D iscussions on the reform of the Finnish first-pillar pension system, the TEL, started some years ago, with positive developments in this area at the end of last year. The most controversial issues in the debate between government and the unions are those related to early retirement and pensions calculations. It long seemed unlikely that agreement could be reached.
The government, seeking to push the reform forward, told the social partners that if they could not agree on issues such as retirement age and pension calculation it would take the issue out of their hands. This threat proved effective. Not long after, an agreement was signed that will lead to major changes in thepensions system, although some confusion remains on the exact nature and timing of some proposed reforms.
The current legal pension age in Finland is 65, but it is possible to take early retirement at 60. It is expected that the penalty for retiring early will be increased under the new plans. The pension reforms aim to increase the average retirement age by reducing the various channels out of employment, among other measures.
On the other hand, however, under the new legislation pension calculation, which normally starts at 23 years of age, could also be lowered. During the negotiations there were mixed feelings over whether the calculation of retirement benefits should be based on final salary or smoothed over a career, and it was agreed that there will be a trial period from 2005–10, during which there will be more negotiations until a final consensus is reached.
Although the impact that the reforms will have in the Finnish pension market as a whole have yet to be seen, the new framework aims to find solutions to the problems the system will face in the near future because of the ageing population, and could definitely affect the second-pillar sector when it finally establishes a new retirement age and different ways to calculate pension benefits. Although the law has been passed, no major changes are expected to take place until next year.
Finns have also been concerned about the tax and fiscal treatment of pensions vehicles. These topics have recently acquired a greater significance, not only in the Finnish domestic market, but also across Europe, because of the developments regarding the much-discussed Danner case. This case – involving German-born Rolf Dieter Danner, who challenged as contrary to an article of the EC Treaty a Finnish law that taxes pension insurance contributions made in Finland to foreign institutions – has been taken to the European Court of Justice, which is expected to make public a final decision this month. If the verdict is in Danner’s favour the consequences for the development of pan-European schemes will be significant, and would no doubt set a precedent that might help to change inconsistent tax laws across the EU.
While awaiting for this decision, institutional investors in Finland are also getting ready for the changes affecting the first pillar and hoping for the recovery of the financial markets. Underperformance in the equity markets has not affected Finnish pensions funds as much as some of their European counterparts thanks to the more conservative approach of the Finns. Nevertheless, there are fears for the future. Risk management has become one of the most important topics discussed in the market. Some institutional investors have moved into passive management, unhappy with the performance of active managers. Passive management has also been the choice for new pension funds starting from scratch. This is the case of the e300m Suomen Pankki pension fund, a newly-created pension scheme for employees at the central bank of Finland, which in March announced a tender to find managers to run a €250m passive equity and Euro-zone bond mandate.
As well as indexation, corporate bonds, small caps and, to a certain extent, alternative investments are other investment options that are attracting Finnish pension assets at a time when institutional investors are rethinking their approach to investments.