Lifting the lid on the trade-offs
They say all roads lead to Rome. Well, they did recently for some key players in the European community’s pension arena, attendees to a forum on the pan-European pension funds directive organised by Mefop, the Italian foundation for the development of the Italian pensions market.
Among the speakers in the Eternal City was David Deacon, head of the insurance unit at the internal market directorate at the European Commission, and one of the architects of the directive.
“I think we should be aware that the Pension Fund Directive is a first generation directive,” Deacon says. He says the directive is about single funds across Europe not for transferring of rights. The directive does not make pension funds obligatory, but it gives them a secure framework.
According to Deacon the directive was a rushed political agreement, a bit “rough and ready”. “Clearly there’s a risk of inconsistencies between the text of the directive. Some of the drafting is not 100% clear.” The EU was working with national draughtsmen on the issue as well as on a protocol for cooperation between supervisors. “Let’s see if it works – if it doesn’t it may need recasting.”
For his part, Ambrogio Rinaldi, the director of Italy’s pension regulator La Commissione di vigilanza sui fondi pensione, or Covip, observes that the directive is “consistent with current trends in supervisory practices”.
Deacon says the directive was driven by ageing population demographics - plus it was a key element of the Financial Services Action Plan. “This gave us the political pressure and the political will to adopt the pension fund directive,” he says. “Without the FSAP we would not have had the directive.” He adds that major institutional investors will benefit from the FSAP.
Going forward, Deacon says the Commission is organising working groups for market practitioners. A wider consultation would take place next year.
The directive, he says, had a “long and difficult birth”. And he jokes that the Commission was happy to steal the European Federation for Retirement Provision’s ideas, albeit with a few minor changes.
Deacon says that there should be no interference in the organisation of national pension systems was one of the main objectives of the Commission – to respect “national diversity”. “Everybody agrees on that but doing it was more difficult,” he says. There were “huge variations” in prudential regimes applied to the second pillar. He points to internal financing via book reserves, as in Germany, or the pension fund system in the UK, Ireland and the Netherlands. And then there’s the life insurance model of, say, Denmark.
“There were huge differences in actuarial and accounting methods and methods of control,” he says. They were all equally valid but different.
As part of the FSAP, Deacon makes it clear that one of the objectives behind the directive to help free capital movement across the continent. “It was felt that pension funds could be a driver of Europe’s capital market. The spin-off was considered to be important.”
He makes it clear that the directive, which formally concerns “the activities and supervision of institutions for occupational retirement provision”, is an institutions-based directive. “It didn’t do anything to regulate the product.” There was such a difference in products that regulation at the product level was to be left to member states’ social and labour law.
Deacon outlines the four objectives of the directive. They are: security of pension, affordability and efficiency of pension funds , cross-border membership and a level playing field between providers. “We felt this was particularly important for insurers.”
In terms of security, Deacon says there are such “enormous differences” between member states that it is impossible to harmonise actuarial traditions. So the directive proposes minimum harmonisation.
On the affordability question, the much-debated “prudent person” investment rules – native to the Netherlands, Ireland and the UK - prevailed. The countries “thought they had served them well” and that such principles had “a good track record”.
“However there were some member states coming new to pension funds, so we allowed them to impose some rules,” Deacon says, referring to the debate between the prudent person principle and the quantitative rules that are more common on the Continent. “When it came to dealing with cross-border, things got even more complex,” Deacon says.
On the taxation question, Deacon is explicit. “Unless you get tax relief across borders the pension directive will be dead.” The current infringement proceedings against several European countries over their tax treatment of pensions was a step forward. “I’m pretty confident they’ll give us the legal security on the taxation front.”
What about the enlargement of the EU? “When we started work on the directive enlargement seemed a long way off. I don’t think the pension systems of the new 10 fit in with the directive. That’s something well have to look at.”
Some speakers were sceptical about the timetable. “A pan-European scheme will not be a reality before the end of the decade,” says Rudolf Symmank, head of funds and services for corporate pension schemes at DWS Investment in Germany.
On the subject of prudent person, or qualitative, rules in comparison to quantitative rules, Rinaldi of Covip says: “It is difficult to say which is better. Strict quantitative rules can minimise investment risks.” He adds: “There was an effort made to reconcile the two goals – security and a certain degree of pension.”
Mefop chairman Marcello Messori says: “I think the prudent person principle in the directive doesn’t imply a strict management style.” He points to the difference between an ‘Anglo-Saxon’ common law approach and the codified system of law seen in continental Europe. There was “a very interesting challenge to be faced in continental Europe”.
Raffaele Capuano, head of financial market regulation at Italy’s Ministry of Economy and Finance agrees that the directive is also on the important stages of the FSAP. “You need to take on board the certain choices made in the directive,” he says, though adding that “some aspects may appear less than satisfactory”.
Capuano also recognises that there was “difficulty of drafting a wording that would be acceptable across Europe – we made certain tradeoffs”. “Those focused upon excluding book reserves, small funds and PAYG. He agrees with Deacon about taxation and portability. “It is not possible to tackle these issues this directive.”
Capuano remarks, in reference to the disparity between the prudent person and quantitative principles: “We had to render compatible a number of different approaches.” The compromise that was eventually hammered out at the European Parliament he terms “prudent man plus”. He adds: “We really had to bend over backwards on harmonisation” with regard to the formal authorisation of the funds.
There was a “trade-off situation” Capuano says, with the need to maintain quantitative thresholds, or “objective parameters which allow the fund manager a more secure basis”.
Paragraph five of Article 18 of the directive states: “Member states may, for the institutions located in their territories, lay down more detailed rules, including quantitative rules, provided they are prudentially justified, to reflect the total range of pension schemes operating by these institutions.”
But Capuano stress it was not a question of being at loggerheads over this issue, more that there needed to be a bridge between common law and the codified system. “The national systems are very very different from each other.” The ‘prudent person plus’ idea was a “tangible way of progressing”.
Mefop chief Messori saw that the implications of the directive were “less dramatic than expected”. But there were possible criticisms of the directive in that it put more of a focus on financial aspects than on workers’ rights to mobility.