Yves Leterme is key-note speaker at the WorldPensionSummit in Amsterdam on 13 and 14 November. This Summit is the only worldwide platform for pension professionals. In this interview Mr. Leterme addresses a number of current key pension dilemmas. An outlook on future pension developments.
XPRIMM: We have been experiencing an economic crisis in Europe for many years now. What do you think will be the (short and long term) effects on pension developments and pension provisions within the Euro zone?
Yves Leterme: Pension reforms have been underway since the early 1990s in many Eurozone countries. The crisis has accelerated some of these reforms, in particular in countries such as Greece, Spain and Italy, where retirement ages were increased and benefit promises were often reduced. These are reforms which will show their effect in the longer term. In order to achieve shorter-term savings many countries are adopting or considering freezes of benefit levels, in particular of higher pensions. Pension savings took a hit in the initial phase of the crisis but now asset levels have recovered in most countries. The biggest challenge for private pension provision is now how to motivate savings in a climate of distrust in the financial sector and in a very low interest-rate environment, considering that in many countries fees and charges of pension management companies are still rather high, resulting in low returns for savers.
XPRIMM: Based upon the annual research by OECD, huge differences occur in the pension schemes and structures in the various countries. What are the key dilemmas for all nations out of the studies of recent years?
Y.L.: Despite the fact that, across the OECD, countries have very different pension schemes the challenges they are facing are remarkably similar. All countries are struggling with the same tension between financial sustainability and social adequacy of pension provision. In large pay-as-you-go systems, for example in Continental European countries, financial sustainability is the primary concern: how can the huge success of past decades in the reduction of old-age poverty be maintained while making sure that the costs of pension provision do not become too high for the next generations in the context of population ageing? Other countries with smaller public pension systems, such as the Anglophone countries or the Netherlands, are more concerned with ensuring adequate pensions in the interplay between public and private pension schemes. Depending on the systems in each country, the answers for a long-term reform approach will vary, but all countries are currently working on 3 tracks: encouraging people to work longer, protecting the most vulnerable when reducing benefits of public pension systems, and promoting personal retirement provision.
XPRIMM: Ageing will be a dominant issue. Do you perceive this is dealt with sufficiently?
Y.L.: Addressing population ageing will require a much broader view than most governments are currently taking. It is fair to say that the urgency of pension reform is recognized and countries have been acting on this, even though some of them have not gone far enough yet in reforming their retirement income systems. But ageing will entail much more policy action than just pension reform, and much more strategic thinking: what will our societies of the future look like? How will we deal with the old age care challenge? What will be the fiscal impact of ageing and what will this mean for social protection systems and the sharing of responsibilities between the individual and the state, between public and private service providers? And how can we maintain solidarity in a context of rising inequalities? Answering these questions will require comprehensive discussions and the design of holistic plans; so far we have seen little of this happening.
XPRIMM: What will be the impact on pensions in general and to what extend should governments be / or stay in control to secure sufficient pension provision?
Y.L.: Public pensions will remain the backbone of retirement income provision in the future. The crisis has shown how important the role of government in pension provision is, not only in the provision of the core of pension provision and in the prevention of old-age poverty, but also in the regulation and supervision of private pensions. Given the pace of population ageing and the pressure this is putting on younger generations, however, it is unlikely that private pensions will be rolled back significantly. While many people are now concerned about the risks of private pension provision, it also increasingly clear to most that public pension systems will not be able to provide all of the necessary retirement income on their own. Countries with smaller public systems are now also recognizing that private pension saving on a purely voluntary basis is unlikely to result in high coverage rates and sufficient contributions; they are therefore considering either soft compulsion, such as auto-enrolment, or even mandatory private pensions.
XPRIMM: Concern of the average pension age, the workability index for most countries is around 75 year of age. On average people stop working at 63 - 65. How can we bridge this 10 year gap? What should change, who should be catalysts (government / employers / third parties)?
Y.L.: The first priority has to be to get the effective retirement age up, i.e. the age at which people withdraw permanently from the labour market, and move it closer to 65 years which is now the normal pension age in most OECD countries. While many countries are moving this normal age up rapidly towards 67 years more still needs to be done to actually enable most people to work longer. This will require action on many fronts: governments need to phase out remaining incentives to retire early and offer more flexible solutions for combining work and pensions, employers need to provide better work environments, more training and adapted work schedules so that older workers can effectively remain in work in ways that are in line with their skills, experience and health status, and workers need embrace the fact that working longer is not only inevitable but also something that needs to be prepared for over the life cycle.
XPRIMM: What is your perception on harmonizing pensions in the EU? The differences are huge. Portability of pensions in schemes (employers) is scarce...there where we endorse free movement of labor.
Y.L.: Harmonizing pensions in Europe is a long way off. There are major social and cultural differences that will be difficult to reconcile. However, Europe needs to keep working at improving the efficiency of pension provision, particularly in the private pensions sector, by for instance lifting barriers to the cross-border provision of pension plans. We should be seeing more cross-border occupational pension plans in Europe and citizens should have access to Europe-wide personal pension arrangements, like the passport system that exists for UCITS. Scale and good governance also go hand in hand, and the truth is that in many European countries pension funds are just too small to be able to be managed at low cost. The consolidation of the pension fund industry should be in the policy agenda.
XPRIMM: There is a strong tendency towards the individual responsibility. Risks are moved to the individuals. Is that the trend to be? A DC structure on a personal basis? No solidarity and collectivity? Or do you see other trends and developments?
Y.L.: The move towards DC is widespread, not just in Europe but in many OECD countries and beyond. But we should not forget that the DB plans that they have replaced were not riskless. Moreover, there are both good and bad kinds of DC plans. Good types have high contributions and long contribution periods, low costs, mitigate investment risks close to retirement and offer efficient opportunities to transform the accumulated balance into annuities. We have summarized these criteria in our Roadmap for the Good Design of DC pension Plans which we published in June last year. Solidarity is best addressed through the public pension system. Risk sharing is also an option for private pension arrangements, but it seems to work best where you have industry-wide plans with a good record of employer-employee relations. Another option is to provide a performance guarantee, but these are costly and can lead to suboptimal investment strategies.
XPRIMM: How should the FSI anticipate? So far there are quite a lot of people (also in the West) who are illiterate and lack understanding in planning their financial continuity.
Y.L.: Financial literacy is a major challenge for DC pension systems. Governments have a responsibility to prepare the population for some of the major pension reforms that are taking place. But financial literacy is not enough. We know quite a lot from the behavioural economics literature about the limits of human rationality, the impact of cognitive biases and emotional factors on decision-making, and the common mistakes that even people well versed in financial matters can make. The more we rely on DC plans, the greater will be the need to help steer individuals towards appropriate choices. Governments face a tremendous responsibility in choosing appropriate defaults, such as default contribution rates, investment strategies and annuitisation policies.
By Harry Smorenberg & Eric Eggink, Chairmen of the WorldPensionSummit
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