Generation contract – what is it?

Generation contract - what is it?

generation contract

Problems of pension insurance through solidarity

One of the most important foundations of German pension insurance is the generational contract, whereby each generation receives its pension from the pension insurance contributions of subsequent generations. We check whether this solidarity community is still justified.

The generation contract and its fundamentals

The pension insurance, as it has been understood in Germany since the introduction by Otto von Bismarck, is based on the commitment of younger generations to provide for the older generations in the family, if they can no longer earn their own income. This moral obligation existed before the introduction of pension insurance towards the end of the 19th century for many generations. Economic and demographic conditions at the time of the Law on Disability and Old Age Insurance of 1889 were such that this traditional family model no longer seemed timely.

Rather, employees eventually paid contributions to an insurance company with their employers, from which they would later receive their pension. Social and economic development already challenged this system in the 1950s. From these discussions and the reforms of the pension law went the generation contract for the system of solidarity pension insurance. However, this name implies a social agreement that all generations have agreed to. In fact, however, this is the basis of a legal regulation that reformed the traditional system of German pension insurance for the first time. The obligation to a solidary behavior of the generations among themselves, as in the generation contract was finally set, should ultimately serve to secure the pensions of all future generations.

Generational contract – historical development

The German pension insurance was not right from the beginning generation contract according to today’s interpretation, although this pay-as-you-go method corresponds to the historical development of intra-family care in the period prior to the introduction of the pension insurance. Until then, every family had to care for the older and frail generations. In current parlance, the concept of a generational contract is used in a very versatile way, and is not limited to the obligation of the younger generation over the older one. Rather, the term is used in the area of ​​education, budget or environmental policy in its reverse sense, according to which older generations are responsible for their successor generations.

Even if the designation as a contract may seem misleading, because a contract presupposes the agreement of the contracting parties involved, a social consensus is assumed. In pension insurance, every policyholder initially saved his pension assets during his working life. This system no longer seemed up-to-date with the social and economic development after the Second World War, so that the pension insurance in Germany was converted into a pay-as-you-go system, according to which the younger generations pay their contributions to the pensions of the older generations. Later, the name for the Solidarity Treaty generation contract on. Demographic developments in particular have led to doubts about the affordability of this pension system in recent years.

What solutions are there for social security?

The systems of pension insurance, in particular in the western industrialized nations differ in some cases significantly. The following systems are known

  • National pension,
  • generation contract,
  • Contributory pension.

In the Federal Republic of Germany in the year 1957 the generation contract introduced as the basis of the pension insurance. However, this regulation presupposes demographic conditions according to which the working generations generate contributions of sufficient amount to be able to finance the pensions of the older generations. However, the demographic development in Germany no longer meets these requirements, at least since the birth rate declines that have followed the previous high birth rates since the 1970s.

At the latest when the vintages start dating back to 1954, younger generations can no longer afford the foreseeable high pension payments for this high-birth-generation. Significantly more difficult is the realization of the PAYG procedure in the pension insurance in addition, by German reunification, which requires pension payments to be made for a large section of the population whose pension contributions are not adequately covered by the pension scheme. The tense situation on the labor market, which has been tense for many years, additionally leads to a reduction in contributions paid into statutory pension insurance. At the same time, pensions for a generation already have to be raised, some of which benefit from a generous range of pension insurance benefits and early retirement.

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Christina Cherry
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