Even before the euro crisis, people were worried about Europe's pension bomb.

State-funded pension obligations in 19 of the European Union nations were about five times higher than their combined gross debt, according to a study commissioned by the European Central Bank. The countries in the report compiled by the Research Center for Generational Contracts at Freiburg University in 2009 had almost 30 trillion euros ($39.3 trillion) of projected obligations to their existing populations.

Germany accounted for 7.6 trillion euros and France 6.7 trillion euros of the liabilities, authors Christoph Mueller, Bernd Raffelhueschen and Olaf Weddige said in the report.

"This is a totally unsustainable situation that quite clearly has to be reversed," Jacob Funk Kirkegaard, a research fellow at the Peterson Institute for International Economics in Washington, said in a telephone interview.

A recession threatening the world's second-biggest economic bloc, along with efforts to reduce debt across Europe, is exacerbating the financial risks. Stable or falling birthrates, plus rising life expectancies, are adding to pressures, with the proportion of economic output devoted to spending on retirement benefits projected to rise by a quarter to 14 percent by 2060, according to the ECB report.
Ageing Populations

Increased retirement ages and lower benefits must be part of any package to hold the 17-nation euro area together, according to analysts, including Fergal McGuinness, the Zurich- based head of Marsh & McLennan Cos.'s Mercer's pensions consulting unit for central and eastern Europe.

Europe has the highest proportion of people aged over 60 of any region in the world, and that is forecast to rise to almost 35 percent by 2050 from 22 percent in 2009, according to a report from the United Nations. That compares with a global estimate of 22 percent by 2050, up from 11 percent in 2009.

The number of people aged over 65 in the 34 countries in the Organization for Economic Cooperation and Development is forecast to more than quadruple to 350 million in 2050 from 85 million in 1970.Life expectancy in Europe is increasing at the rate of five hours a day, according to Charles Cowling, managing director of JLT Pension Capital Strategies Ltd. inLondon.

In so-called developed countries, the average lifespan will reach almost 83 by 2050, up from about 75 in 2009, the UN said.
Cutting Costs

Governments and companies have taken steps to reduce future costs with policy makers having increased retirement ages in countries, including France, Germany, Greece, Italy and the U.K.

"Irrespective of whether you're inside or outside the euro or anything else, raising retirement ages is one of the structural reforms that all of Europe has to do," Kirkegaard said. "The crisis has forced them to address this. This is actually a positive thing in many ways."

By 2060, the average French pension benefit will be 48 percent of the national average wage, compared with 63 percent now, said Stefan Moog, a researcher at Freiburg University in Freiburg, Germany.

Pension managers and governments are relying on economic growth to safeguard the promises they make. If the euro zone grows too slowly to bolster public and private coffers, theretirement plans may become unaffordable, according to Mercer's McGuinness.
Benefits' Squeeze

"The amount of money countries are going to spend on social security and long-term care is going to go up," McGuinness said in an interview. "Governments with more generous social-security systems will have difficulty affording them. They will have to recognize these costs will impact their ability to reduce borrowings."

State pension obligations in France and Germany are three times the size of their economies, according to data compiled by Mercer. It's more sustainable in France than Germany because of France's higher birthrate.

Last year, there were 4.2 people of working age for every pensioner in France. The ratio will fall to 1.9 by 2050, according to a report by Economist magazine in March. In Germany, the proportion will decline to 1.6 from 4.1 in the same period.

"That is going to put a lot of pressure on Germany's ability to meet their promises," McGuinness said. "What they are more likely to do is cut back benefits. Governments face a lot of longevity risks."
Add to Risks

Private pension funds are under pressure too with benchmark euro-area interest rates at the lowest level since the 13-year- old currency was introduced. Low rates mean pension plans have to hold more assets to back their long-term payout projections.

Unless growth returns, fund managers will effectively be forced to take on more risk, said Phil Suttle, chief economist of the Washington-based Institute of International Finance.

"That creates problems because they all head into sectors that seem a great idea now, and then they blow up, whether it's commodities or equities or whatever," Suttle said. "You're going to intensify the boom-bust cycle."

The growing doubts facing the euro area is another planning hurdle as companies reconsider investment strategies amid concerns that Greece may default on its debt and spark a broader euro breakup.

The implied probability of one country leaving the euro by the end of 2013 fell to 49 percent on Jan. 10 from 51 percent a week earlier, based on wagers at InTrade.com, an Internet betting market. The probability of one country departing by the end of 2014 is 59 percent.
Rates Benefit

Pension plans in countries such as Greece or Portugal may benefit from exiting the euro as higher interest rates that would likely accompany a return to their national currencies would cut the cost of liabilities, while assets invested abroad would almost certainly gain in value, according to Mercer, a unit of Marsh & McLennan Cos.

PensionDanmark, Denmark's seventh-largest pension fund by assets, sold all its Germangovernment bonds last year, Chief Executive Officer Torben Mogen Pedersen told reporters in Copenhagen yesterday.

"Our government debt investments are all in Scandinavian non-euro countries," Pedersen said. "We think 2012 will be a very hard year for European investors."

In Britain, which has refused to join the euro, occupational pension funds have moved the risk of ensuring adequate retirement income to the employee from the employer in the past decade to curb pension-fund shortfalls.
Funding Gap

Unfunded public-sector U.K. pension obligations across 1,500 public bodies totaled 1 trillion pounds ($1.57 trillion) in March 2010, the Treasury said Nov. 29 in the first set of audited Whole of Government Accounts. That compares with a total of 808 billion pounds of outstanding U.K. government bonds and accounts for 90 percent of all public-sector pension liabilities.

Royal Dutch Shell Plc (RDSA), Europe's largest oil company, was the last member of the benchmark FTSE 100 Index to close its defined-benefit pension plan to new entrants when it made the decision last month to do so. The company plans to introduce a fund for new employees next year that makes them responsible for ensuring they have enough to live on in old age.

Governments may have to follow the same path for their own employees as well as increasing the retirement age to at least 70 and possibly 75 to make the pensions affordable, Cowling wrote in an article published in July by Public Service Europe.