Convincing the disillusioned
Rebuilding Kosovo’s shattered institutions, including its pensions system, has been a priority for the UN Mission in Kosovo (UNMIK). It is a delicate task as Albanian Kosovans lost their pensions twice over. First, after Slobodan Milosovic abolished Kosovo’s status as an autonomous province within Yugoslavia in 1989, the Kosovan PAYG pensions scheme was folded into the Belgrade-administered system and many locals lost their benefits. Following the 1999 war, Belgrade stopped paying pensions altogether, although it has since resumed payments to certain Serb enclaves within Kosovo.
“Pensions had become a political issue, with everyone pressing to have them reinstated,” explains David Snelbecker, manager at The Services Group consultancy subcontracted by USAID and architect of Kosovo’s new pensions system. He also acts as USAID pensions policy advisor to the Ministry of Finance and Economy, UNMIK and Kosovo Pensions Savings Trust (KPST). “Even by west European standards the old system was unsustainable and running a large deficit, the retirement age was young, the coverage low, with only a third of Kosovans over 65 years receiving pensions, while social contribution taxes were high,” Snelbecker continues. “There was a desire to create a modern, equitable and fiscally sustainable system that avoided these problems.”
The new law, which was adopted in 2001, provides for a three-tier system similar to the three-pillar World Bank model pioneered in Latin America and subsequently adopted by most central and east European countries of a compulsory state-funded pension, a compulsory funded DC system managed by private asset managers, and a voluntary third tier of private supplementary employer and individual pension.
In the first tier, administered by the Department of Labour and Social Welfare, all Kosovans above age 65 years now receive a small pension indexed to the food basket, currently Euro35 a month, funded from general budget revenues. This so-called basic pension is paid regardless of previous contributions – a number of records, especially for younger contributors, were in any case destroyed during the NATO bombing campaign – including those ethnic Serbs receiving dinar-denominated pensions from Belgrade.
The World Bank second pillar was originally designed tackle the unfavourable demographic projections of an increasingly ageing population being supported by a shrinking workforce. Here Kosovo does start off with the advantage of young population and high fertility rates by west European standards. As of 2000 the age dependency ratio, the number of over-60s to adults aged 15-59 years was 0.10 in 2000, compared with 0.26 in the US and 0.38 in Germany. However, the demographic picture is changing dramatically as Kosovan women elect to have fewer children, and by 2051 the ratio is projected to rise to 0.25.
In Kosovo’s case, with its recently shattered economy, high unemployment and dependence on international aid, the system does also have the benefit of being self-financing, with the first payout only due in 10 years’ time. Costs have been limited to 1% of assets in the first instance. “It’s a lean administration by international standards, which largely comes from the fact that there is only one provider KPST,” notes Snelbecker. The law does allow for competitive systems, but only as of 2005.
The second pillar system is compulsory for all those born after 1946 and habitually resident in Kosovo, and voluntary for others. KPST is funded by contributions of a minimum 5% of gross salary from workers and employers. Each has the option to raise the contribution level by up to a further 10%, although these additional contributions, unlike the mandatory 5%, are not tax deductible. The system started operating in August 2002, when it became mandatory for employees of publicly owned companies, civil servants and public sector workers and privately owned companies with more than 500 employees. As of the end of May it had 100,000 members and total assets of E18m. This will expand in the coming August when membership becomes compulsory for all remaining workers, including the self-employed and farmers, and the authorities plan a major public relations campaign, including television and public and trade union meetings.
It has been a major challenge to explain the fundamental differences between the previous PAYG, defined benefits (DB) system based on inter-generational solidarity and a privately funded defined contributions (DC) scheme based on individual accounts, says Arieta Koshutova, who returned to Kosovo this March after 12 years in the UK to become KPST’s director. Concepts that needed to be put across included annuity payout, investment management and the fact that beneficiaries do not lose their entitlements on death but can pass it to nominated heirs. “There was the problem that there are no Albanian-language equivalents for many financial terms, such as fiduciary responsibilities,” adds Koshutova. Most importantly given Kosovan pensioners’ previous experiences, contributors had to be convinced that their individual accounts remained their personal property regardless of changes in government, trustees or asset managers.
KPST is managed by a governing board of seven trustees (four foreign, two local and one ex-officio), which meets four times a year. Chairman Neil McPherson of Standard Life Investments, who earlier worked on Russia’s pensions reforms, describes the job as the most rewarding he has ever done. The board’s responsibilities include investment. The assets are initially being invested into euro-denominated AAA-rated liquidity funds, but some will gradually shift to pooled equity index funds. “The equity market is currently volatile,” explains McPherson. “And importantly, we need to engender security, safety and confidence in the system.” Following an international UN tender, ABN Amro was appointed earlier this year as asset manager for the liquidity funds and Legal & General for the equity funds.
The investment regulations have been deliberately kept simple but prudent. Kosovo does not have any functioning capital markets as yet – and as it is not a sovereign country, it does not have government bonds – so using pensions funds to invest in the domestic market by imposing restrictions on international investments, other than they be in OECD-member countries, is out of the question. Domestic investment regulations, as and when they become practicable, have to be regulated by a competent authority. There are standard overall limits such as a maximum 5% of stocks of any single issuer and 30% for in the case of bonds. A small number of assets are expressly prohibited, including derivatives, unlisted securities, real estate, physical assets not trading on an organised market or with an uncertain value, such as antiques, works of art or vehicles, and any security issued by institutions connected with KPST, such as custodians, asset managers or governing board members.
Another feature of the second tier system is the stress on transparency, with biannual statements to members and open meetings between the trustees and the public in both Albanian and Serbian parts of the province. “Although we’re established under UN law, we are explicitly not part of the government, and it is one of the key reserve powers that will be retained by the UN until such time as deemed appropriate,” notes McPherson. Winning over the ethnic Serb population, some of whom have not accepted the UN-imposed ID system or the euro as the currency, has been an imperative even though the first phase of the second-tier system covered largely the Albanian population, and has not greatly affected the size of or inflows into the fund. “It is an important factor in the even-handedness of the fund and one which we take extremely seriously,” adds McPherson. The fund employs an ethnic Serbian public relations manager to liase with local Serb mayors and community leaders.
For the sake of efficiency contributions are collected by the tax authorities. Outstanding issues include the full implementation of a robust IT system, currently under construction, which is critical to the fund's ability to reconcile accounts, meet its legal obligations for biannual statements – the first of which is due in September – and ultimately keep costs down. “We wanted to avoid the collection problems seen in Poland,” notes McPherson.
The third tier of the pensions system will take some time to develop. Kosovo’s financial system has had to be rebuilt from scratch, starting with a new central bank, Baking and Payments Authority of Kosovo (BPK), which regulates the commercial banking and insurance sector and which now has a separate pensions department. As of late June there were seven BPK licensed commercial banks and seven insurance companies, some of which already offer life-insurance related retirement products. Kosovo’s third tier system legislates for supplementary employer DB and DC funds, which must be available to all employees, as well as supplementary DB and DC individual pension funds provided by banks, insurance companies and other financial institutions.
The overall system retains some inequities, such as the currently low basic pension and the exclusion of the high numbers of unemployed – 269,700 out of an estimated working population of 1.4m – from accruing pensions benefits, although this will improve as the economy rebuilds. The evolution of the pensions system will ultimately depend on Kosovo's political status - as an everlasting UN-administered region, a willing part of Serbia, or an independent state which may or may not join up with Albania - and on which no-one is prepared to speculate on, on or off the record.