From Our Perspective: Who’s watching the watchers?

In some countries they are accused of heavy-handedness; in others they seem content to play a light-touch role. Either way, European pension regulation remains as diverse as the continent’s pension systems. The IORP II Directive, like its 2004 counterpart will be interpreted and implemented differently across the EU member states; harmonisation of regulation has not led to a harmonisation of regulators.

Let us compare the Netherlands with the UK. Dutch pension and insurance regulation was subsumed into the Central Bank (DNB) in 2004. The DNB has since then become the most activist European pensions regulator, with powers to intrude into almost all of the affairs of pension funds other than the collective labour agreements that govern them. This has included imposing strict standards for board membership, intervention in areas of investment policy and a broad drive towards consolidation that has seen the number of pension funds fall from 800 to under 340 in 10 years.

No-one doubts the sincerity of the DNB in its intent to secure the funding of pension promises – even if its funding requirements have increased the burden on both sponsors and active participants in the form of high contributions. But the bank’s focus has been on short-term deficit recovery, often at the expense of a longer-term investment horizon that would allow greater risk-taking. 

This is in strong contrast to the UK, where recovery periods stretch well into the next decade and allocations to riskier assets are considerably higher.

Pension regulation in the UK has been haphazard and in the past 20 years has been driven by events rather than a holistic view of the needs of pension funds, sponsors, members and trustees. Indeed, the mandate of the Pensions Regulator (TPR) is explicitly to protect the Pension Protection Fund; only more recently has it introduced a stronger focus on pension fund risk management.

Regulation in the UK is also split between TPR, which oversees trust-based pensions (defined benefit and some defined contribution funds) and the Financial Conduct Authority, which regulates contract-based pensions, which includes the mass market of occupational group personal pensions, as well as personal pensions and workplace stakeholder pensions.

It seems surprising that TPR oversees as many as 40,000 trust-based pension funds. In fact, most of these are micro arrangements created over the years – for instance, to secure directors’ pensions and the like.

Although it seems counter-intuitive to have two regulators, the current split between contract and trust-based arrangements does make sense, at least for DB pensions. The FCA regulates the providers (mostly insurers) but the presence of trustees, employers and an employer covenant in DB arrangements, together with funding levels and in most cases a recovery plan calls for a distinct set of expertise and justifies TPR’s existence. Nevertheless, it makes little sense to split DC pensions supervision between two authorities. Perhaps all DC arrangements should in future come under the FCA’s purview.

But take the size of the UK’s aggregate pension deficit (currently over £250bn) and the risk to the taxpayer from 2030 if the PPF is not able to meet its obligations. A good investment would be to increase TPR’s budget so it can exercise stronger oversight of the largest UK DB funds (say the top 200 or so). As with the DNB, a dedicated team should be set up to exercise stronger supervision of these funds to ensure the highest standards of investment and risk management. TPR staff take note: in the Netherlands the team that supervises pension funds with assets over €10bn is paid more than the team that supervises smaller funds.

TPR would also communicate best practice to the wider market. Smaller DB would also be subject to strict governance requirements on a comply or explain basis, although the level of scrutiny would necessarily be lower because of the sheer numbers involved.

In short, we need to keep a watch on our regulators. UK PLC could find it tough to fund its pension gap and their risk could become taxpayers risk if the taxpayer is not protected against poor management and weak decision making.

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