o. settergren 2004 should we move towards more funding and less payg? lessons from the great swedish...
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O. Settergren 2004
Should we movetowards more funding
and less PAYG?
Lessons from theGreat Swedish
Pension Reform
O. Settergren 2004
Unfair redistribution of incomeB
Significant work disinscentivesC
Reform Reasons
Financial instabilityA
O. Settergren 2004
1994Parliamentadoptsprinciplesof thenewpension plan
Pension reform process - very long
1990 1991 1994 1998 2001 2003
2003 ”first” payments according to new system
1991Commissionset up
1992Draftof a new pensionplan
1998Mainlegislationof thenewpension plan
2001Legislationon the automaticbalancemechanism
But transition rather quick i international comparison
O. Settergren 2004
TransparencyB
Maximize inter-generational fairnessC
Basic income securityD
Reform Objectives
Financial stability (= Credibility?)
A
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What Is a Notional Defined Contribution
(NDC) Pension System?
O. Settergren 2004
III IV
I IITie betweencontributionandaccruedpensioncredit
0 %
100 %
0 % 100%
Degree of funding
Four basic design options
Defined Benefit
Defined Contribution
Pay-as-
you-go
Funded
Theoreticalor formal
riskdistribution
100 % insured
100 % insurer(= taxpayers)
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III IV
I II
DefinedBenefit
Reform StrategyContribution 16 % Contribution 2.5 %
PremiepensionFunded
Inkomstpension“NDC”
Contribution 16 %
D
S
G
D = Disability pensionS = Survivors pensionG= Guarantee pension
Old pensionscheme
DefinedContribution
PAYGO Funded
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0
25 30 35 40 45 50 55 60 65
Age
Each crown payed during life result in the same amount of pension credit
16 %Pay-as-you-go
Funded2,5 %
Pensinable income of insuredSEK
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Administration
Survivorsbonus
0
Development of notional account and convertion to an annuity
The amount on the notional account, SEK
Annuitydivisor15,7
Net indexation
Credited contribution
s =Pension
Age
25 30 35 40 45 50 55 60 65 70 75 80
Interest with change in
average income
Lifeexpectancy (65
=18,5)
Interest rate1,6%
-
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..interest 1,6 %growth 2,0 %
..interest 1,6 %growth 1,6 %
Imputed interest 0,0 %growth 1,6 %
Pension as an annuity
85
45
50
55
60
40
65 66 67 68 69 70 71 72 73 74 75 76 77 78 79 80 81 82 83 84
Age
Pension
..interest 1,6 %growth 1,0 %
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Individual information
Micro level information
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Why individual information?
The change from a defined-benfit to (two) defined-contribution systems
Harmonise the expectations of the insured with the economic and demographic realities
Create a relevant sense of confidence and trust between the system and the insured
Make clear that:If life expectancy continues to increase you either will have to delay your retirement or accept a lower annual pension
Improve the insured’s opportunities for well informed decisions
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Projectionof the future
pension
5
Thedevelopmentof the funded
account
2
The development
of the notionalaccount
3
Pension creditearned
last yearThe
NDC system&
Premium pension system
4
Premiumpension funds
6
Explanations
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4 5 6
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1 euro 9 couronnes
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Continuation ... The projection
If you draw your pension from age:
age 61: With growth 0 %: you receive SEK 7 321 per month 10 278 per month With 2 % growth you receive
age 65: With growth 0 %: you receive SEK 9,374 per month 14 272 per month With 2 % growth you receive
age 70: With growth 0 %: you receive SEK 13,270 per month 22 368 per month With 2 % growth you receive
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The elements of the annual individualprojection
The base : the last value of the virtual and financial accounts. A.
The assumption made on the individuals future contributions to retirement: = 16 % + 2,5 % x last income + 0 % & 2 %
B.
Annuity divisor : projected life expectancy at 61, 65 and 65 for each birth-chohort
C.
Indexation / return: D. 0 % 3,5 % 2 % 6 %
At age 61 : 7 3219 374
13 27014 72722 368
10 278
At age 65 :
At age 70 :
Continuation ...
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What are the ideas behind this complicated individual projection?
Age 61: 0.78 1.10The importanceof retirement age,and life expectancydevelopment
The importance of economic development(Growth in average income and the return on capital)
Age 65: +/-0
Age 70: 1.42 2.39
1.52
Continuation ...
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You may receive a pension from more than onesource
In addition to the national pension, you may alsoreceive pension benefits from other sources. This maybe an occupational pension from your employer orperhaps a pension from your own private pensionsavings. Such benefits are not described here.
Continuation ...
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What is a fair pensionsystem?
Here opinions differ wildly, at least in
Sweden
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Some of many possible, definitions of a fair pension system:
1. Same pension for all
2. Same replacement rate for all
3. Same ratio of expected benefits over contributions for all Calculated at what discount rate? Discount with average income growth, always!
Every contribution, for every insured,has the same expected value
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0
25 000
50 000
20 25 30 35 40 45 50 55 60 65 70 75
White collar worker
Blue collar worker
Age of worker
Annual incomeeuro
Pension
Xcontribution rate
18.5 %
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0
100 000
200 000
20 25 30 35 40 45 50 55 60
Accumulated contributions=pension credits
Age of worker
Euro
Accumulated interest(indexation)
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0
100 000
200 000
300 000
20 25 30 35 40 45 50 55 60
Notional Capital, i.e. accumulated contributions & interest (indexation), euro
Age of worker
64
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Administration
Survivorsbonus
0
Remember this image?The amount on the notional account, SEK
Annuitydivisor15,7
Net indexation
Credited contribution
s =Pension
Age
25 30 35 40 45 50 55 60 65 70 75 80
Interest with change in
average income
Lifeexpectancy (65
=18,5)
Interest rate1,6%
-
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0
25 000
50 000
20 25 30 35 40 45 50 55 60 65 70 75
White collar worker
Blue collar worker
Age of worker
Annual incomeeuro
Replacementrate 65 %
Replacementrate 42 %
Pension
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Disability benefits
4% 2% Child years11%
Sicknessunemploymentparental benefits, etc.
Fairness, etcTypes of Pensionable Income
83%
Wages &incomes of self employed
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Guarantee pension change the distribution of risksfor those with low or no income-related pension
The guarantee is a basic security financed with general tax revenue
Earnings-related pension
140 000
0
20 000
40 000
60 000
80 000
100 000
120 000
0 42 000 100 000
Income-related pensionGuarantee
0
20 000
40 000
60 000
80 000
100 000
120 000
0 42 000 100 000
Income-related pensionGuarantee
Earnings-related
+ guaranteepension
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1940 2005 15,7 – 65 years 18 y. 6 m.
1950 2015 16,4 –4 % + 7 months + 11 months
1960 2025 17,0 –7 % + 13 months + 20 months
1970 2035 17,5 –10 % + 18 months + 28 months
1980 2045 17,9 –12 % + 23 months + 35 months
1990 2055 18,2 –13 % + 26 months + 41 months
Genderneutral
life-expectancyat age 65
Birth cohort
...turns 65
Projectedannuitydivisor
Effect on pension from
increasedlife-span
Pension age to neutralize
life-span effect on pension
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Procent
0
10
20
30
40
50
60
70
Inkomstpension
Old Scheme
Premiepension
Life-span effect
Birth Cohort
Garantipension
Projected Compensation Rate at age 65, Cohorts 1938-1990 Average pension at 65 relative to average wage for those working at that time
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Simulations of net contribution 2002-2077in percent of total contributions
90’s
60’sBorn inthe 1940’s
Without balance mechanism
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Simulations of fund ratio, 2002-2077
Without balance mechanism
Market value of buffer fund
One year of pension disbursements
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Trustedtrue
prophet
Mistrustedtrue
prophetAccountant
Trustedfalseprophet
Policy makersknowledge of the future
0 1
The publicsperception ofthe policymakersknowledge ofthe future
0
1
Line of
satis
fied e
xpec
tatio
ns
Four stylised policy makers – which one are you?
O. Settergren 2004
The end
Distributed by: Riksförsäkringsverket (RFV), Stockholm