Finally arriving? Pension Reforms in Europe

Transcription

1 Finally arriving? Pension Reforms in Europe Chris de Neubourg Tokyo 2010

2 Finally arriving? Pension Reforms in Europe Chris de Neubourg Innocenti Research Centre, Unicef, Florence October 2010

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4 Drivers of Pension Reforms Fiscal pressure Fiscal imbalances remain the main driver The need to align pension systems with socioeconomic changes Increase life expectancy, female labor force participation, divorces, etc The challenges of globalization Increased mobility across sectors, countries and world regions demands high pension rights portability

5 Types of Reforms Pension reforms can be grouped in 4 categories: Parametric Reforms Systemic Reforms Regulatory Reforms Administrative Reforms

6 Types of Reforms Parametric Reforms The 3 parametric subgroups include: - Contribution parameters - Benefit parameters - Eligibility parameters

7 Types of Reforms Parametric Reforms Contribution Parameters Reform Options: Raising contributions rates - Contribution rates above 15% are likely to have a negative labor-market impact Raising the ceiling of the wages that are subject to contributions Has a short term positive redistributive effect, though the impact over the long-run will be small

8 Types of Reforms Parametric Reforms Benefit Parameters Reform Options: - Lowering the accrual rate - Increase the averaging period for wages - Ideally the full career - Also more progressive - Index pensions relative to inflation - Indexation to wage growth is less affordable and could be unjustifiable from the perspective that the retiree doesn t increase consumption during retirement - Lower the minimum pension level - Set relatively high in many countries - Is sometimes higher that pensioners earned when working

9 Types of Reforms Parametric Reforms Eligibility Parameters Reform Options: Increase the retirement age The goal of a pension system should be an average of 15 years in retirement Increase in the years of service required before a pension can be received Introduce means testing

10 Types of Reforms However, the key design options are: Defined benefits versus defined contribution schemes Funded versus unfunded pension systems

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12 Pension Reforms: Experience from OECD Countries

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14 Pension Reforms OECD Pension Parameters Japan, Poland and Portugal all recorded significant increases in public pension spending By 2003 the GDP share was close to or exceeded 10% in all three countries Among the high-income OECD countries, public pension spending is lowest in Australia, Canada and Ireland Due to favorable demographics and heavy reliance on private pensions 6 out of the 10 countries with the highest public expenditures have undertaken major pension reforms However the 10 countries with the lowest expenditure levels have also undertaken pension reforms In Japan the need for pension reforms is mainly driven by the pace and scale of population aging

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16 Pension Reforms OECD Pension Parameters Changes in the pension age are a common reform feature Most OECD countries have a standard retirement age of 65 Nevertheless the effective retirement age is lower on average than the standard retirement age in almost all OECD countries A common response has been centered around retirement incentives

17 Pension Reforms OECD Pension Parameters 7 OECD countries have extended the period over which earnings are taken into account As a result most OECD countries will now use a lifetime earnings measure Some countries have moved to less generous indexation policies From earnings indexation to price indexation

18 Pension Reforms OECD Pension Parameters However, the most common policy has been to remove all or part of the public DB pension provision and replace it with DC provision Others have moved from DB plans to notional accounts (NDC) Sweden, Poland an Italy Besides, most pensions will be automatically adjusted to changes in life expectancy in the future

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22 Pension Reforms Social Impacts for OECD Countries In case of average earners: The net replacement rate after the reforms will be just below 70% Compared with 84% before The largest, relative cuts will be in Mexico, Portugal and Germany In contrast, the net replacement rate of Hungary will increase and will be left unchanged in case of the UK

23 Pension Reforms Social Impacts for OECD Countries In case of low earners: The average net replacement rate will fall from 87% to 77% Smaller decline than for average earners The largest cuts are found in Germany, Mexico, Poland and Portugal

24 Pension Reforms The Role of Private Pension in OECD Countries Recent reforms make that private pension will play a greater role in the future Many countries that cut public pension benefits believe that private pension provision will offset the impact on future retirement income E.g. Germany and Japan Many countries already had broad coverage of voluntary private pensions (with a reach of 40% or more) because of low public provision Canada, Ireland, the UK and the US Belgium, Germany, Japan and Norway also achieve this level of coverage

25 Pension Reforms The Role of Private Pension in OECD Countries 5 OECD countries introduced mandatory private pensions as a substitute for part of the public system Hungary, Mexico, Poland, the Slovak Republic and Sweden Iceland, Switzerland and the UK have longstanding mandatory private pensions (since the early 1980s) Quasi-mandatory private pension schemes can be found in Denmark, the Netherlands and Sweden Australia and Norway mandated private pensions on top of the public scheme

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28 Pension Reforms The Role of Private Pension in OECD Countries In many OECD countries there is a need for additional voluntary retirement savings The average retirement savings gap is 18,2% The pension gap depends on life expectancy, pension value, normal pension age and years of contribution

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32 New Reform Issues Equity and poverty How to induce people to work longer How to stimulate the adoption of private pensions Conditions for social and financial sustainability

33 Investment Risk and Pensions

34 Investment Risk and Pensions There are 4 types of pension risks:

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36 Investment Risk and Pensions

37 Investment Risk and Pensions Three key dimensions: The mechanism used to finance retirement benefits The degree of funding of pension liabilities The degree of actuarial fairness Macroeconomic part Microeconomic part

38 Investment Risk and Pensions DC pension plans Contributors fully bear the investment risk The focus of analysis is on the household level By definition fully funded and actuarially fair DB pension plans The sponsor underwrites the pension liability and fully absorbs the biometric risk The focus of analysis is on the solvency of the pension firms

39 Investment Risk and Pensions

40 Investment Risk and Pensions

41 Investment Risk and Pensions

42 Investment Risk and Pensions

43 Investment Risk and Pensions

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46 Investment Risk and Pensions Pension plan liabilities take 2 forms The insurance of biometric risks The insurance of financial guarantees (less common among DC plans) Expose the entity underwriting such liabilities to longevity, interest rate, inflation and wage risk Pension providers share these risks with retirees through retirement product diversification

47 Investment Risk and Pensions Pension Assets Total pension fund assets grew on average 9% between 2003 and 2007 In relative terms, OECD pension assets represent 75% of area GDP

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50 Investment Risk and Pensions Pension Assets Fixed income assets represent the largest share of total assets on average In OECD countries over 50% of assets were invested in bonds Around 60% in government bonds Equity investment in OECD countries tends to be low 30% of assets on average Pension funds from the US have a much higher exposure to equity risk

51 Investment Risk and Pensions Sources of Vulnerability Asset and liability shocks Shocks to the income statement Due to decreased investment income Shocks to contributions Due to economic slowdown

52 Investment Risk and Pensions Assets Shocks

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54 Investment Risk and Pensions Liability Shocks Valuation of DB liabilities is affected by: The scope of valuation The costing methods used for valuation The term structure of the relevant interest rate used for discounting Locally prevailing accounting standards

55 Investment Risk and Pensions Transmission Channels Four channels: The impact of surplus volatility of DB plans on the balance sheet of sponsors The impact of asset volatility on the balance sheet of households The financial stability impact of DB and DC plans with government guarantees on the balance sheet of the government The impact of the rest of the financial sector and economy

56 Demographic and Economic Context

57 Demographic and Economic Context - Life expectancy - Fertility Rates - Dependency ratio s - Labour market trends - Replacement rates and public expenditures trends

58 The details of real life reforms France Germany The United Kingdom Poland The Netherlands