The Dutch government’s current proposals for a new financial assessment framework (FTK) will complicate the investment policies of pension funds trying to meet indexation targets, according to Age Bakker, a professor of monetary and banking issues at Amsterdam’s Free University (VU) and trustee at the €140bn healthcare scheme PFZW.
In his keynote speech at the recent Beleggersberaad investor conference in Rotterdam, Bakker said the concept legislation was unlikely to restore confidence in the Dutch pensions system.
He said the new FTK proposals, on balance, would fail to address current bottlenecks in the system, while at the same time increasing complexity and the general focus on nominal pensions.
“Increased nominal security would be offset by the certainty of an increased loss of purchasing power,” he said.
“Pension funds will have to build larger financial buffers – without being able to ensure participants ever reap the benefits – due to delayed indexation.”
Bakker did acknowledge some the concept legislation’s “positive and stabilising” elements, such as the replacement of the three-month market-rate average with 12-month average funding as the criterion for estimating coverage ratio.
He also cited the “rolling” 10-year recovery period, as well as the extended period for evening out right cuts.
However, he argued that sticking with the nominal risk-free market rate for discounting liabilities – as well as opting for a varying ultimate forward rate (UFR) rather than a fixed rate of 4.2% – improved nothing.
Bakker was also critical of the increased indexation threshold and the reduced options for granting indexation in arrears.
However, as largest “barrier” imposed by the new FTK proposals, Bakker cited the restriction that pension funds cannot increase investment risk during a recovery period.
This means that, during periods of low interest rates, pension funds must increase their interest hedges on liabilities, or reduce their investment risk.
“As a consequence,” Bakker said, “it could take years before schemes have reached their required funding levels.”
He said the new FTK proposals would lead pension funds to seek alternative means of pensions accrual, such as “well-designed” defined contribution plans, which must also include risk-baring after retirement and collective risk-sharing.
“Such arrangements would come very close to an adequate defined benefit scheme,” he said.
He called for the greater involvement of pensions experts in the nationwide debate on how best to build a sustainable system, and urged policymakers to pay more attention to the impact of the debate’s conclusions on pension funds’ investment polices.
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