Pensions Green Paper has industry reaching for fine-tooth comb
The European Commission takes pains to emphasise what its latest Green
Paper on pensions does not do. The paper, for instance, does not make any specific proposals. Nor does it recommend increasing the age at which people can draw a pension. Nor does it try to force people to take out a private pension. The only thing the Commission wants the Green Paper to do, it says, is start a debate about "whether and how" the European pensions framework should be developed.
Nevertheless, that hasn't stopped many in the industry from picking apart the
paper's rhetoric to get a sense of future policy. And while reactions so far have been largely positive, many have questioned the paper's wording on solvency issues, while others have taken issue with perceived meddling in national systems.
The Green Paper identifies three key challenges now facing the industry and sets out four priorities for modernising policy.
The first challenge, little surprise, is demographic ageing. Here the reading is understandably grim. Over the past 50 years, life expectancy has risen by about five years in the EU, and a further rise of about seven years is expected to occur by 2060. This, combined with low fertility rates, will lead to a dramatic change in Europe's age composition and, as a result, the old-age dependency ratio will double.
The large number of changes made to member states' pension systems represents the second challenge. As examples, the Commission cites labour market measures to improve gender equality, or encourage older workers to keep working. It also notes the move from single pension systems to multi-tiered ones, as well as measures to address adequacy gaps. And while people now have more choice, they are also exposed to more risk, it says. For reforms to be successful, "all pension schemes must deliver their part" and "risks must be well understood and managed".
The third challenge has been the impact of the financial crisis, a "wake-up call for all pensions". The Commission estimates that private pension funds lost more than 20% of their value in 2008, and that several sponsors of occupational funds have been "hindered" in their ability to honour obligations. "Variations in the ability of funded schemes to weather the crisis have demonstrated that differences in design, regulation and investment strategy clearly matter," it continues.
The financial crisis has added a "new dimension" to the reform agenda, one that highlights the need to make sure regulation is "effective and intelligent", given the growing role of pension funds. Almost as an admonishment, the Commission ends this section by reminding us the G20 Pittsburgh and Toronto summits had determined that all financial institutions should be regulated, and that there is a greater need for common rules.
As far as the Commission is concerned, the overarching priority for the European pension system is adequacy and security - "two sides of the same coin". To date, it says, most reform has been aimed at improving sustainability, but "further modernisation will be needed to address adequacy gaps". Because public pension replacement rates in most cases will decline, it says, member states must provide opportunities for complementary entitlements - enabling longer working lives, for example, or increasing access to supplementary schemes.
A second priority for reform is achieving a balance between the time spent in work and the time spent in retirement. The Commission tells us the time spent in retirement has increased considerably over the past century and that there are large variations among member states. No surprise there. But it also states that a typical European worker spends about a third of his adult life in retirement and that this share, unless people work longer and retire later, will increase substantially with future gains in life expectancy.
The paper is safe in saying this goes against member state commitments to postpone the age at which people stop working by five years (at the Barcelona European Council meeting). Yet the Commission offers few possible solutions on this front, save suggesting member states review tax rules or "adapt social and financial incentives" to work. It also asks whether automatic adjustment mechanisms related to demographic changes should be introduced to balance the time spent in work and retirement.
A third priority, and one the paper addresses at length, is the importance and difficulty of removing obstacles to pension mobility. It points out that current barriers to free movement are often the product of unclear definitions of ‘cross-border activity', a lack of harmonisation of regulation and the labyrinthine interaction between EU regulation and national law. "Removing these obstacles," it says, "may require a review of the IORP directive, further supervisory convergence and more transparency about national differences".
The paper calls not only for the increased mobility of the pensions themselves, but also for the strengthening of the internal market for pensions. The Commission says it wanted to set minimum standards for the acquisition, preservation and transferability of supplementary pension rights in 2005, but that the proposal was dropped in 2007 some them "technically difficult", "potentially burdensome" or "open to abuse". The paper goes on to lament that the unanimity needed in the Council to pass such a directive still has not been reached and calls for "fresh impetus" to reach a solution.
The fourth and final priority - and the one to which the Commission devotes by far the most ink - is the creation of safer, more transparent pensions by better educating workers and pensioners. As pension provision moves from single to multi-tiered systems, and from simple to complex pension packages, the "fragmented and incomplete character" of the European framework "may no longer be sufficient".
The paper points out that reforms have led to some funded pension schemes, both public and private, being covered by EU regulation in some member states, but not in others. Further, similar schemes are covered by different EU rules, raising issues of consistency. And the boundaries between social security and private schemes, occupational and individual schemes and voluntary and mandatory schemes are unclear. The Commission informs us international policy discussions have already questioned whether EU regulation can cope with the shift to defined contribution (DC) schemes and again moots the reassessment of the IORP directive in areas such as governance, risk management, the safekeeping of assets, investment rules and disclosure.
The paper also looks into how the solvency regime for pension funds might be improved. This section has proven to be the most controversial by far, judging by the reactions to date. In the paper, the Commission points out that the IORP directive's minimum prudential requirements include solvency rules for defined benefit (DB) schemes and that these rules are currently the same as those that apply to life assurance. Once Solvency II comes into force in 2012, it says, "insurance undertakings will be able to benefit from a three-pillar, risk-based solvency regime" - the question is, should this new regime also apply to IORPs? Even the Commission concedes that, among stakeholders, there is little agreement.
The paper also concedes that member states have taken vastly different approaches to protecting acquired pension rights. It says that, during a consultation process in 2008, stakeholders indicated a need for a "sui generis solvency regime" for pension funds and that it was "important to avoid pro-cyclical solvency rules".
The Commission says: "The Solvency II approach could be a good starting point, subject to adjustments to take account of the nature and duration of the pension promise, where appropriate. The suitability of Solvency II for pension funds needs to be considered in a rigorous impact assessment, examining notably the influence on price and availability of pension products."
One of the last issues tackled by the paper is Facilitating Informed Decisions, with the ongoing trend toward DC schemes "underlining the need for transparent and clear communication". The Commission says the IORP and Life directives contain information-disclosure requirements based on very little harmonisation and very different national approaches. "Moreover," it adds, "they were designed for DB schemes and may therefore need to be adjusted - it would seem important to review the key information specifically for pension schemes and products."
The Commission wraps up the paper with a fairly innocuous section on Enhancing Governance of Pension Policy at EU Level - or put simply, "working together". It points out that, while member states are responsible for the design and organisation of their respective systems, some areas relating to pensions fall directly within the EU's purview. It also reminds member states that acting together can be more effective and efficient, and that "the EU level can add value".
The tone of this final section is somewhat idealistic and probably meant to be galvanising. It is utterly devoid of anything that might be mistaken for a concrete proposal. "Pension policy," the rhetoric goes, "is a common concern for public authorities, social partners, industry and civil society at national and at EU level - a common platform for monitoring all aspects of pension policy and regulation in an integrated manner and bringing together all stakeholders could contribute to achieving and maintaining adequate, sustainable and safe pensions." Nothing controversial there.
But on 15 November, when the long process of sifting through all the responses begins, the Commission may discover that some are less than pleased to receive such a warm, brotherly embrace from Brussels. A board member of a Dutch pension fund recently emailed me to say he was "very worried" about the influence the EU was trying to exert and that he felt there was no common ground in the way member states regulated their respective systems.
"If the EU is trying to get a finger in the pension pie, this will be catastrophic for the Dutch," he says. "Inflation is very bad for the Dutch system, but for the other systems, it's very good. And because the majority of the member states - including Germany, France and Spain - have no pension capital out of savings, the Dutch, as a relatively small country, are indeed very worried their system will be affected."
The EU's influence, he concludes, must be kept to a minimum - "preferably kept to zero". Let the debate begin.