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III Conference on Insurance
Regulation and Supervision in Latin
America
Private Pensions in OECD countries
Juan Yermo, OECD
Santiago, Chile, 9 October, 2002
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Problem: Pensions are complicated

Confusion between social and economic objectives

Confusion between plan and fund

Confusion between fund and entity

Confusion between defined benefit and defined
contribution

Confusion between occupational and personal plans
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Private Pension Plans in OECD countries

Occupational Plans – two distinct funding
mechanisms:
– Pension fund – different legal forms of administering entity
– Insurance contract – personal or group policies


Personal Plans – multiple funding mechanisms
Occupational and personal plans raise somewhat
different principal-agent concerns:
– In occupational plans members are “captured” by employer; in
personal plans they may be “captured” by financial institutions
– Employers may bear investment and longevity risk in occupational
plans; insurance companies are main risk bearers in personal plans
– Interaction with financial institutions is intermediated through
employers in occupational plans; no intermediation in personal plans
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Occupational versus Personal Plans

Pro Occupational Plans:
– Employer can use plan to attract and retain valuable
employees, hence may contribute more than to personal
plans
– No marketing costs as in personal plans
– Group negotiation with financial institutions leads to lower
administration costs than in personal plans
– Employer staff (e.g. treasury department) can assist in
pension plan management
– Fixed costs are lowered if employer facilities can be used
(e.g. for account management)

Pro Personal Plans:
– Member is not captured as in occupational plans (though in
Latin America they often are – switching restricted)
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Main Trends in Private Pensions

Mainly introduced as complements to public, PAYG
systems – Chilean type reform only pursued in a
handful of OECD countries

Most OECD countries would prefer to encourage
occupational rather than personal plans (and within
these industry-wide schemes, e.g. Belgium, Finland,
Germany) but personal plans are growing fastest

Most new schemes are DC, but definition not always
clear (e.g. employers may guarantee investment
returns  DB under IAS)
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Regulating and Supervising Private Pensions

Regulatory principles should be common to all
countries
– OECD Basic Principles
– OECD-INPRS Methodology for Basic Principles

Supervisory model depends on system structure:
– Occupational plans: Anglo-Saxon model with thousands of
plans and funds does not permit fund by fund supervision.
Industry-wide model on the other hand allows close
supervision (e.g. Netherlands)
– Personal plans: supervision should rely as much as possible
on existing framework for financial institutions.
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Regulating Occupational plans –
OECD-INPRS Basic Principles

Despite many differences in risk allocation and legal
traditions, most occupational pensions have common
principal-agent issues.

15 Principles can be grouped according to objective -–
–
Functional: regulation of pension plans from a consumer
protection or beneficiary right perspective.
Institutional: regulation of pension plan administrators, from a
financial security perspective (prudential regulation).
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Functional regulation

Eligibility and access to schemes
– Avoid exclusion based on age, gender, salary, etc, and ensure
equity in distribution of tax benefits

Vesting, portability and indexation
– Mainly an issue in DB schemes, where portability losses
(vesting and pension annuity losses) are much more
significant

Disclosure and education
– Mainly an issue in defined contribution plans, and where
members exert choice

Disclosure of benefits, returns, fees
– Transparency is not enough, comparability is necessary
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Prudential regulation

Governance
– Regulatory policies:
• responsibilities, accountability, and suitability of plan administrators
• delegation
• redress
– Pension concerns:
• voting with one’s feet (leaving the plan) often not possible, member
representation as monitors necessary
• if employer bears risk he has an interest in control of pension entity arm-length relationship between employer and entity may not be
entirely feasible (e.g. with respect to investment strategy)
• cost effectiveness of using employer staff in pension entity vs. conflicts
of interest
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Prudential regulation (cont.)

Funding
– Regulatory policies:
• pension assets should be legally separated from plan sponsor
• minimum funding rules
• actuarial techniques based on transparent standards
– Pension concerns:
• if funded through an insurance policy, assets no longer property
of members – special safeguards in case bankruptcy may be
needed
• for pension funds, is winding-up or on-going more important as
a solvency measure?
• how much “smoothing” of returns should be permitted?
• plan members should have priority creditors’ rights in case of
employer bankruptcy
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Prudential regulation (cont.)

Investment regulation
– Regulatory policies:
• principles of diversification, dispersion, and maturity and
currency matching;
• both quantitative and prudent person; limit self-investment
– Pension concerns:
• DB plans have liabilities indexed to salaries (unlike liabilities of
insurance companies), which cannot be matched perfectly
before retirement (bonds are best match once salary is known)
– equity may make sense for young schemes
• alternative investments can be twisted by interest groups (ETI)
• individual choice can lead to conservative asset allocations
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Concluding remarks

Pensions are complex, they have both social and
economic functions

OECD-INPRS Basic Principles are universal, but
regulations need to be tailor-made for each country

Pension entities raise special governance, funding
and investment concerns.
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