When the governments pension reform bill was approved by the chamber of deputies in July, the daily newspaper Corriere della Sera ran a cartoon spoofing the reactions of centre-left politicians. Good news! Berlusconi has passed the pensions law, Francesco Rutelli, head of the Margherita said to Piero Fassino, the leader of the Democratici di Sinistra (DS). Why good news? asked Fassino, who was returning from a trip to the United States. Because its unpopular and it has split their coalition, Rutelli replied. And if they hadnt done it, we would have to when we come to power.

Pension reform was indeed one of the hot potatoes of Italian politics. No one wanted it, least of all the ever-populist premier, Silvio Berlusconi, whose first government was bumped off by a pensions crisis in 1994. But almost everyone agreed it had to happen.

Why was pension

reform necessary?

As in most western European countries, Italy is having trouble with its pension system for demographic reasons.

The first problem is that we are not dying quickly enough. Italy has one of the highest life-expectancy rates in the world. Thanks to general prosperity and scientific progress, Italian women live to an average age of 82.9 and men to 76.8, according to figures from ISTAT, the Italian statistics institute. This naturally means retired people are becoming a burden on the pension system for longer and longer.

Higher living standards and changes in social attitudes also mean that Italians are having fewer children and are having them later in life, which is driving down the birth rate. This is bad news because fewer young people are entering the labour market, which equals fewer contributions, which equals less cash for the pensions kitty. The situation is particularly alarming here because Italy has the second lowest birth rate in western Europe (9.18 births per 1,000 population), behind Germany (8.6 births per 1,000 population). In short, the system is being attacked from both ends fewer youngsters paying in and more old folk taking out.

All this was exacerbated by the fact that Italys system was rather generous anyway. The minimum age to claim a state pension for people who had paid 35 years worth of national insurance contributions was 57, compared to 60 for women and 65 for men in Great Britain. Furthermore, the state actively encouraged early retirement in the 1980s, when it wanted to shed jobs in the public sector. At the time, it gave many employees excellent deals to pack in, thus creating a generation of so-called baby-pensioners. Most retired after working for 23-30 years, which means the majority are set to draw from the pension fund for as long as they have paid into it at least.

Whats more, the Italian state pension is not like its British cousin, where everyone gets the same flat-rate payment. In Italy your monthly pension is determined by how much you paid in. This means that people who earned high salaries get bigger packages at the end of their working lives, 70 per cent of the average of the five best years of earnings during their last ten years of work. So in many cases the states obligations to pensioners are much higher than they would be in Britain.

What has the government done?

After a long, hard tussle, which ended with a do-or-die confidence vote in parliament in July, the government introduced a law tightening the rules on when workers can retire. The logic behind it is that as we are living longer we should work longer too.

From 2008, workers must have paid 40 years of social security contributions to be eligible for a state pension, or be 60 years old and have 35 years of contributions. The minimum retirement age will then rise to 61 in 2010.

In order to raise the average retirement age further, people will be offered incentives to stay at work even when they could legally retire. People of pensionable age who opt to work on will pocket a slice of their salaries that would otherwise have gone to the tax office. Moreover, workers may continue to work beyond the previous maximum retirement age of 65, by prior agreement with the employer. The law also includes ways to boost private pension funds.

The government says the reforms should save the state 0.7 per cent of gross domestic product (GDP) each year once they become fully operational.

Why are the trade unions upset?

Trade unions were fiercely opposed to the governments proposals. A protest strike organised by the countrys big three union federations CGIL, CISL and UIL, which together represent 11 million workers and pensioners brought the country to a virtual standstill in March. They accuse the present administration of breaking promises on pensions made in the reforms passed in 1992 and 1995. The unions also dispute the need for reform, arguing that previous overhauls were sufficient to boost the sustainability of pension funding. All thats needed, they say, are a few adjustments to the old system.

Frankly, this is head-in-the-sand stuff. Independent analysts and economic organisations like the International Monetary Fund have repeatedly warned that, with pensions eating up about 14 per cent of GDP, Italy is sitting on an economic time bomb. Indeed, while the reform was necessary, they argue, the present reform is probably not sufficient to guarantee the systems long-term sustainability. Further measures will be needed in the future.

The unions arguments get stronger though, when they take the debate to a broader level. They point out that the seemingly irresistible rise of so-called atypical job contracts in Italy is contributing to the crisis. These various atypical contracts (for example those that do not guarantee a full-time job) are popular with employers because, with them, they dont have to pay many taxes or social security contributions for their staff. And they can dump workers whenever they like. But people employed on this basis are not paying enough into the pensions system and are reluctant to start families because they have no job security. This is partly the reason Italys birth rate is so low. Indeed, making these atypical contracts a lot less common is perhaps even more important than raising the retirement age.