Solvency Tests for Pension Funds - An International Analysis with a Standard Model of a Solvency Test for Swiss Pension Funds

Transcription

1 Solvency Tests for Pension Funds - An International Analysis with a Standard Model of a Solvency Test for Swiss Pension Funds DISSERTATION of the University of St. Gallen, Graduate School of Business Administration, Economics, Law and Social Sciences (HSG) \ to obtain the title of * Doctor Oeconomiae submitted by Thomas Gisler from Spiringen UR Approved on the application of Prof. Dr. Hans-Jiirgen Wolter and Prof. Dr. Hato Schmeiser Dissertation no. 3768

2 ii Table of contents II. TABLES AND FIGURES III. ABBREVIATIONS 1 INTRODUCTION MOTIVATION AND OBJECTIVES LITERATURE OVERVIEW 3 T. INTRODUCTION TO SOLVENCY MEASURES 7 >"2.i SUMMARISED HISTORY OF SOLVENCY MEASURES CLASSIFICATION OF SOLVENCY MEASURES 9 \2.2.1 Differentiation criteria Time perspective - retrospective vs. prospective Vertical direction - bottom-up vs. top-down ,-3 Regulation style - rule-based vs. principle-based " Classification of solvency measures in the literature Classification of solvency measures in this thesis Static factor models Cash-flow-bascd models 12 3 THEORETICAL CONSIDERATIONS REGARDING SOLVENCY TESTS FOR PENSION FUNDS IS 3.1 PENSION FUND DEFINITIONS r.: JUSTIFICATION FOR SUPERVISION OF PENSION FUNDS Transfer from general regulation theory to pension regulation theory Information disadvantage in pension funds and how it is reduced by a solvency test External effects of a pension fund default and how they are reduced by a solvency test SOLVENCY TESTS AS A TRIGGER OF SUPERVISION ACTIONS CONNECTION TO THE PENSION GUARANTEE INSTITUTION ADVANTAGES AND DISADVANTAGES OF HOLDING SOLVENCY CAPITAL FOR THE STAK HOLDERS The employees' view : The pensioners' view The employers' view Solvency capital facilitates a riskier investment strategy Calculation of the economic value added Overfunding of pension funds in the literature The investors' view The state's view SOLVENCY CONTRIBUTION Accumulation of solvency capital Ownership and distribution Distribution of funds substantially in excess of the required solvency capital Distribution of the solvency capital in case of a liability reduction 31 XI XII

3 Example (THE CASE OF A MULTI-EMPLOYER PENSION FUND 34 SOLVENCY TESTS IN OTHER REGIONS GENERAL INFORMATION Countries with solvency tests for pension funds Overview of the pension environment * General principles THE FINANCIAL ASSESSMENT FRAMEWORK IN THE NETHERLANDS Overview Implementation 39 4^2.3. Actions required if the solvency requirements are not met THE TRAFFIC LIGHT MODEL IN DENMARK :1 Overview t Implementation * Actions required if a fund fails to meet the solvency requirements SOLVENCY II (Q1S4) IN THE EUROPEAN UNION Overview Applicability of Solvency II to pension funds Implementation Actions required if the fund fails the solvency requirements Adjustments to the SCR of Solvency U for application to pension funds SOLVENCY TESTS IN LITERATURE DISCUSSION Aggregated scenario models ' Pro-cyclical investment Volatile valuation results Benefit guarantee reductions due to the<\ntroduclion of a solvency test Characteristics of the pension environment lead to thorough supervision 5/ Reasons for a distribution-based solvency test for pension funds in Switzerland THE STANDARD MODEL OF THE SOLVENCY TEST FOR SWISS PENSION FUNDS THE SWISS PENSION FUND ENVIRONMENT INTRODUCTION TO THE STANDARD MODEL Solvency test to be applied in the standard model Basic principles Overview of the standard model of the solvency test THE MARKET-CONSISTENT BALANCE SHEET RECOVERY OPTION SOLVENCY EQUATION Definitions Risk measure Solvency question OTHER APPLICATIONS OF THE SOLVENCY EQUATION Target cover ratio question Confidence level question TRANSFORMATION OF THE SOLVENCY EQUATION Decomposition of the surplus change Allowing for internal models MODELLING OF THE COMPONENTS AND AGGREGATION 71

4 5.8.1 Expected financial profit 72 f Market risk. 72 > Expected insurance profit 74 \ Insurance risk Credit risk Scenarios Pandemic Disability 78 * Financial distress Terrorism Deflation Historical markets scenario Longevity - 79 \' Catastrophic accident Political risk - LOB parameters 79 t Lay-off Inflation/ Salary increase Aggregation of the components 81 MODEI^ALTERNATIVES FOR THE SOLVENCY TEST FOR SWISS PENSION FUNDS MARKET VALUE MARGIN.' Introduction Compensation for lending the solvency capital OPEN OR CLOSED MODELLING OF THE INSURED POPULATION SPECIAL ATTRIBUTES OF Swiss PENSION FUNDS 86 1 Market-consistent value of the savings account with a minimum interest rate guarantee >'<A 86.1 Introduction 86.2 Overview of the models and assumptions 87.3 Statutory value 88.4 Deterministic cash flow model with FINMA rule 89.5 Replicating portfolio model SST 89.6 Cash-flow model with stochastically modelled equity returns 90.7 Cash-flow model with stochastically modelled equity returns and term structure 91 2 Market-consistent value of the conversion rate guarantee RECOVERY OPTION, Recovery measures for pension funds in general Recovery measures for pension funds in Switzerland Possible implementation 94 APPLICATION OF THE SOLVENCY TEST FOR SWISS PENSION FUNDS PARTICIPANT DATA FOR THE SAMPLE PENSION FUND MARKET-CONSISTENT BALANCE SHEET Balance sheet conversion Savings account with a minimum interest rate guarantee Conversion rate guarantee Reserves for pensions in payment IBNR COMPONENT-BASED SUB-RESULTS AND AGGREGATION 100

5 7.3.1 Selected recovery measures :2 Expected financial profit '.3 Market risk Expected insurance profit Insurance risk Credit risk Scenarios A Pandemic Disability Financial distress Terrorism 110 "* Deflation Historical market scenario Longevity Catastrophic accident *7.9 Political risk - LOB parameters Lay-off Ill Inflation / Salary increase Aggregation of the components 112 1A RESULT OF THE APPLIED SOLVENCY EQUATION RESULTS OF THE OTHER APPLICATIONS OF THE SOLVENCY EQUATION Target cover ratio question Confidence level question EMBEDDING IN THE RISK-BASED SUPERVISION ENVIRONMENT CONNECTION TO ASSET-LIABILITY MANAGEMENT EMBEDDING IN THE Swiss SUPERVISION Who should calculate the solvency test.y. : Monitoring the results Simplification of the solvency test Possible effects on the pension fund environment CONCLUSION 125 APPENDIX I: STEP-BY-STEP TRANSFORMATION OF THE SOLVENCY EQUATION Special case with constant parameters 130 Simplification 131 Recovery condition ; 131 APPENDIX II: STEP-BY-STEP RISK DECOMPOSITION 132 IV. REFERENCES 135