George Coats assesses the impact of introducing a mandatory minimum pension in Norway.
In January 2004 an all-party commission chaired by former finance minister Sigbjørn Johnsen released its proposals for the reform of the Norwegian pension system. Among its recommendations was that all employees be given an occupational pension. A general election and the formation of a new government later, the requirement for all private sector employers to provide their workers with a minimum mandatory occupational pension (MOP) came into force in mid-2006.
"The reform was initially intended to address the demographic situation and slowing the growth of public expenditure through parametric changes, and it is fairly moderate," says Arne Grande of Norwegian newspaper Dagens Næringsliv.
"We have a universal pension state old-age pension for everyone, the Folketryg- den, and in addition all public and most private employees, so 60%-plus of the workforce, have an occupational pension on top of the Folketrygden and together they are intended to give us around 66% of our former pay. Then they added this system for people not previously covered by an occupational pension, in service industries and so on, areas often dominated by women who previously had nothing in addition to the state pension."
"They have redesigned the pension accumulation formula for the first pillar," says Pål Lillevold, managing partner at consultancy Lillevold & Partners. "In general terms the level of benefits will be governed by the life expectancy of a cohort, so the finances are neutralised against increases in life expectancy."
"The reform had a dual purpose: on the one hand to create a more sustainable pension system in order to cope with the demographic development we see in Norway and other countries, and the two main elements there were to make a closer link between the working life on the labour market and the pension system, and on the other to create a closer link between the financial savings through the oil fund and the future demands of the generation account, which resulted in the Petroleum Fund being renamed the Pension Fund and linking it to demographic developments.Those were the two economic approaches," says Johnsen.
"Then in the latter part of the commission we started to discuss the mandatory pension scheme related to those groups that didn't have such a system, and to build a pension system that now consists of three elements: the mandatory state pension scheme, the Folketrygden, that consists of two parts - a guarantee, or minimum, pension and the wage-related pension on top of that - and then the mandatory occupational pension scheme as a third part."
"At the time employer organisations were seen as having to accept the mandatory occupational scheme as part of the cost of getting the unions to accept the larger pension reform with the attendant cut in pension levels," says another former minister.
"The intention was to give every employee a pension, and that was a very important point," says Alexander Henriksen, adviser for pensions and insurance at the Confederation of Norwegian Business & Industry (NHO).
"It was felt that every employee should have both a first and second pillar pension, that it should be possible to save for one's own retirement. The employer decides what sort of arrangement it wants for its employees and although a DB option was available, most companies chose to fulfil their obligations with a DC scheme. But the expectation is that this pension scheme will compensate for the future reduction in the social security pension resulting from the reforms of the first pillar."
"There is a concern that the fact that they have a pension plan may create expectations that are beyond what will actually be provided given that the contribution level at 2% of a salary above a certain threshold, is very moderate," says Lillevold. "So the influx of new money has not been very substantial."
"It is not a lot of money, it is a lot of companies paying small amounts and so it really doesn't show up in statistics at all," says Christian Fotland at consultancy Gabler Partners. "As a result the large insurers are bleeding, selling it well below cost, it's an extreme loss leader."
"Although it is also possible for banks and mutual fund managers to provide these plans the vast majority have been written with life insurers," says Lillevold. "One reason is that by tradition life insurers are seen as the appropriate forum for this money in Norway. In addition, it is a mandatory requirement to couple it with provision for disability insurance and that is exclusively a product from a life insurer. So while it is also possible to have ordinary pension savings with a non-insurance financial institutions and provide the insurance coverage separately it nevertheless put the life insurers into an advantageous position."
"There was a competitive environment surrounding its launch and it was seen as important for the existing life insurers to get in at low cost" says Fotland. "They expected a lot of competition from the banking sector and the mutual fund industry, and they are not used to pricing services below cost so once you have a service that is priced below cost the life insurer will basically win because they can cover the whole loss on what they make on everybody else's pension schemes."
Although the legislation made no attempt to cap fees, employers' groups had indicated they would take a close interest in costs.
"When the DC schemes were first introduced in 2001 the new schemes' administration and asset management costs were quite high, with the asset management fees coming in between 2.5% and 4%," Henriksen recalls. "But the costs of the asset management were charged to the employees and not to the employer. We decided that this did not stimulate competition because the employer buying the scheme did not have an incentive to find a pension provider with low asset management costs. Consequently, after the introduction of the mandatory pension scheme we decided that we wanted to charge the cost of the asset management to the employer to make sure he had the incentive to pick the most competitive provider.
"And we established the procurement association because we didn't believe there was enough competition among the pension providers, because even a DC scheme is complicated and because we feel that the pension providers did what they could to muddy the waters, to make it less obvious to the customer what would be in his interests." The mandatory pensions scheme has provided 700,000 employees who previously did not have a pension with one. The 17,000 companies in the NHO employ 450,000 people," Henriksen says.
"Of those some 4,000 employers, with 70,000 or so employees, are in the procurement association, so it represents approximately 10% of the mandatory pensions market," he adds.
"To give an idea of the saving in costs, an employer with 10 full-time employees would be required to pay contributions of approximately NOK40,000 [€5,200] in the first year. In 2004 administration and asset management fees would have added an additional NOK18,578, so around 46% of the contribution, with the employee paying the asset management fee. However, this was not very clear cut because the insurer would try to make most of the costs look like asset management costs. After the introduction of the procurement association and the fact that we elected to charge the asset management costs to the employer, the same type of plan with the same total yearly contribution the fees would be NOK943, so 2.3% of the contributions."
"There was a lot of competition to get the new clients and they had to do it in half a year, thousands of new contracts in six months, so it was a struggle to get a hold of that market," says Rolf Skomsvold, secretary general of the Pension Fund Association.
"At 2% of a salary the mandatory obligation is quite small so it will be several years before it has any impact on how pensions in Norway are invested. It's all DC, and the members can choose what sort of investments they want. The companies give the employees a choice between risky, less risky and safe plans."
"The employer chooses the provider and not only did most go for an insurance option, they basically chose the top two life insurers, Storebrand and Vital," says Fotland.
"We regard it as an important market," says Jan Otto Risebrobakken, head of communications at Storebrand.
"About 700,000 employees got pensions schemes last year as a result of the MOP plan and we got about 35% of that market by annual premium."
But has the pricing structure not meant that gaining this market share was something of a pyrrhic victory?
"Competition did drive down prices and increased price pressure has been felt in the whole DC market," says Risebrobakken.
"I think there will be a general downward shift in prices. It is hard to say how far and how fast it will go, but the trend is fairly obvious. But through this whole MOP experience the number of Storebrand business customers rose from about 9,000 to 24,000 during 2006. And we have managed to cut costs. The thing with pension schemes is that once they're bought they must be maintained and that means a lot of administrative work. But with very low MOP prices clients get a very basic service concept from us, they have to do a lot of the work. So we had to develop simpler and better solutions based on IT to enable the businesses to log onto our site and, for example, record changes to employees' salaries themselves. And there is a spill over from this into the rest of the DC market, both because with the increased number of customers we benefit from reduced costs and because we can differentiate prices to a greater degree. As a trend customers are definitely more cost conscious so if a client requires a lot of service from us they will have to pay for it but if they are willing to accept a lower service level and do more themselves they get a lower price."
"We don't talk much about the mandatory pensions any more, it's done, it was something that happened in 2006," says Thomas Skålnes, communications director at Vital.
"Now we look at it like an ordinary part of the pension system. Of course the price competition has influenced the DC product in general. Companies are asking why, if we can do the mandatory pension for so low a price, are we charging them more. But we have to look at the low price of 2006 as an entry fee set the opening of the market. We believe the income will rise in the future. And we are working to get the regulations changed so the level of contributions could be increased in the future. The maximum saving allowed in DC schemes today is 5% on salaries up to around NOK360,000 and 8% on salaries up to about NOK720,000. So there is considerable potential for an increase in mandatory contributions to that level. And in addition, we also want the employees to be able to make additional, third pillar-type, payments into the same mandatory pension. So we think it is a very interesting part of the market with a very interesting growth potential."