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FUNDED PENSIONS IN CENTRAL AND EASTERN EUROPE Design and Experience

FUNDED PENSIONS IN CENTRAL AND EASTERN EUROPE Design and Experience. Agnieszka Chlon-Dominczak Geneva, October 9th, 2003. Countries implementing mandatory funded pension schemes. Population ageing. Dependency rate (65+/15-64). Pension expendiutre. Reasons for the multi-pillar reform.

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FUNDED PENSIONS IN CENTRAL AND EASTERN EUROPE Design and Experience

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  1. FUNDED PENSIONS IN CENTRAL AND EASTERN EUROPEDesign and Experience Agnieszka Chlon-Dominczak Geneva, October 9th, 2003

  2. Countries implementing mandatory funded pension schemes

  3. Population ageing Dependency rate(65+/15-64)

  4. Pension expendiutre

  5. Reasons for the multi-pillar reform • to make the pension system sustainable in long run • to reduce implicit pension debt • to diversify risk • to achieve better balance between collective and individual responsibility in the pension system • to encourage additional savings • to develop and strengthen financial markets

  6. Design

  7. Minimum pensions

  8. Changes in the PAYG • to balance public pension expenditures • to create room for financing the transition costs

  9. Contributions • Tax treatment: usually EET • Size of contributions to funded component depends on capacity to finance transitions costs

  10. Participation in the funded pillar

  11. Transition costs • Size depends on: • policy choices • contributions • members of funded system • individual choices • Examples: • Poland: 1.6% of GDP • Hungary: 0.6% of GDP • Financing: • current tax revenues • savings on pensions • future revenues (debt)

  12. Contribution collection

  13. Supervision

  14. Licensing • financial requirements: • minimum shareholder capital, • legal provisions and quality check: • presenting draft articles of association for the approval of the supervision • business plan • information on the quality of the managers

  15. Investment limits Min 50% in state bonds Min 50% in state bonds

  16. Foreign investment • In Estonia: only investment in specified categories of foreign investment, no quantitative limit

  17. Rate of return guarantees: Relative to pension sector Kazakhstan Poland Croatia Relative to benchmark: Hungary No rate of return guarantee: Latvia Bulgaria Estonia Macedonia Financing of guarantees: Mandatory reserves Hungary Kazakhstan Poland Bulgaria Estonia Guarantee funds Hungary Poland Estonia Guarantees

  18. Payouts • Mandatory annuity: • Hungary (pension fund or insurance company) • Poland (providers not decided yet) • Croatia (specialised companies) • Bulgaria (licensed companies) • Estonia (licensed insurance companies) • Several options: • Latvia (various annuity types - joint, variable, deferrals) • Macedonia (annuity or scheduled withdrawal) • Kazakhstan (once the system matures - annuities, currently lump-sums are allowed)

  19. Transparency and accountability • Annual statements • financial statements • investment structure • shareholders structure • Valuation of assets • Information for participants • individual accounts (by mail, also by Internet or telephone) • Web site • Publishing investment results

  20. Experience

  21. Members

  22. Membersage distribution • Similar age pattern in Poland and Hungary, despite different switching policies • Other countries: • in Estonia: 45% in the age group 20-25 and 32-34% in age group 26-60, fairly equal distribution

  23. Number of funds

  24. Kazakshtan 100% Latvia Estonia Hungary 80% Poland Croatia 60% % of total members 40% Bulgaria 20% 0% 1 2 3 4 5 6 7 8 9 10 Concentration • Significant share of state funds in Latvia (76%) and Kazakhstan (46%)

  25. Average size

  26. Market structureTRANSFERS BETWEEN FUNDS • Fewer transfers among funds than expected: • in Hungary around 1% of members changed funds • In Poland the number of changes is growing: • 1.4% in 2000 • 1.7% in 2001 • 3.1% in 2002 • in Kazakhstan: • mostly transfers from state to non-state pension funds • share of state pension fund decreased from 82% in 1998 to 46% in 2001 • smaller movements between private funds • in Latvia: • in 2003 c. 12% participants changed from state to private pension funds

  27. Assets(USD MLN)

  28. Assets • Role of pension funds as institutional investors:

  29. Investments

  30. Design of funded systems: • Countries tend to limit: • types of charges • contribution based • asset based • performance based • transfer fee • levels of charges • for all or for selected charge types • Charges deducted only by managers • In few cases: specific charges can be paid directly from pension fund assets

  31. Charge design in the region Source: Agnieszka Chlon-Dominczak, Funded Pensions in Eastern Europe and Central Asia: Design and Experience Paper prepared for the World Bank in co-operation with FIAP (2003)

  32. Impact of fees in selected countries

  33. Charges - actual performance: • Charge levels are different across countries • They reflect the legal design, supervision practices and competition • Economies of scale are hardly observed

  34. Charges vs. size of pension fundsKazakhstan and Poland: Kazakhstan 2001 Poland 2002 • Charge level does not depend on the pension fund size • Some economies can be seen in Kazakhstan • In Poland - bigger funds charges are higher

  35. Early experience with costs • Costs of initial year high: • driven by sales and advertising • Reductions in following years • Some costs imposed by the law • costs of guarantees and mandatory reserves • costs of reporting • costs of supervision

  36. Charges vs. size of pension fundsKazakhstan and Poland: Kazakhstan 2001 Poland 2002 • More economies of scale than in the case of charges • In Kazakhstan - stronger than in Poland

  37. Rates of return • Kazakhstan: • relatively high real returns, little disparity between funds • significantly better performance of state fund - different asset allocation • Poland • lower, but still above zero real returns • large differences between funds • Hungary • lack of comparable data • in 2001 net fund returns at 6.1%

  38. Administrative costsPOLAND

  39. ConclusionsMEMBERS AND MARKET STRUCTURE • Overswitching or underestimation? • distrust to the public system • belief in private savings? • Large concentration: • biggest funds: bank or insurance backing • more efficient sales? • earlier presence on the market? • Little changes between funds • design worked? • outflow from public managers

  40. ConclusionsASSETS AND INVESTMENT • Assets will be growing at a fast pace • Increased investment in equity would be desirable • to diversify risk within pension system, not only within funded pillar • Necessity to increase foreign investment limits

  41. ConclusionsCOSTS AND CHARGES • Costs still relatively high • Necessity to work on the cost reduction: • eliminating excessive guarantees • increasing client’s awareness

  42. Conclusions • Trend towards multi-pillar schemes: • Implemented in 8 countries • Considered in Slovakia • Experiences up to now: • high participation • fast increase of pension savings • concerns regarding transition financing

  43. Issues for the future • Elements of success: • prudent supervision • prudent investments • equity • foreign investments • transparency and accountability • keeping costs low • re-thinking guarantees

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