This year’s Rendezvous With Pensions will set the agenda for the next five years and beyond. George Coats assesses the options
French pensions are undergoing a gradual transformation. Under a process that began in the early 1990s, the contribution period required to qualify for a full state pension is being extended, the preferential treatment given to public sector employees is being brought into line with that of the rest of the working population and a reserve fund has been created to help fund the state system when it goes into deficit.
Just how effective these measures have been will be examined shortly in a Rendezvous With Pensions, a five-yearly tripartite review by the government and social partners that was programmed into the 2003 reforms, the last major changes to the system.
The process implies a recognition that more needs to be done and this is underlined by recent projections from the Pensions Advisory Council (COR), a body established in 2000 to evaluate the situation and whose initial deficit forecasts triggered the 2003 reform. But the fact that towards the end of the first quarter of this year there had still been no date fixed for the start of the Rendezvous discussions, despite expectations that the process would begin in late March or early April, suggests a lack of urgency, or perhaps of political will, to get on and do it.
As elsewhere in Europe, the process of pension reform is very political. In last year’s presidential election campaign both main candidates, Nicolas Sarkozy and Ségolène Royal, pledged to raise the lowest state pensions. As part of her 100-point platform Royal pledged a 5% increase, although she did not say how this would be funded. Sarkozy’s proposal was to pay for the increase by ending the so-called ‘special regimes’ that enabled privileged groups of public sector workers to retire early for reasons that were no longer relevant - train drivers because their predecessors in the days of steam locomotion used to have to shovel coal, for example.
Sarkozy’s stand strengthened his image as a forceful leader and carried the implicit message that he would push through change in the teeth of an inevitable replay of trade union opposition that had forced the abandonment of a previous attempt. And he was able to present it as completing the reform of public sector pensions started years before.
“In 1993 there were reforms of the private sector and in 2003 there was a reform that affected the 6m workers in the public sector,” recalls Raoul Briet, (pictured left) the president of the supervisory board of the French pensions reserve fund, the Fonds de réserve pour les retraites (FRR) and a veteran of the reform process. “But there still remained a further 500,000 to 600,000 people working in areas that had not been reformed. We had to explain to people in the private sector why they had to work more than 40 years to qualify for a pension while some people in the public sector had to work only 30-35 years.”
In the event, on his election, Sarkozy did indeed tackle the special regimes, demanding that power utility and transport employees build up 40 years’ contributions before qualifying for a pension. This in turn triggered the predicted new round of trade union opposition, and the resulting strikes had the anticipated disruptive effect. But Sarkozy’s response was less confrontational than advertised. As popular discontent grew, the heads of the affected public sector companies were instructed to reach a settlement. And as it was evident to the unions that this time they no longer had the popular support that had contributed to their previous victory, they were receptive to the employers’ approaches.
The result saved Sarkozy the embarrassment of having to back down on his first high-profile initiative and enabled him to claim that he had not compromised on his headline policy of ensuring that the special regimes be scrapped and the utility and transport workers fall in line with the rest of the public and private sector employees. However, insiders claim it was a symbolic victory. “It was announced at a political level that they have reformed the period needed to receive a full pension so that is being gradually stepped up to the level of other employees,” says one. “But the key word here is ‘gradual’ because it will be a long time before any real change will be seen. One has to understand that with the strikes there was a real crisis in France, everything ground to a halt. So what was given in terms of carrots was probably a lot more expensive than the reform of the regime, but the government could declare that there had been a reform.”
However, according to the latest COR projections, savings have still to be made. The numbers look worrying and appear to be getting worse.
The 2003 reforms were spurred by COR research in 2001 that found in the absence of further reform the state pension system would show a deficit of €38bn by 2020 and €106bn by 2040 with a 2000 valuation of the euro. A study of the impact of the 2003 reform made in 2005 found that it had halved the projected 2020 deficit and reduced a projected 2050 deficit by one quarter. Nevertheless, the latest COR forecasts, announced at the end of last year, see a 2020 deficit of €€24.8bn, or 1% of GDP, rising to €€68.8bn, or 1.7% of GDP, in 2050 in 2006-valuation euros.
The government’s projections are even more pessimistic, according to an insider. “The COR’s central scenario has been based on optimistic perspectives, with relatively little unemployment. But the government’s projections were not as positive. It took all of the worst-case scenarios from the COR report and said this is what’s going to happen so it’s time to do something. And the projections look pretty ugly. Prime minister François Fillon deployed them in a statement to parliament at the end of last year when laying the basis for the Rendezvous and emphasised the urgent necessity of continuing the reform.
So where will the new resources come from to fill this gap? Elsewhere in Europe, governments have legislated to encourage funded second and third pillars to fill the gap between what the first pillar state pension is expected to provide and what it will be able to deliver in the future. And indeed this appeared to have been the initial idea in the lead up to the 2003 reform.
“It was originally intended to be very ambitious and was supposed to cover all aspects of the pensions system because Jacques Chirac had been re-elected as president the year before on the idea of making a major reform and putting pension funds in place,” recalls Gilles Glicenstein, (pictured right)n president and CEO of BNP Paribas AM and another veteran of the reform process. “But in fact the 2003 reforms were very limited. They coincided with a moment when the financial markets were in crisis and after the Enron scandal had broken with people loosing their pensions savings. There was so much fear of an Enron-type situation that to put people at equity risk was out of the question.
“And in addition the insurance industry was very reluctant because it feared that there would be some arbitrage between life insurance and long-term pensions. Consequently, there was a lot of opposition to a major change into defined contribution or another type of system.”
The only funded elements to emerge were the third pillar plan d’épargne retraite collectif (Perco), a DC system funded by corporates and available to all employees, and the plan d’épargne retraite populaire (Perp), an individual system based on a life assurance policy.
“During the development phase of the Perp there was a debate between banks and insurance companies about whether people saving for their pensions would have the choice between a lump sum or an annuity, with the banks being in favour of a lump sum so it would be more of a saving product,” says Glicenstein. “But the insurance companies won and at the end of the savings period it is compulsory to buy an annuity. So it was unattractive. And it was made in such a way that there was as minimal an equity investment as possible although the papers people have to sign to set one up have, as far as I remember, a 10-line disclaimer saying that they accept to take equity risk and assume all responsibility if the market falls. So nothing was really done to make that product a success.
“The Perco is more open to the possibility of having a lump sum at the end rather than just an annuity. It is mainly seen as part of a profit-sharing package within firms and is usually part of an agreement negotiated between a management and the unions. But not all companies have such an arrangement. So it has not attracted big numbers and people participating don’t save much, although it seems more of a success than the Perp.”
“France has not got real pension funds,” says Jérôme de Dax, deputy general manager, sales and marketing at Société Générale Asset Management (SGAM). “In addition to the state pension scheme we have a PAYG system that is built on a sector-wide basis. The major players are the Agirc and Arcco institutions for private sector employees, but there are also important dedicated pension vehicles for the independent of liberal professions: for dentists, doctors, pharmacists, notaries and craftsmen.”
Since 1995 all private PAYG schemes have over-contributed and so have built up reserves. However, these are not linked to liabilities.
“They have a different way of managing their assets compared with a traditional pension fund,” adds De Dax. “They have significant financial reserves but only to prevent the PAYG company from being destabilised by the sharp increase in retired people compared with the active population, not for preparing the future given that these institutions are not ‘liability driven’. In fact, they are not getting the right modified duration on a long-term basis that a pension fund should have.”
“We have a huge mandatory pension plan system, by which we mean the social security pension plus Agirc-Arcco, and it is much criticised within France,” says Jean Canel, a consultant at Towers Perrin in Paris. “But we must not forget that today it provides the average worker with a replacement rate of between 60% and 75%. This will decrease, and we estimate that the purchasing power of the mandatory pension will fall by 2% a year, but it will remain substantial. So our advice to employers is don’t forget it exists and don’t spend too much on supplementary pension plans.”
Glicenstein sees it differently: “In the current situation savings are necessary because of the amount of pension those who retire in 2010 or 2015 and more so in 2020 might get will be quite low. If people don’t save to increase their pension there will be a significant difference between how much people today and in 10 years will get. But in France the main focus has always been on the first pillar and the PAYG system so people are not aware of this. It is not at all a matter of debate.”
So what is expected from the Rendezvous? After all, the government team is well briefed with Fillon having overseen the 2003 pension reform - known as the loi Fillon - as the then pensions minister, and the current pensions minister, Xavier Bertrand, having been the parliamentarian who oversaw the governing party’s preparations for the parliamentary debate on the legislation.
“I think the trend is to continue adapting the parametric reforms and not make fundamental or basic reforms,” forecasts Briet. And what are the implications of that? “People will have to accept either a drastic reduction of the replacement rate, a strong increase in the contribution level or an increase in the length of the contribution period required to get a full pension,” Briet adds. “The social partners cannot accept the first option and politicians cannot accept the second. But they can agree to focus on a third. That was the choice of 2003 and as we have the same actors now - the social partners, the ministers and so on - they will probably take the same view and remain focused on this point.”
“The government has three objectives for 2008,” says an insider. “The first is to guarantee the financial sustainability of retirement schemes, paying attention to inter-generational fairness and fairness in general. The second is to increase the employment of seniors - currently less than 40% of people aged between 55 and 64 are still in employment. This was a highlight at several conferences during the second half of last year but each time a change is suggested it triggers a stampede for the door, which reduces contributions. And third it wants to encourage personal free choice in preparing for their retirement.”
To promote these goals the government will make a number of proposals, the insider adds. “Both the basic and supplementary pensions have rather generous provision for spouses and children and the government has been looking closely at the costs attached to all of these little measures and it will come down on some of these such as pension points for bringing up children. The government is also looking at disability pensions. These are relatively rarely used in France but may offer a way out of the problem of how to define physically arduous work. In the past it has been defined by profession but the government is starting to see that disability pensions give an opportunity to treat in an individual way.”
Well so far so unadventurous. What will the employers propose? Late last year Laurence Parisot, president of business grouping Medef, restated the traditional view of the French employers which calls for the creation of one regime for all French workers, both private and public, that would use the Agirc-Arcco approach, with a direct link between contributions and pensions.
But this looks like a non-starter, the proposal having been discussed and rejected in 2002-03 and again dismissed at the end of last year by Fillon who said it is “not possible to envisage such a radical transformation”. In February Parisot told Medef’s annual convention that the retirement age should be pushed back from the current 60.
This is not at all what the unions want to hear. “Rather than postponing the age of retirement we are more in favour of discussing the contribution period required to ensure a full pension,” says Emmanuel Mermet, an economist at the CFDT trade union confederation. “Companies get rid of people when they are 55 or 57, so it is ridiculous to propose extending the retirement age beyond 60 to 61 or 62 when companies don’t even apply the current limit. We see two key issues. One is that despite trying for the past five years we still have no agreement with the employers about the contribution period for those doing physically arduous work. We want to ensure that those in the construction industry, for example, have a contribution period that is lower than 40 years. Second, the employment rate among the more elderly part of the workforce is very low despite an undertaking by employers five years ago to improve it. On both these issues the problem is that the employers’ side has not honoured agreements made in 2003.”
So little meeting of minds in the run up to the Rendezvous. But if the expectation is for parametric reform and no moves to bolster the second or third pillars, what about the third element of most European pension reform programmes, support for the reserve fund?
Overseas the FRR is seen as a flagship for French institutional investing but in France it is still not considered a permanent part of the landscape. “When we discuss the FRR with politicians we get two opposite responses,” says Briet. “Some say we are too small compared with what will be required, that we started too late and therefore ask whether it is necessary to keep such a small fund. And some say we are dangerous because we could give the illusion that the French can avoid any structural reform. So we have to find a path between these two views.”
But the sensitivity over its role has a more prosaic basis, according to Glicenstein. “The FRR was created by the socialist-led government of Lionel Jospin to help the PAYG system until 2020. But because it was created by the left it has always been criticised by the right, and this has very much limited its funding. The funding was supposed to come from different sources including privatisations, but this has not materialised and it has been largely unfunded. It was supposed to reach €150bn in 2020 and we are far from that - I think today it is something like €35bn which is not small but it means it will never reach its intended target. If things go well it may reach €60-70bn, which is half of what was scheduled in 2020.
“And the right-of-centre parliamentary majority regularly raises the question of the existence of the FRR, asking why it should be kept, why shouldn’t it be merged with another entity such as the caisse des dépôts, or the money taken back.”
For Briet, a key factor will be whether the consultations, five years after the last round, deal with the financial stabilisation of the pension system after 2020. “If the problem we have to solve in 2008 is how pensions will be financed from 2008 to 2025 then we will have to discuss the role of the FRR’s contribution from 2020 to 2025,” he says. “If the discussion does not stop at 2020 I think it will become possible to have a clear discussion about what kind of FRR we want and what is expected from the FRR from 2020. And if we start discussing about this period we will also have to discuss explicit guidelines concerning the funding policy of the FRR between 2008 and 2020. And my view is to try to convince politicians and social partners to adopt 2025 or 2030.”
However, there is still a lingering feeling that drastic action may not be needed and the situation may resolve itself. “A major difficulty in having a serious debate about the prospects of pensions is that the social partners and politicians tend to believe that a new economic policy will change the situation,” says Briet, “They believe that if you have more growth, are more competitive and have better productivity you can afford an ageing population, that with higher economic growth there is no more real demographic problem.”