Reality of funds moves closer
Otto von Bismarck, first Chancellor of the German empire and ‘founder’ of the social security system in the second half of the 19th century, used to compare laws to sausages because for both he said: “It is better not to see them being made.”
In today’s political and regulatory environment, in particular when looking at the EU pension fund directive, von Bismarck’s view would be misleading. It is crucial to have a full understanding of how the law has been ‘packed’ by the European Parliament and by the Council of Ministers, and how it will be ‘cooked’ by the member states. It tells us if it will be ‘eatable’ for the final users, such as corporations.
The EU pension directive – inspired by the British experience, but conceived from and for a European approach – essentially stands for three things:
q It establishes the basic conditions to set up a fund in any EU country irrespective of the location of the sponsor, the members and the service provider;
q It makes cross-border affiliation possible, irrespective of the location of the employees and of the employer;
q It liberalises investment rules, while protecting the interests of members and beneficiaries.
This last point has been the subject of the most heated debate at the parliament and within the council during the decision-making process. It was considered so peculiar that it could have compromised the adoption of the law. On the one hand, there were those resisting any form of liberalisation of assets management, mainly based on the ideological a-priori that the restrictions existing in several continental European countries were the only way to protect the interest of fund members. On the other hand, there was the European Commission and those pleading for the freedom of choice with the consequence of enabling a more efficient use of financial resources and a better return on investments over the long run, as proven by market experience.
At macro-economic level, such liberalisation would have also encouraged the expansion of the European capital market and promoted its integration, while removing the barriers built over decades to artificially protect the local capital markets. The victory of the liberal front favouring the so-called ‘prudent person’ rule against one-fits-all set of quantitative restriction clauses, which provide limits in the form, amount and location of investments, was made possible by the convergence of a cross-party and cross-country coalition that fully appreciated the strategic value of such a move for the European economy.
The directive opened the way to an investment policy adapted to the characteristics of the particular fund and, following the assessment of the scheme’s profile, is designed to ensure the ‘security, quality, liquidity and profitability’ of the entire portfolio.
The level of restrictions which still remain in the EU directive, for example, that assets shall be predominantly invested on regulated markets or the threshold fixed for investment in the sponsoring undertaking, are well in line with best market practices. The possible exception allowing member states to
introduce more stringent rules is also quite limited in scope when interpreted correctly within the rationale of the law. Any additional limitation will be subject to the test of the prudent person rule, and any departure from such concept should be considered unlawful. In the end, the impact of the directive on asset allocation will result in a greater diversity of the portfolio composition and in a more rigorous risk assessment process.
But how close are we from the effective implementation of these principles? How are the many grey areas of the pension fund directive which may lead to different national interpretations being dealt with?
Thre can be a sense of frustration after the excitement that some may feel on the status of implementation of the pension fund directive. Since the adoption of the directive in 2003 there has been a lot of talk. Little action has been taken for realising the European law that still needs to be transposed by all 25 EU member states by September 2005. Such delay is normal because almost all new EU directives include a transitional period for member states to comply with the EU provisions, so governments often wait until the last minute to do so.
However, in the case of the pension fund directive, given the issues of interpretation at stake and the gap to be fulfilled by many countries, without a more pro-active engagement by policy-makers and other European stakeholders, the ‘grace’ period risks take as long as a beatification process in the Vatican. Time is a virtue for business; hopefully member states will understand it.
The good news is that in October 2004, the EC launched an ex ante platform of discussion with member states to help them in the national transposition process, focusing on the issues identified as a potential source of difficulty. This initiative is a useful and practical complement to the work by the ad hoc working group of the European Insurance and Occupational Pensions Supervisors that is currently drafting a co-operation protocol for the use of the supervisory authorities and due to be finalised by the end of May, following a consultation launched at the end of February.
Both initiatives and the commitment taken by the new commissioner in office, Charlie McCreevy, towards a better follow-up of national implementation, will help to bring pan- European pension funds a step closer to being realised.
Leonardo Sforza is head of research and EU affairs at Hewitt Associates in Brussels