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Whistling in the dark

Starting this month, the Dutch are implementing wholesale benefit cuts. It’s brutal. The Dutch central bank has calculated that the cuts will affect 2m active employees, 1.1m retirees and 2.5m deferred pension plan participants – well over a third of the total population of 16.7m.

It’s efficient. According to state secretary for pensions Jetta Klijnsma, the measures are expected to shave €8bn off pension liabilities, on top off €225m annual cuts implemented previously.

It’s fair. The pain is spread more or less evenly across generations, with active participants, who have more time to make up the difference, shouldering most of the burden, accepting cuts of €4.7bn.

But is it necessary?

Absolutely, says Klijnsma. No matter what pension funds actually invest in and regardless of their actual or expected returns, “pension schemes must, at any time, have the means to switch to risk-free assets, such as government bonds, to guarantee pension rights.”
Introducing a higher discount rate instead of the risk-free rate would jeopardise intergenerational solidarity, she warns. Schemes are obliged to discount liabilities using a risk-free rate, to assure future generations that their pension promise remains secure. Without this guarantee, younger generations would likely withdraw support for the system. Hence the discount rate must be dictated by the scheme’s liabilities rather than by its asset mix, she adds in a letter of explanation.

Absolutely not, say various detractors, including the socialist party SP, the populist PVV and a number of pensioner interest groups. The current discount rate is unnaturally low, they argue. Besides, there is no such thing as a risk-free rate and government bonds, as we have all learned, are anything but risk-free.

Pension funds have done quite well of late, banking two-figure returns and swelling their coffers, and it would be nonsensical to force them to implement onerous cuts on the basis of a funding shortfall that exists only on paper, based on an arbitrary, artificially low discount rate that isn’t even risk-free to begin with.

For now, prudent heads prevail. The Dutch are forging ahead with the announced cuts – after all, ‘better safe than sorry’ has always been our unofficial national motto. But the presumed safety of a risk-free rate is no longer self-evident. There is a deepening sense of unease regarding the way we discount our treasured retirement income security, and talk of risk-free rates is starting to sound suspiciously like whistling in the dark.

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