Pension awareness, enrolment, and auto-enrolment

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Designing and supervising DC pension plans:
The Italian experience in managing choice and
competition
Ambrogio Rinaldi
Central director, COVIP
Chair of the Working Party on Private Pensions, OECD
[email protected]
2° MENA Workshop on Private Pension Regulation and Supervision
Amman, Jordan, 1-2 March 2011
Outline
• Background information on the Italian pension system
• current structure of the reformed 1st pillar
• development of private pensions
• Main features of private pensions in Italy
• Interaction of different kinds of funds
• Choice to be made between funds and between investment options
• Regulatory and supervisory arrangements to promote
orderly competition and facilitate choice
The Italian pension system
the 1st pillar
•Coverage
•General for all employed workers and most self-employed, managed by public agencies as
PAYG
•A few funded schemes for professional categories (lawyers, doctors, etc.), with special
rules and managed by the same categories with a certain autonomy
•Retirement age
• currently 65Y men, 60Y women
• or 40 years of contributions regardless of age
• or “level 96” (summing-up age and years of contributions)
• from 2015 will be indexed to improvements in life expectancy
• gender difference declared unlawful by ECJ, but only for public sector employees
•Contributions
•32.7% for employed workers
•20% for the self-employed
•Benefits
•Earnings-related for older workers, NDC for the younger, mixed for the middle age
•Means-tested minimum old-age non-contributory benefits around 400-450€/month
The Italian pension system
Major reforms of 1st pillar
•In 1992-1995 two rounds of reform introduced substantial changes, aimed at
controlling growth of public expenditure for pensions
•Changes where first parametric (1992)…
•Indexation to prices (partial over a threshold) and not any more to salaries
•More stringent age requirements
•Calculation based on earnings over a longer time span
•…then structural (1995): introduction of NDC, with a long transition period
• 100% NDC for younger workers (newly employed since 1995)
• 100% earnings related for older workers (in 1995 already contributing for 18 years)
• pro rata for intermediate cohorts
•In 2004 and thereafter, several additional parametric changes reinforced the
control over public expenditure
•In 2010 retirement age has been indexed to future increases in life
expectancy (to be applied from 2015)
Pension expenditure forecast
before and after the reforms
24
22
% of GDP
20
18
16
14
12
10
1995
2000
2005
2010
2015
2020
before the reforms of the 90's
2025
2030
2035
2040
after the 2004 reform
2045
2050
Gross replacement rates of public pensions
(2005-2050)
National baseline scenario - No individual career
90
80
70
%
60
50
40
30
20
2005
2010
employee 65-40
2020
employee 60-35
2030
self-employed 65-40
2040
2050
self-employed 60-35
Development of private pensions
• Before the reforms of 1st pillar, public pensions were generous; private,
supplementary pension funds were limited to high salary workers (managers of
large companies, financial sector employees): around 700.000 members, or
3% of the workforce.
•
Reforms of 1992–1995 had as a major element the creation of a system of
private pensions directed to all workers, in order to compensate the (future)
reduction in benefits from the 1st pillar
• Comprehensive legislation and secondary rules were introduced between 1993
and 1997
• COVIP, the specialized pension regulator/supervisor, was instituted in 1996
• The first “new” pension fund was created in 1997, and at the end of year 2000,
there were already about 140 new pension funds in place
• Substantial fiscal incentives were introduced (although the system remains ETT,
but with a very small “third T” )
Development of private pensions
(follows)
• With memberhip fully voluntary, coverage rate was slow to rise: at end-2004, still
around 3 million workers, or 13% of the workforce
• The automatic enrolment of private-sector employed workers of all ages (more than
12m) was implemented in the first half of 2007 (with the possibility to opt out), and
was introduced permanently for newly-employed workers
• Auto-enrolment based on the payment in a pension fund of the TFR (a sort of
severance pay, worth about 7% of salary)
• Results have not been satisfactory (also the financial market crisis has not helped )
• At end-2010:
• 5.3 million workers, or about 23% of the workforce
• 82 billion € in assets, or about 7% of GDP
Private pensions: main features
• Different kinds of plans interact, targeting different sections of
the market, with overlaps that allow competition to work:
• Contractual Pension Funds (CPFs)
• usually industry-wide, governed jointly by employers and trade
unions, as non-profit entities
• Open Pension Funds (OPFs)
• set-up by AM companies, insurance companies, and banks, for
commercial purposes
• target personal plans, but may also run company plans (including
those opting out from CPFs) and implement auto-enrolment
• Insurance-based Personal Plans (PIPs)
• may anyway receive the TFR and employers’ contributions. Only the
auto-enrolment is not allowed. They are split in “new” and “old”
• Pre-existing Pension Funds
• play a marginal role, as they cannot extend their membership area
Private pensions: main features
(follows)
• A “pure DC” system, with a role for guarantees
• employers commit to pay contributions, but do not bear any financial risk
• employees choose between different investment options
• Options offered by each fund are usually 3 to 5, including one that has a
minimum rate of return. Some target date of life-cycle mechanisms are
also offered
• The guaranteed option has to be the default line for auto-enrolment
• Contributions
• The TFR (7% of salary) is the main source for the employed workers
• Additional contributions are set by labour agreements, typically around 11.5% form the employer, with a minimum matching contribution by the
employee
• Benefits
• 50% annuitization mandatory at retirement, except when the accumulated
balance is below a certain threshold
• Several possibilities for early withdrawals
Membership before and after the TFR reform
by kinds of plans
6
Millions of members
5
Before
TFR reform
After
TFR reform
4
3
2
1
0
end-2006
end-2007
end-2008
end-2009
“Old” pension funds
Contractual Pension Funds
Open pension funds
PIPs (Insurance-like personal plans)
“Old” PIPs
The competition in the pension funds market in Italy
Collective
CPF1
CPF2
PIPs
OPFs
CPFn
Personal
A general problem:
How much choice for individuals?
Choice of what?
•
•
•
Whether to enrol (Voluntary, mandatory, auto-enrol matic w. opting out)
type of provider
investment option
⇒…too many options for individuals may be bad
Related issues:
•
•
•
Default options
Information to members, advice
Financial literacy – development of pension planning skills in the public at large
⇒Extreme models:
• Paternalistic : Dutch model –all decisions taken by employers/trade
unions
• Liberistic : DC systems based only on personal schemes
Choice and competition in the Italian system
Italian system is an interesting hybrid: competition is favoured by a high degree of
transparency and comparability between the plans, and is set to work through a
carefully designed system of “collective” and “individual” choices:
• by collective agreement at company level, workers may opt-out as a group
from the industry-wide CPF and enter an OPF (collective choice)
• individual workers may also opt-out from the occupational PF (either a CPF
or a OPF) and choose their favourite OPF, or also an insurance-like personal
plan (PIP) – but in this case they do not have the right to employers’
contribution
 as a result, the Italian pension market is made contestable, as a whole and in its
segments
Contractual pension funds: membership rate and firm size
100
Industrywide funds
Company
funds
90
Membership rate (%)
80
70
60
50
40
30
20
10
0
0
20
40
60
80
Share of firms with 50 or more employees (%)
Two equilibria :
–a good one (“cafeteria effect”, peer behaviour)
–a bad one (little and distorted information)
100
Cost competition in the market for occupational plans
5 years time horizon
3,5%
3,0%
Costs % of NAV
2,5%
2,0%
25%
Worst
1,5%
50%
Central
1,0%
25% Best
0,5%
0,0%
Contractual PFs
Open PFs
Cost competition in the market for personal plans
5 and 35 years time horizon
4,0%
3,5%
Costs % of NAV
3,0%
25%
Worst
2,5%
2,0%
50%
Central
25%
Worst
1,5%
50%
Central
25%
Best
1,0%
25%
Best
0,5%
Insurance-like
Pension Plans
Opens PFs
Insurance-like
Pension Plans
Open PFs
0,0%
5 years
35 years
Main arrangements to promote competition
and favour choice
Highly standardized information to members, in order to
favour comparison across eligible plans
• Comprehensive information document at enrolment, in “long” and
“short” form
• Synthetic cost indicator to be disclosed, based on a standardized
methodology
• Constraints imposed to cost structure, and attention put on
avoiding hidden costs
• Pension projections to be delivered to members, based on
assumptions standardized across funds, with expected returns set
as a function of asset allocation
• Comparative tables of costs and returns made available on the
Supervisor’ website
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