Pre-funding Expenditure on Health and Long-term Care under Demographic Uncertainty

Public health and long-term care services are predominantly used by old people and financed by taxes paid by working-age people. Fluctuating sizes of generations create variations in tax rates, similar to what occurs in pension contribution rates. Pre-funding is a commonly suggested cure for this variation in pension systems: could and should expenditure on health and long-term care also be pre-funded, and if so to what degree? To address this question, we examine several pre-funding rules using Finland as an example. If the focus is on tax smoothing during the next few decades, an effective rule is a buffer fund whose construction is based on the current population forecast. But if we lengthen the time horizon, the benefits of using rules conditional on new demographic information become evident, even though they may result in higher tax-rate variation during the first few decades. Copyright 2004 The International Association for the Study of Insurance Economics.