How much are benefits worth later?: Many Germans make an expensive mistake when planning their pension
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Most employees overestimate or underestimate how much their pension will be worth in old age. Anyone who knows these four facts will know how much they can afford in retirement. We can already tell you: the answer is easy on the nerves.
For many employees, the pension information raises more questions than it answers. The annual letter from the pension insurance company lists the current pension entitlement and the expected entitlement if employees continue to earn as they have in the past five years.
However, this value does not correspond to the value in retirement: pension increases increase it, but inflation reduces its purchasing power. So how much purchasing power remains in old age? More or less than today? Many employees shrug their shoulders in perplexity.
Anyone who believes that their pension will become worthless or explode into a luxury pension is mistaken. Four facts explain how much you can afford in retirement:
1. Pensions and inflation often rise with a time delay. That’s why we misjudge ourselves.
Anyone who believes that their pension is constantly losing or gaining in value is usually succumbing to the spirit of the times: since 1995, more than three decades ago, pensions in Germany have usually risen either significantly more or less than inflation.
Between 2000 and 2011, inflation rose faster than pensions. Retirees were able to buy less with their salaries. From 2012 to 2015, pensions and inflation developed in lockstep. From 2016 to 2020, pensions rose significantly faster than inflation. In 2020, retirees were able to buy just as much with their pensions as they had 20 years before.
These fluctuations distort our view of pensions: those who retired in 2000 felt their purchasing power dwindle. Those who retired in 2016 were happy about more and more consumption options. These impressions remain snapshots. In the long term they balance each other out.
Conclusion: The first step to a realistic pension assessment is: pay attention to long periods of time.
2. Pensions rose more sharply in the East than in the West – but only so far
In the new federal states, pensions have almost doubled since 1995. In the West they rose by almost two thirds. Retirees from the East gained significantly more purchasing power. Their peers in the West lost this somewhat.
In the future, pensions should develop uniformly across the country. This is unlikely to change much for western retirees: more than five times as many people live in the west of the republic as in the east. Pension increases affect many more people in the West. The federal government cannot afford to pass on the Eastern pension increases to everyone in the future.
Conclusion: Anyone who has become accustomed to steadily growing retirement purchasing power in the new federal states will have to adjust: in the future, their salaries are likely to grow in line with inflation.
3. Inflation and pension increases largely balance each other out
Since 1995, the national average pension has never lost or gained much in value. Fluctuations were usually in the range of less than a tenth.
If you take into account inflation and increases, the purchasing power of the pension has hardly changed over the past 30 years. In the East, where pensions rose more strongly, people can buy a little more with their pension than in 1995, and a little less in the West.
In the future, pensions in the East and West will rise in step. The weighted average of the past few years shows how this affects the expectations of prospective retirees. Because of the unequal population numbers, this takes western increases into account more than eastern increases. The result shows how the pension would have developed if the federal government had distributed previous increases evenly.
The realistic average value has hardly changed: the purchasing power of pensions for Germany as a whole in 2023 was two percent below the value in 1995. During this period, pension purchasing power was always close to the initial value of 100 percent. Changes remained small.
Conclusion: Inflation and pension increases largely balance each other out over a long period of time. If your pension continues to develop as before, you will be able to use your pension to buy approximately as much in retirement as the value of your pension information suggests at current prices. If your pension is enough for two visits to a restaurant a week today, it will probably stay that way in the future.
4. The future does not have to be the same as the past
The pension development of the past does not have to be the same as the future. But there is much to suggest that it does: According to the German pension insurance, the purchasing power of pensions is likely to remain largely the same until 2028. Higher incomes and a contribution increase of 0.1 percentage points are intended to compensate for the increasing number of retirees.
The federal government is also planning reforms to maintain pension levels rather than reduce them: share pensions and more additional income opportunities are intended to reduce costs, and the abolition of pensions at 63, as demanded by the FDP, will reduce the number of pensioners. In addition, the legislature guarantees pensioners a pension level of at least 48 percent of a standard pension. The standard pension corresponds to the pension that an average earner receives after 45 years of contributions.
It is true that forecasts predict enormous cost increases for the German pension system due to the baby boomers soon retiring. However, as in previous years, the same development is increasing the proportion of pensioners in the electorate. At the same time, all contributors are concerned about the level of their expected pension. Tens of millions of Germans are hoping for increasing salaries. A federal government that imposes cuts on this huge group must plan to vote them out. That’s why future coalitions are likely to do everything they can to maintain pension levels.
Conclusion: The German pension system needs urgent reforms – like every pension system. Because society and the cross-section of the population change, after the reform there is always before the reform. So far, politicians have made the necessary adjustments.
Anyone planning their retirement should always plan for a buffer. However, it is very likely that the purchasing power of their salary will change less until retirement than most employees currently assume.
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