The silent pension pillar implosion

Abstract

This article discusses recent trends in occupational pension policy and identifies the rise of a second policy wave directed towards greater individualisation in occupational pension plans. It is clear that, at a global level, governments and regulatory offices are promoting the so-called third pillar as a valuable pension option and that freedom of choice of the individual is a key element in this process. This individualisation reflects the decreasing involvement of employers in occupational plans and the increasing attentiveness of governments towards individual retirement schemes. We ask whether the so-called first and third pillar are pushing the second pillar away and whether there is a silent pension pillar implosion.

In the article, we describe and analyse recent legislative and regulatory initiatives in six European countries to locate the individualisation process. We also propose a new paradigm for pension policy makers in which the so-called pension pillars are abandoned and replaced by an integrated pension vision leading to a balanced target income in retirement. In this integrated vision, there is a legal link between all forms of pension in a given country. This link is reflected in social and fiscal law.

Keywords

pension policy individualisation personal or individual pensions occupational pensions silent pillar implosion integrated pension vision

Introduction¹

When it comes to pensions, we live in a rapidly changing world. Only one generation ago, people in many countries could retire with a decent occupational DB scheme often offering annuities. It is unlikely that the children of today will have similar pension benefits when they retire. Due to the de-risking process, it is plausible that only statutory pensions or individual pensions will remain. Occupational pensions whereby employers or branches of industry take up a vital role seem to have grown less attractive on an international scale. Furthermore, where employers still play a vital role in occupational pensions, their involvement seems to lessen in private or individual pensions because of reduced responsibilities and liabilities.

Individualisation 1.0 and 2.0

Orenstein points out, quite correctly, that the main or key considertion in pension privatisation is to fund pensions through individual private savings accounts.² Increased reliance on these accounts is a means of funding retirement benefits over time. Private pension savings accounts are thus meant to achieve several goals that are considered consistent with neoliberal economic policy³: They include

increasing overall savings and economic growth⁴;

providing a more sustainable means of financing pensions in the face of demographic aging;

reducing the role of the state in pension provision, and

giving individuals greater choice and control over retirement decisions.

Numerous authors have pointed out that international organisations such as the OECD and the World Bank have played an important role in pension privatisation in the last decade.⁵ The main result of this international or transnational campaign is the well-known worldwide decline in DB plans.⁶ DC plans are progressively taking over and some countries, e.g. Italy, even forbid DB plans.⁷ We can call this shift towards DC ‘individualisation 1.0’. In this shifting process, the so-called three pillar model is considered pivotal. In this model, the second pillar is, preferably, a mandatory occupational pension. However, many countries choose or have adopted a voluntary scheme instead of an obligatory one.⁸

Still, in this ‘individualisation 1.0’ process, occupational pensions and, thus, employers played (and still play) an important role. Employers are even protagonists. The current wave of individualisation goes further and diminishes the employers’ role. This ‘individualisation process 2.0’ is about a further de-risking or risk shifting whereby the role of the employers diminishes during the accumulation phase. The individual is considered to be an independent, self-reliant and well-informed person making the right choices at the right time.

‘Individualisation’ is about shifting the risks and fits into a worldwide ‘individualisation culture’

There are many risks related to the various forms of pension. These risks vary from macro to micro economic risks such as demographic changes, longevity, investment performance, career breaks, guarantees on the individual or the state level, the bankruptcy of employers, pension providers or even individuals, unexpected regulatory changes, financial and economic crises (short-term cyclical or long-term crises including investing poorly and paying high fees).⁹ For each of these risks the question arises of who should bear the (most) risk. How are the risks to be shared? This can vary greatly between forms of pension. It can be society at-large, often represented by some state organ, a branch of industry, an employer, a group of employers, a group of individuals or a single person. The answer to where the risk lies is also reflected by the type of pension utilised. This can be a social security benefit, a means tested benefit, a financial product, a collective insurance, an individual insurance, a social insurance, a subsidised social insurance, a savings product or a combination of one of these types.¹⁰

When it comes to occupational pensions, the main forces driving evolution globally are clear. The long-term investment performance risk, the short term cyclical risk, the longevity risk and the risk of underfunding are transferred to the scheme members.¹¹ This process of risk shifting should be understood as an individualisation process.

This process is embedded in cultural-societal changes. In 1995, Hofstede pointed out that pensions are immaterial products which are subjectively valued.¹² The significance attached to pensions is based on the dominant and historically embedded values within a society and the contemporary welfare state.¹³ So these values vary between countries and between so called ‘welfare cultures’. For a large part of the European continent these values used to be based upon solidarity, societal cohesion and collective predictability of social risks.¹⁴ According to Hofstede, one should not underestimate the strength of the national cultural differences when it comes to (social) insurance.¹⁵

We believe Hofstede is right and that the argument can be taken even further: a cultural-societal shift is occurring and it is called individualisation. This shift is taking place worldwide and can be linked to the process of economic and cultural globalisation.¹⁶ Individualisation as a cultural worldwide shift has been extensively studied since the 1980s.¹⁷ The most common or accepted definition and explanation of this shift in sociology is that of Beck and Gernsheim. They explain the phenomenon of individualisation as a reaction to societal changes in late modernity whereby individuals are increasingly required to construct their own lives.¹⁸ In this theory, a prominent place is reserved for individualism, which is not only linked to an increased the individual’s desire for personal development and growth but more even more broadly, to the decline of civil society in general. Civil society can be seen as the combination of all types of organisations (mostly non-governmental and non-profit organisations) in a community representing different groups, opinions and interests. These organisations bridge the gap between individuals and politicians or government and ensure that the government’s policies reflect the interests and values of its citizens.¹⁹ The organisations can be based on ethical, cultural, political, scientific, religious or philanthropic considerations. They are often initiated and sustained on the basis of voluntary workers. The worldwide decline of civil society is often considered key to understanding the individualisation process.²⁰

The process of individualisation is generally accepted as a current societal evolution.²¹ In this respect, no one should be surprised that it also trickles down to the (occupational) pension field. Perhaps it is not as much the fact that individualisation is happening in the pension field that is remarkable, but rather the speed with which it is happening.

Individualisation in occupational pensions

In this section we look into the occupational pension individualisation process in Europe and in six European countries. We only refer to recent policy or regulatory changes, i.e. to those occurring within a maximum period of five years. This five-year period is a testimony to the speed with which the process is taking place. We look at six countries in which we believe the pension policy changes reflect individualisation and risk shifting towards the individual.

Europe: PEPP

In terms of its impact, one of the largest, if not the largest, policy change in Europe is on the European Union level itself.²² With support from the European Commission, EIOPA (the European Insurance and Occupational Pensions Authority) has been working on an individual European pension product the past five years. This European standardised personal pension product is usually abbreviated as PEPP.²³ In July 2016, EIOPA issued advice on the development of the product after serious rounds of consultation. It is clear that EIOPA is seeking to develop a EU single market for personal pensions in which these pensions will, at least according to EIOPA, ‘contribute to meeting the challenges of an aging economy, the sustainability of public finances, the provision of adequate retirement incomes and foster increased long-term investment.’²⁴ EIOPA believes that such a European individual pension system will increase multi-pillar diversification. PEPP thus stands for a European third pillar, or individual pension product, that is supported on a European scale. The features of such a PEPP or European third pillar savings are:

Standardised information provision based on the proposals of a KID within the PRIIPs framework;

Standardised limited investment choices and defining one default ‘core’ investment option, where the investment strategy takes into account the link between accumulation and decumulation;

Regulated, flexible, biometric and financial guarantees;

Regulated, flexible caps on cost and charges;

Regulated, flexible switching and transfer of funds; and

No specification of decumulation options.²⁵

In short, PEPP is a kind of European individual third pillar that is fiscally promoted through national legislation. EIOPA truly believes in a three-pillar model in stating that ‘in addition to public pay-as-you-go pension schemes and occupational retirement savings, personal voluntary pension savings can help secure adequate replacement rates in the future.’²⁶ In its’ advice EIOPA looks at the merits and demerits of the system. Nevertheless, EIOPA does not look into the possible effects that the creation of PEPP might have on occupational pensions. Likewise, the European Commission does not explore possible negative side-effects. In September 2016, the Commission reacted positively to the EIOPA advice in a paper entitled ‘Capital Markets Union: accelerating Reform.’²⁷

This lack of vision on the possible interdependencies between the forms of pension from both EIOPA and the European Commission is surprising. It is well known that there are policy effects between forms of pension or pillars within countries. If a country promotes, either fiscally or socially, one of the pillars, the other pillars are affected by this.²⁸ The reason for this kind of ‘contamination’ is clear. The average budget available for pension provision is always limited. The creation of other forms of pension does not in itself create a larger budget for pensions. Thus, where one form receives additional subsidies, these funds must be extracted from the budget of other forms.

Considering the above, if PEPP becomes a true pension form, then there is a new player in the pension policy playground. If the fiscal advantages are large enough, then this new kid on the block might kick out some of the employers that are now carrying some of the risks in the pension field. The strange thing is that EIOPA either seems to flatly deny this or fails to consider it a worthwhile evolution, although they write: ‘Especially since consumers are increasingly bearing risks, notably with the shift from Defined Benefit to Defined Contribution occupational pensions, they will also need to increasingly take greater personal responsibility for their retirement through supplementary private pensions as a result of the ageing of the European population.’²⁹ With this, EIOPA acknowledges the individualisation process but it simultaneously fails to consider the larger impact this process has on other forms of pension.

Not surprisingly, some players in the occupational pension field have responded to these European plans. The Dutch government and Germany’s occupational pensions association (ABA) have been actively critical and have responded outright negatively. These bodies have indicated that the ‘first choice’ when it comes to supplementary retirement income should be occupational pensions rather than personal pensions.³⁰ The German association said it was not only against EU-wide harmonisation of personal pension regulation, but also against the introduction of a so-called second regime in the form of a pan-European personal pension product.³¹

Individual countries

The shift from DB to DC in occupational pensions was worldwide and it took roughly 25 years to reach its full extent. The current individualisation wave has only just started and, much like the first shift, will not be completed all at once. It is an incremental and non-linear process proceeding at different speeds in different countries. Like the shift from DB to DC, some countries tproceed faster than others. In this section, we look at some specifically chosen countries (in alphabetical order) in which we believe the second individualisation process can be clearly documented from a policy perspective.

Belgium. ³²

There are two main types of occupational pension plans in Belgium. The first type is employer based. Occupational pensions form a kind of deferred salary. For both employers and employees there are substantial fiscal advantages.³³ The second type is sector wide. Entire branches of industry offer occupational pensions to employees based on collective bargaining. These pensions are ‘paritarian’ in that the social partners make collective bargaining conventions.³⁴ In the Belgian pension landscape, the non-mandatory character of the occupational schemes is important. Employers (first type) or social partners (second type) are not obliged to provide occupational pensions. Occupational pensions are therefore voluntary. Nevertheless, if employers or social partners do provide these pension types, then there are rather stringent non-discrimination rules. There can be no discrimination between employees when it comes to coverage or contributions if they belong to the same category of employees. Hence, occupational plans in Belgium are, generally speaking, considered collective by nature. Approximately 70 per cent of the Belgian working population is covered.³⁵

The current Belgian government has repeatedly stated that they wish to open up the system and increase coverage.³⁶ In the initial state of the union of 2014, it was proposed that individuals should be allowed to top-up their statutory social security pension.³⁷ This was clarified in October 2016 by the minister of pensions.³⁸ According to governmental plans, individuals will be able to top-up their occupational pension plan by supplementary or extra personal contributions. Those who are not yet covered by an occupational pension plan can opt for an ‘individual occupational pension’ with the same fiscal treatment as the existing collective plans. Therefore, an employee who is not yet covered can ask his employer to start such an individual plan. The employer will have to contact a life insurance broker who can then offer the life insurance to the individual. The employer’s responsibility is thus limited to the administrative burden of contacting the broker and timely paying the insurance company from the remuneration of the individual.

The so-called ‘academic council on pensions’ and the ‘pension fund industry’ has already reacted to these plans.³⁹ They claim that the government has chosen a dangerous path because it threatens both the collective and paritarian nature of occupational pensions. If individuals can choose an individualised occupational pension plan then, in the long run, this will disincentive employers from investing in collective occupational plans where, at least partially, they carry some of the risks. From Belgian employers’ perspective, it would not be unwise to opt out of the collective pension plan and allow individual employees to choose what they want if this is indeed fiscally neutral for them. If employers can lessen their risk sharing portion (investments) it is only a matter of time before this happens. In other words, the risks are shifted towards the individual.

Denmark. ⁴⁰

A similar evolution is taking plce in Denmark. The Danish pension system is based on public pensions and mandatory occupational pensions covering most employees. Poverty among the elderly is very low, and replacement rates are generally high. The occupational pension system is still maturing.

In 2016, the Danish government launched ‘the 2025 plan’. With this plan, Denmark intends to expand its funded pension coverage by making it compulsory for nearly everyone of working age to contribute to a personal pension scheme. The plan is to cover employees, self-employed and social security benefit claimants who are not already saving at least 6 per cent of their income in a labour-market or other private pension scheme. It is thus a residuary system for the existing occupational schemes. Contributions will, in principle (as a starting point) need to be paid to the statutory funded ATP scheme.⁴¹ These mandatory pension contributions will start at 0,25% in 2018 and will gradually rise to 2% by 2025. The proposed reform includes a tax shift: the tax free personal allowances are increased.⁴²

This plan clearly represents a shift towards a more individual approach to pensions. Denmark is known in its pension design for its collective bargaining model, and with ‘the 2025 plan,’ the first step has been taken to diminish the influence of the social partners. It should be noted, however, that nothing is yet fixed and that it is only a governmental proposal at this stage. Nevertheless, the ‘2025 plan’ fits perfectly into the worldwide tendency towards individualisation of the pension design.

Germany. ⁴³

Even Germany, a country historically known for its numerous collective guarantees in occupational plans, is shifting its focus towards more individual responsibility. Proposed legislation (Betriebsrentenstärkungsgesetz) seeks to ‘strengthen occupational pensions’ by creating industry-wide pension plans with more flexible pension promises.⁴⁴ Studies commissioned by the government have shown that many employers were shying away from offering pension plans because of the long-term liabilities and the required top-up payments for guarantees.⁴⁵ The introduction of ‘pure contribution-based pension plans’ (reine Beitragszusage) as the draft law puts it, aims to ‘provide full cost and planning certainty for employers’ with regards to their pension liabilities. In the German public debate, the term ‘defined ambition’ (Zielrente) has been used for the last two years.⁴⁶

Technically, the law proposes to introduce defined contribution plans and to relax the existing strict guarantees for occupational pension plans, thereby introducing more flexibility in the pension promises of employers.⁴⁷ However, the clear shifting of the risk towards the individual is new. Historically, sponsoring companies were required to back up any pension promise and even top-up funding whenever necessary. In the new proposed model, the employer is only obliged to pay the premium amount for a certain fixed target income at retirement. Thus, there is a fixed target, but the payment is similar to a pure contribution. The subsequent performance is merely communicated to the employee on the basis of an extrapolation according to cautious commercial principles. Nevertheless, the performance is no longer guaranteed. For the employee, this sounds vague and it is decidedly less valuable than the historically well-known guaranteed performance.

As a result, there will, logically, be deviations from the intended target. In addition, there will be both under-covers and over-covers. These are accepted within certain margins (for example, five to ten percent) and / or within defined deadlines (for example, up to five years). Only when these tolerance limits have been exceeded – for example, where an under-cover lasts longer than the five years specified – will a reduction in the non-binding target take place. If the cover increases or improves, the target can be restored to the original level. The proposal also foresees a certain overlap in order not to penalise the contributors against the pension receivers within the system.⁴⁸ It is clear that the German reduction in guarantees increases the risk of a lower replacement rate in retirement for the individual.

The Netherlands. ⁴⁹

The Netherlands has a long tradition in occupational pensions. In the last three decades, the Netherlands were often referred to as the model of a perfect pension design with the right balance between PAYG, funding, redistribution, poverty alleviation, fiscal trade-off, coverage, solidarity and ownership.⁵⁰ Nevertheless, the Dutch ‘ideal’ system has virtually evaporated since the start of the financial and economic crisis of 2008. Over the course of the last decade, many questions have been asked regarding the Dutch system as a whole.

In the years 2014 and 2015, the government held a nationwide debate on pensions.⁵¹ It stated that it preferred traditional DB plans, with individual pension accrual and collective risk sharing.⁵² Nevertheless, the debate made it clear that the Netherlands faced some serious issues relating to pension design. The state secretary for social affairs and pensions made it clear that she wanted to develop a mandatory but ‘degressive’ contribution scheme.⁵³ Currently, the Netherlands has a mandatory average contribution scheme. In this scheme, younger workers accrue proportionately more pension rights than older workers. The idea is to maintain the younger workers’ support for the collective pension system. In the current system, younger people pay more than older people, but do not have a higher accrual.⁵⁴ Hence, the average pension accrual is to be replaced with age-dependent build-up. Furthermore, the individual pensions accrual is to be combined with collective risk-sharing and collective conditional defined benefit arrangements as potential future pension plans.

We believe that in the Dutch public debate there are currently two tendencies when it comes to individualisation. First, during the accumulation phase, the discussion is focused on the so-called introduction of the PPR (‘Persoonlijke Pensioen Rekening’) or Personal Pension Account.⁵⁵ This is an individual account in which there are more possibilities for flexibility and customisation with regard to the personal needs or individual necessities.⁵⁶ Secondly, the debate also includes the decumulation phase. The Netherlands is known for its lifetime annuities. The indexation of these annuities was and is burdensome for some pension providers.⁵⁷ The so-called cutting (‘inkorting’) of the existing rights in occupational pension rights is obviously far from evident for all the players involved. Some of them, including the pension providers, are considering methods to lessen the burden and allow other forms of retirement than lifetime annuities. These variable annuities, replacing guaranteed annuities or even partial lump sum payments, are currently being examined by social partners at Government request.⁵⁸ As far as we know, there is no pending legislation in the Dutch Parliament for both facets of individualisation.

Poland

In our opinion, Poland is the European country that has changed its pension design the most radically in the last few years.⁵⁹ The government is clearly planning to put a halt to so-called occupational pensions. The existing occupational pensions will be transferred to either the statutory pensions or to individual pensions. In July 2016, the Polish government announced that it plans to transfer three-quarters of the savings held in the occupational pensions to the personal individual pensions of the third pillar.⁶⁰ The remaining quarter will be transferred to the Demographic Reserve Fund (FUS), which was set up in 2002 to cover shortfalls in the PAYG statutory pensions (first pillar). According to the government’s timetable, the transfer will take place to individual retirement accounts (IKEs) from 1 January 2018. Remarkably, as part of this plan, each saver will receive the same amount irrespective of how much they had already saved in occupational pensions. Currently, most Poles do not have an IKE.⁶¹ This individual pension form is offered by the Polish pension fund companies, insurance companies, banks, brokerages and even investment fund companies. The European Commission was and is alarmed by the Polish move. The spokeswoman for the economic affairs commissioner said that the Commission was ‘concerned’ by the move and questioned how it would impact on the sustainability of the pension system.⁶²

United Kingdom. ⁶³

Occupational pension design in the UK has always been different from that in continental European countries.⁶⁴ Individual responsibility has played an ever increasing role since 1978. In that year, SERPS, the ‘State Earnings Related Pension Scheme,’ was introduced. All employees who paid full National Insurance contributions earned a SERPS pension.⁶⁵ Nevertheless, members of occupational pension schemes could be ‘contracted out’ of SERPS by their employer, in which case they and the employer would pay reduced National Insurance Contributions and they would earn virtually no SERPS pension.⁶⁶ In 2002, the UK government replaced SERPS by the so-called ‘State Second Pension’. Yet, the tone was set since then as the role of the government in relation to pensions has been smaller compared to that in other European countries.

When it comes to recent policy changes in the UK in which (further) individualisation can be spotted, there are two main evolutions. The first and most important change is in the decumulation phase. The Taxation of Pensions Act 2014 removed compulsory annuitisation and allowed savers freedom on how to withdraw their savings.⁶⁷ The consequences of this change are immediate: both the longevity risk and the investment risk after retirement are shifted towards the individual. It has been continually shown that consumers (i) have low levels of financial literacy, (ii) understand poorly the longevity risk and (iii) are biased and therefore make inconsistent or irrational decisions when it comes to investments. For the average individual, there is ample scientific evidence to show that the advantages of annuitisation outweigh the disadvantages.⁶⁸ Prior to the introduction of the new pension flexibilities in the UK, people purchased an annuity. In 2015, only 6 per cent of people bought an annuity and lump sums became popular overnight with 300.000 new contracts.⁶⁹

The second evolution is called NEST and refers to auto-enrolment. A high coverage is considered one of the main ingredients for a successful pension design.⁷⁰ In the UK, the government installed an auto-enrolment mechanism whereby employees are automatically enrolled into the employer’s pension scheme. From the date they are enrolled, they will have a month to choose not to join and thus opt out. If they do nothing, they will be enrolled in the scheme by default. They will make contributions to their retirement from their pay for as long as they are employed or until they take their money out. With this model, auto-enrolment takes a middle path. It is neither voluntary nor mandatory from the outset because a person is considered enrolled unless he or she opts out.⁷¹ Not surprisingly, the total membership of occupational pension schemes in the UK has peaked since auto-enrolment was installed.⁷² Nevertheless, what do the employees roll into? One of the qualifying pension schemes that employers can use to meet their new duties is the National Employment Savings Trust or ‘NEST’. NEST is a trust-based defined contribution pension scheme and is free for employers to use. Employees who are automatically enrolled into NEST are put into a so-called ‘NEST Retirement Date Fund’. The NEST Retirement Date Funds are managed according to the life stage of members in them. Individual members can, however, change funds at any time after enrolment if they want to and the risk is entirely theirs. The employer has no further responsibility. Thus, even if the coverage in occupational pensions has risen over the last years in the UK, social protection has not followed.

Auto-enrolment is unequivocally good for coverage, but all risks are individualised both during the accumulation and decumulation phase.

Individualisation 2.0 creates individual pensions out of occupational pensions with all subsequent setbacks

Individualisation as described above refers to a shift from the so-called second to the third pillar. One could claim that the existence of occupational pensions is being put under gradual but ever mounting pressure, leading to a two-pillar dichotomy in which only the public and individual models remain. It is a silent pension pillar implosion. This evolution has some setbacks or problems which are strongly interconnected.

The first setback relates to a heavier emphasis on personal empowerment in financial matters.⁷³ In individual pensions, people are supposed to make their own decisions. Ellis writes quite correctly: ‘As individuals, we need to recognise two core realities: (i) accumulating enough money to maintain our standard of living in retirement has become an enormous challenge; and (ii) far more than our parents, we are on our own.’⁷⁴ Yet, financial decisions regarding retirement savings are among the most complicated financial decisions.⁷⁵ There is also scientific proof that most people are sufficiently numeracy or financially literate to understand the long-term implications of their (retirement) decisions.⁷⁶

The second problem linked to the first is the larger information asymmetry in pensions. Numerous studies have pointed out that capital markets are characterised by information asymmetries and other capital market imperfections.⁷⁷ There is considerable empirical evidence indicating that participants in individual pension schemes are particularly ill informed and that these information asymmetries may be difficult to remove. Among many others, Benartzi and Thaler report from a study of participants in a large pension scheme that, ‘in site of a serious effort to educate the employees about their options, they had very little understanding of the plan’s features.’⁷⁸ People also underestimate personal financial risk due to their health, job, family situations such as divorce or personal longevity, and thus suffer from a rapid deterioration in financial decision quality once they pass 55 years of age (due to eroding cognitive abilities).⁷⁹ Furthermore, there is much empirical evidence that those who need financial advice the most do not seek it. Moreover, these same individuals tend to make time-inconsistent financial decisions, such as investing too little into the stock market, and once they do invest, make costly investment mistakes.⁸⁰

The third difficulty is that, due the requested personal empowerment combined with an information asymmetry, there is a higher risk of ‘mis-selling’. i.e. of deliberately selling something that is not appropriate for the person who buys it. Mis-selling is commonly known in the financial sector at large because of the complicated nature of the sold products. Hence, this evolution of increased individualisation opens the door for the reckless, premeditated or even negligent sale of individual pensions in which the pension is either misrepresented or – worse – unsuitable for the customer’s needs.⁸¹ Most providers of individual pension products are – like many businesses – sales-driven and rely on investment products to boost finances.

The fourth problem is less well known in the international pension politics literature. It is the so-called ‘Matthew effect.’⁸² This effect refers to a sentence in a parable in the Gospel of Matthew: ‘For unto every one that hath shall be given, and he shall have abundance: but from him that hath not shall be taken away even that which he hath.’⁸³ The parable deals with a sower of seed. His seeds fall on all kinds of soil: roads, rocks, thorns as well as on good soil. For Christians, the seeds symbolise the word of God that, although it is spread to everyone, is only received by those whose heart and mind is open. In social policy, it means that the effect of the seeds – the policy measures targeted at particular groups – will only benefit those that are aware of the measures and live in conditions that allow them to benefit from them.⁸⁴ Thus, in pension politics, the Matthew effect is seen as creating inequality. Legal systems regard all people as equal, but this equality rule leads in practice to inequality. Due to socio-cultural and socio-political factors, those with higher incomes will benefit relatively more from social policy measures than those with lower incomes.

In general, persons with higher incomes have greater opportunities to claim legal rights. This is because they have more personal resources and greater access to those resources. Through social contact and position, they also have more opportunities to claim legal rights. Formally, these rights are the same for those on lower incomes but they lack the possibility or experience to claim them. For example, legally, everybody has the same possibility of participating in pension savings and of benefiting from associated tax allowances. Nevertheless, to be able to contribute to a pension, income is first needed. Obviously, not everybody has the same opportunities for earning income and benefiting from the associated tax allowances.

The benefits of social security schemes – including pension benefits – are of greatest value for those who are not the neediest within society. However, social policy redistributes income proportionally more to higher income groups than to lower income groups. Some might say that this is an inherent element of the design of current social policy and that it should not be considered a negative feature. According to this view, pension systems and social security are not meant to be redistributive in the first place. They are established to maintain the existing flows of income. In this vision, the Matthew effect is not ‘wrong,’ but is inherent in an imperfect system. Others have argued that the efficiency of the social security system is determined by the level of the benefits for those who rely exclusively on the public system. The preservation of living standards (based on insurance principles) fails if the system cannot, at the same time, provide a decent minimum income standard for everybody.⁸⁵

Personal idea for a solution: a target income in retirement where all forms of pension are legally linked both in social and fiscal law

Where individualisation in occupational pensions creates problems because it creates other forms of risk, we should look at possible solutions. Here the solution does not lie within the occupational pension system itself. We argue that modern pension policy should take all forms of pension into account in tackling the problems and setbacks described above.

Just as there is no single best form of pension, so there is not one ideal design for a pension system in any country. Many designs are possible and a number of pension systems can work well. There are two reasons for this conclusion. First, there is the historical and cultural background of the country – the pension system is embedded in a larger societal given called ‘the welfare state.’ Secondly, within such a welfare state, pensions can have various goals or objectives such as poverty alleviation, increasing savings, installing social insurance, developing private insurance or promoting economic growth.⁸⁶

Although it is obvious that no one common system can be claimed or envisaged, there is one common element that can be achieved, namely the setting of a goal for the pension system, something which has been virtually neglected worldwide.⁸⁷ The worldwide belief in the so-called ‘three pillar model’ plays an important role in this. In practically all developed countries, some form of the three-pillar model is recognised. This popular acceptance of the three-pillar model has led to a watering down of the goals and objectives of pension design in many countries. By clearly distinguishing between three pillars there is an acknowledgement that the pillars are different and can serve different purposes. In brief, the common belief in three pillars has led to three distinct policies instead of the creation of an overall pension policy hat takes the different forms of pension into account.

The common presentation of three pillars simply does not incentivise further thinking regarding the binding, common elements among the pillars. In our opinion, this is a mistake. Countries should develop and even instrumentalise the binding elements between their various pension pillars or forms of pension.

Worldwide pension policy makers should be far more outspoken about the interaction between the various forms of pension existing in their pension pillars. We believe that there is an absence of vision on the development of pension schemes overall. Legal competences, regulatory offices, supervisory authorities, etc. are truly scattered within most countries. The three pension pillars are often completely disconnected from each other. This sometimes leads to adverse competition between different forms of pension where state subsidies for one form of pension has a lowering effect on other forms of pension form or vice versa.

It is our belief that this is often not the best way to operate a pension system within a welfare state. We argue for an integrated vision of the various forms of pension. This integrated vision requires a new (worldwide) setting in which the popular or common belief in the three-pillar model is at least partially abandoned. In our opinion, statutory social security pensions, occupational pensions and individual pensions will all play a role in any pension design. There should however be a common thread between the forms of pension.

This common thread should be acknowledged as explicitly as possible. It should expresses a vision of what the pension system as a whole stands for and more importantly how the various pillars ought to interact. In many countries, the various forms of pension operate completely separately so that there is no deeper knowledge of the societal or financial side effects of this arrangement. In other words, the interaction between different forms of pension is unspecified economically and legally. More specifically, the fiscal transfers that are inherent in all pension schemes are, in our opinion, insufficiently known. In most countries, there exist myriad facts and figures on the different forms of pension, but due the existence of scattered competencies and separate authorities, there are no known data at the macro-economic level about how they operate together.

In our opinion, an understanding of the interaction between the pillars can lead to insights about pension design. Countries should invest in the study of the facts and figures of the interaction between the various forms of pension. This can lead to a better understanding of how pensions work on an integrated basis.

All of this does not mean that every country should adopt the same design or model. As indicated above, this is neither feasible nor desirable. Nevertheless, an overall vision of pensions can have a profound impact on the future development on pensions policy in many countries. A more integrated vision enhances the prospects of an integrated social and fiscal pension system. Which vision should be taken? From the integrated perspective, it should entail ‘a balanced target income in retirement.’ This means that

Any pension should offer some kind of income in retirement. Otherwise, it shouldn’t really be called a ‘pension’.

An integrated pension vision led by pension policy makers should define how high this income should be. A target can take many forms. A certain income replacement ratio that refers to income during the active years life seems reasonable, but for some countries it might be too ambitious a vision. The target can also be a fixed annual amount or something similar. Whatever the design, the target should be explicit in this integrated vision.

The balance between the different forms of pension will differ from one pension design to another. In some countries, the target will be achieved through PAYG or unfunded schemes while other pension designs will opt for more funded approaches.

From a legal perspective, this means that social and fiscal laws regarding the various forms of pension should be more coordinated. In our opinion, countries should place a strong legal focus on achieving a balanced target income in retirement in which all the different forms of pension are properly linked with each another. The pension design will obviously differ between countries, but the common denominator should always be a ‘balanced target income’. In the current state of affairs, the different forms of pension are not properly linked to each other. This means that the different forms of pension are not always balanced. We thus plead for a balanced approach whereby all forms of pension are incorporated in a design that links the level of change in one pension to that in the others. In this way, the different forms of pension become communicating vessels through which a common target for retirement income is achieved. If funded schemes suffer from low contribution levels and lackluster investment performance, then this should be balanced by fiscal and social regulations aimed at restoring a balance. Some countries will undoubtedly want to work with state guarantees while others will opt for more private approaches.

A successful pension design in any country should start by taking into account all existing forms of pension, which should be looked upon from two angles: contribution rates and coverage rates. The simple truth is that the basic ingredients for any successful pension design are well known. Irrespective of financing methods, such as PAYG or capitalisation, there are two essential and simple levers: sufficiently high contribution rates and sufficiently high coverage rates.⁸⁸ Any pension system can succeed if these two elements are upheld. Both elements are, however, difficult to fulfil. It is well known that many countries struggle with both. However, the struggle can be eased by considering all forms of pension together. Consequently, whatever the pension design is, the different risks relating to the different forms of pension will be moderated. The individualisation process can not or will not be stopped, but the risks related to it can be lessened by the adoption of an integrated or, at least, a more integrated approach.

Conclusion

The role of occupational pensions is changing in many countries. Due to de-risking, or risk shifting in occupational pensions, pensions are increasingly individualised. Employers have backed away, and this withdrawal has occurred just as the task of accumulating adequate retirement income has got more difficult. For years, the general increases in voluntary pensions have alleviated the (financial and budgetary) pressures on publicly managed and state provided pension schemes. Nevertheless, if the risks are gradually individualised after retirement then the question arises whether the types of individualised pension schemes are truly pensions in the sense of being an element of the welfare state or merely a (fiscally subsidised) saving account.

The various setbacks and difficulties of the individualisation process in pension politics place new responsibilities on governments, regulators, financial service providers, social partners and all actors involved. It is the vision of the welfare state itself that is at stake.

Footnotes

Declaration of conflicting interests

The author(s) declared no potential conflicts of interest with respect to the research, authorship, and/or publication of this article.

Funding

The author(s) received no financial support for the research, authorship, and/or publication of this article.

Notes

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The silent pension pillar implosion

Abstract

Keywords

Introduction 1

Individualisation 1.0 and 2.0

‘Individualisation’ is about shifting the risks and fits into a worldwide ‘individualisation culture’

Individualisation in occupational pensions

Europe: PEPP

Individual countries

Belgium. 32

Denmark. 40

Germany. 43

The Netherlands. 49

Poland

United Kingdom. 63

Individualisation 2.0 creates individual pensions out of occupational pensions with all subsequent setbacks

Personal idea for a solution: a target income in retirement where all forms of pension are legally linked both in social and fiscal law

Conclusion

Footnotes

Declaration of conflicting interests

Funding

Notes

References

Introduction¹

Belgium. ³²

Denmark. ⁴⁰

Germany. ⁴³

The Netherlands. ⁴⁹

United Kingdom. ⁶³