage, it's not 
at all clear the government will succeed.  There's 
widespread agreement that the current system, if not yet 
broken, will break down shortly.  But every self-styled 
mechanic has a different solution, one that reflects, 
naturally, its own priorities.  The competing interests, 
both across society and within the Berlusconi government's 
coalition, have marched steadily toward confrontation.  The 
unknown variable, at this point, is Berlusconi, who has 
espoused a variety of views on both the content and timing 
of concluding a reform package wending its way through 
parliament.  His real position on the issue, one that 
truncated his first stint as prime minister, will determine 
whether the current reform package comes to fruition or goes 
up in smoke.  END SUMMARY. 
 
FROM ECONOMIC MILLSTONE... 
-------------------------- 
 
2. Italy's pension system suffers from the same structural 
problems plaguing those in many other advanced industrial 
European economies: an overly generous defined-benefit 
scheme that is not sustainable with the country's aging 
population.  Too few workers are paying for too many 
retirees; those pensioners are living longer than ever and, 
consequently, taking far more out of the pension system than 
they ever put into it.  The current system, which allows 
many Italians to retire as early as age 57 on as much as 75 
percent of their high salary range, sucks up 13.9 percent of 
GDP (second only to Austria).  Absent substantial reforms 
that delay eligibility, reduce benefits or both, the pension 
millstone will grow to 16 percent of GDP in 2033.  It's no 
wonder the subject is enough to send most politicos and 
government budget officials running for the hills. 
 
3. In 1995, then-Prime Minister Dini completed the first 
substantial reforms to the system, launching a gradual shift 
from a defined-benefit to defined-contribution scheme, 
raising the retirement age for many to 65 and creating a 
"second pillar" in the pension system, private pension 
funds.  These important structural changes yielded over 28 
billion euros in savings from 1996-2000, saving the public 
system from insolvency.  But the real pain necessary for 
long-term sustainability -- reduced pensions (and the 
attendant popular outcry) -- was deferred until 2005, when 
the formulae/coefficients used to calculate annuities may 
first be "reevaluated" (i.e., lowered).  Moreover, Italy's 
undercapitalized securities markets, dominated by a small 
coterie of companies, have generated neither the returns nor 
the stability and confidence required to attract workers' 
retirement savings.  Less than ten percent of eligible 
workers have money invested in the 44 collective private 
pension funds established through labor-management 
negotiations. 
 
...TO ELECTORAL CORNERSTONE 
--------------------------- 
 
4. Prime Minister Berlusconi made pension reform a 
cornerstone of his 2001 electoral "contract with Italy" to 
revitalize the economy, improve government services and, in 
general, make Italy more competitive.  Two years later, the 
government has shown little progress on this piece of the 
economic reform puzzle.  Despite a substantial parliamentary 
majority, reform legislation languished in committee until 
late February, when a modest package cleared the lower 
Chamber of Deputies.  That slow pace reflected both the 
explosive nature of the issue and the lack of consensus, 
either within the government or between the government, 
employers and unions -- over the best package of reform 
measures.  Italy's three major union confederations agree on 
little else these days, but they have forged a common 
position on pension reform.  Labor ministry officials have 
told us that it also reflected a tactical decision to await 
help from Brussels, in the form of EU recommendations on 
further reducing Italy's public debt and revamping the 
pension system, that it could use in developing a consensus. 
 
INTERIM SOLUTION DRAWS MIXED REVIEWS 
------------------------------------ 
 
 
5. In the meantime, the government is pursuing a two-pronged 
interim solution: energizing private pension funds by 
injecting additional capital, and improving incentives for 
employees to defer retirement and reducing their pension 
contributions.  Though many judged the reform proposal that 
passed the Chamber in late February surprisingly modest, its 
provisions bundled measures to accomplish these objectives 
with sweeteners to secure the acceptance of employers, who 
are most concerned with excessively high overall labor 
costs.  The legislation: 
 
-- abolishes mandatory retirement at 65; 
 
-- creates additional incentives for employees to continue 
working past 65, primarily by reducing their payroll tax 
rate for social security (and thereby raising their take- 
home wages) and maintaining provisions of the standard labor 
contract as well; 
 
-- provides employers additional incentives to hire new 
workers, lowering employers' contribution to public pension 
funds for new young workers by up to 5 percent; 
 
-- requires employers to transfer severance pay (which they 
currently hold in escrow pending employee's departure) to 
private pension funds. 
 
Implied but unspoken in the legislation is the government's 
intended second step: an actual reduction of public 
pensions, perhaps either via adjustment of the annuity 
coefficients during the 2005 review required under the Dini 
reform package or pro-rata extension of the defined- 
contribution scheme to all workers.  Some analysts believe 
the Berlusconi government thinks it will be able to weather 
public opposition to reduced benefits under the new defined- 
benefit scheme if it has succeeded in creating an 
alternative private system to provide additional retirement 
income to offset the loss of public pension money. 
 
6. Not surprisingly, both employers and unions found plenty 
objectionable in the draft legislation.  Employers are 
unenthused by the prospect of relinquishing management of 
the severance pay, which has provided a handy working 
capital fund for many companies (since they must set aside 
severance for all employees but only pay out a small portion 
to those employees who depart in a given year). 
Confindustria, the largest employers' association, was 
unhappy with the proposal but ultimately accepted it because 
it was accompanied by reductions in employers' overall labor 
costs.  But the organization continues to call for more 
radical reform, including use of disincentives (reduced 
annuities) to discourage workers from retiring early. 
 
LABOR'S SUPPORT FOR DIFFERENT PLAN 
---------------------------------- 
 
7. Labor, meanwhile, has a radically different set of 
priorities and proposed solutions.  The unions agree that 
excessively high labor costs are stifling business growth 
and, to varying degrees, support long-term structural 
changes to the public pension system.  But with roughly half 
their collective membership drawn from the ranks of retired 
workers, the unions strongly oppose any short-term 
reductions in pensions -- or any structural changes that 
might make future reductions (say, when the annuity 
coefficients are reevaluated in 2005) easier.  After months 
of independent action, the three confederations hammered out 
a joint position in March that: 
 
--  opposes a mandatory shift of severance pay; instead, 
workers would retain the choice but be encouraged to shift 
their severance to the private funds through tax breaks; 
 
-- proposes additional incentives to funnel severance pay 
into "closed" pension funds, established on a sectoral or 
company basis and managed jointly by employers and unions; 
 
-- opposes reductions in employer contributions to public 
pensions; 
 
-- suggests reducing employers' labor costs by reducing 
contributions to other social programs, such as maternity 
leave, instead of to the pension system. 
 
POSSIBLE JUNE CONFRONTATION 
--------------------------- 
 
 
8. For all of the maneuvering, there is still no clear 
impetus, or reason, for early resolution.  Berlusconi has 
blown hot and cold, spending much of the spring underscoring 
the imperative of rapid agreement of the package, then 
announcing May 22 that pension reform was a "European 
problem" whose repair should await Italy's EU presidency 
tenure.  The main force for early agreement appears to be 
Labor Minister Maroni (one of three ministers from the 
idiosyncratic, regionally-focused Northern League), who 
spent much of the last month in serial sessions with both 
employers and unions.  Maroni had sought to reassure labor 
and coax some flexibility from it by suggesting that one 
possible fix -- disincentives for early retirement, in the 
form of reduced annuities -- was off the table.  In early 
May, though, PM Berlusconi showed one of his cards in 
declaring his support for disincentives, comments that were 
echoed by Deputy Prime Minister Fini (head of the second 
largest coalition partner, National Alliance) and 
Confindustria head D'Amato.  D'Amato is the other force 
driving for early resolution, urging the government to 
conclude the reform package before parliament is embroiled 
in its annual budget battles. 
 
9. In response, Maroni sought, and secured, Berlusconi's 
agreement to a cabinet meeting to reaffirm a unified 
government position on the draft legislation -- and 
reiterated his position that the final package would not 
include disincentives.  In the run-up to the cabinet 
meeting, the unions are holding firm to their position, 
promising coordinated general strikes in late June if the 
legislation is not modified to reflect their position. 
 
WHICH LEAVES US...HANGING 
------------------------- 
 
10. Whichever metaphor one prefers, it's not at all clear 
how this will play out.  Despite near-universal agreement 
that the pension system needs fixing, the substantial 
differences among the various self-styled mechanics makes a 
compromise difficult.  Maroni continues to insist that a 
workable compromise is achievable, but one wonders if he's 
trying to convince himself as much as the wider audience. 
How the battle over the reform legislation plays out will go 
a long way to determining how much stomach the government 
has to tackle the heart of meaningful pension reform  -- 
reduced public annuities-- that looms toward the end of its 
expected term in office. 
SEMBLER 
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	2003ROME02474 - Classification: UNCLASSIFIED