As populations age in the industrialized societies, national governments will face significant challenges in financing their public retirement schemes. Many of the financial pressures will arise from the inherent design of their pay-go pension systems. In Chapter 4, we showed that the financial condition of pay-go pension programs directly relates to the evolution of the old-age dependency ratio and the program's income replacement rate. In the developed nations today, these programs are largely financed through payroll taxes and pay a defined benefit. The demographic transition occurring in nearly all industrialized societies today will significantly inflate the percent of GDP and the tax revenues these programs consume.

On the health care side, the situation is very similar. In many societies, health care costs are rising considerably faster than GDP, and in some cases, will surpass rising public pension costs. Many health programs are also largely financed through payroll taxes and/or other general revenues of the government. However they are financed, the economic reality is that the productivity of current workers must support a rising tide of old age dependents.

In this chapter, we investigate how the structure of public and private pensions, medical and other non-employment programs has affected the industrialized economies. Many of these programs contain imbedded incentives that profoundly affect labor supply and its productivity, the accumulation of capital, and the balance of government budgets.