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International Forum on Pension
Reform
June, 2007
(Re)designing regulatory framework for
pension reform and development of
financial markets: Estonian experience
Veiko Tali
Ministry of Finance of Estonia
Impact of pension reform for
development of financial markets
earlier you will start with reform – the
higher the impact - comparing with the
relative level of development of financial
markets
 the
 the bigger the potential financial volumes
– the higher the impact - mandatory
character and level of contributions
 the smaller the country – the higher the
impact ?
Impact of pension reform for
development of financial markets
 the long term (30) impact is more
important than short (5) and medium (1015) term one (adaptivity is crucial)
 redesigning possibilities can be restricted
(eg. justified expectations of voluntary
switchers)
Flexibility versus reliability ?
Reformed pension system
FIRST
publicly
managed
compulsory
PAYG
ER-16 %
1999/2000
SECOND
THIRD
privately
managed
Optional/
compulsory
funded
4(ER)+2 (EE)
privately
managed
voluntary
funded
2002
1998
Preconditions for implementation
of pension reform (II pillar)
 Regulatory
framework
 Supervisory capabilities
 Market
infrastructure (registration,
central
depository
(1995),
stock
exchanges (TSE in 1996)
 Level of market development (banks,
insurance)
Financial Supervisory Authority
Banking
Inspectorate
Securities
Inspectorate
Insurance
Inspectorate
(dep of BoE)
(dep of MoF)
(dep of MoF)
Financial Supervisory Authority (2002)
Depositary
Banks
Management
Companies
Insurance
companies
Reform of financial
supervision - FSA
 Integrated
(at Bank of Estonia)
 Independent
(special
two-level
management structure, 3/4 appointment)
 Financed
by market
(budget ca 3 million euro)
participants
 Competent and capable (70 staff)
Impact of pension reform design
 For
development and structure of financial
services INDUSTRY – (higher level of
competition, higher volumes, more
diversified and viable financial sector)
 For development of capital MARKETS
(new instruments; more issue(r)s; deeper,
more liquid and stable markets, domestic
long-term investments, higher savings rate)
Impact for industry 1
 Product design
 pension fund structure
 parallel products or not (II vs III pillar)
 differentiation of accumulation and
decumulation stages
 annuity vs. programmed withdrawal
Provider design
 asset managers vs. insurance
companies vs. banks
 centralized or decentralized provision
 fully or partly specialized providers
 role of depositories (conflict of interests)
Impact for industry 2
 Choice options
 product options (unified, restricted)
 switching conditions (full or partial
switch or starting with new fund)
 Fee structure
 single or several fees (entry, exit)
 restrictions –ceilings
 disclosure requirements (incl
expenses)
Capital requirements, marketing rules etc
General framework of II pillar
FSA
Employee
LIC
Guarantee
fund
II phase
Employer
I phase
Pension
funds
ECSD
Tax Board
PFMC
Accounts
DB
Pension fund management company
Management company
Depositary bank
Pension funds
(II+III pillar)
unit holders
Investment
funds
Individual
portfolios
Initial results for financial
services industry
 Real boom of asset management and
investement funds (incl. PF-s) industry
 More diversified financial services
sector – but clearly dominated by
banking sector
 Increased competition (new providers)
but (still) highly concentrated, lack of
competition
in
pension
fund
management (fees unchanged)
 Export
of
financial
services
(Competence center – FC?)
Financial sector framework
FINANCIAL SUPERVISION
AUTHORITY
(FINANCIAL SUPERVISION,
ISSUING GUIDELINES)
MINISTRY OF FINANCE
BANK OF ESTONIA
(DRAFTING LEGAL ACTS,
ISSUING SECONDARY
LEGISLATION)
(ISSUING SECONDARY
LEGISLATION,
MACRO-SUPERVISION)
INDUSTRY
STOCK EXCHANGE
• Listed shares (16)
• Listed bonds (4)
ASSET
MANAGEMENT +
• Investment firms (6)
• Management
companies (9)
• Investment funds (24)
• Pension funds (22)
INSURANCE
• Insurance companies
(14)
• Branches (5)
• Insurance brokers (23)
• Insurance agents (…)
BANKING
• Credit institutions (7)
• Branches (8)
Number of institutions in
Estonian financial sector
2002
Credit institutions
incl. foreign branches
Management companies
Investment funds
Pension funds
Investment firms
incl. foreign branches
Insurance companies
incl. foreign branches
SE
Stock exchange issuers
2003
7
1
7
17
19
6
-
2004
7
1
7
15
21
5
13
-
9
3
7
15
22
5
-
13
-
14
2005
13
6
7
22
20
6
13
18
2006
15
3
-
18
25
15
8
9
22
22
7
1
19
5
1
21
Foreign ownership (end of 2006)
100%
80%
60%
40%
20%
% of share
capital
% of total assets
Banking
Listed shares
held by nonresidents
All shares held
by non-residents
Shares
* The biggest management companies of pension funds are subsidiaries of the
foreign-owned banks
Hansapank
SEB
53%
27%
Hansapank
SEB
54%
Hansapank
48%
Hansapank
43%
Sampo
22%
SEB
30%
SEB
25%
ERGO
LHV
Financial market concentration(2006)
Pension
Funds
13%
(by assets)
Trigon
16%
6%
Investment
Funds
(by assets)
Nordea Sampo
9%
Sampo
21%
9%
Banks
(by loans to
nonfinancial sec.)
ERGOSeesam
5%6%
Life insurance
Companies
(by gross premiums)
Estonian current account
15
% GDP
10
5
0
-5
-10
-15
-20
-25
-30
1993
1995
Goods
Transfers
1997
1999
2001
2003
2005
Services
Current account
2007*
2009*
Income
2011*
Investments by sectors in Estonia
% of GDP
25
25
19,7
20
20
14,0
12,7
15
15
10,2
8,3
10
7,8
7,7
10
5
5
0
0
-5
2001
2002
2003
Private enterprises
2004
2005
2006
2007*
Public sector
Households
2008*
2009*
2010*
2011*
Financial sector
Total growth
-5
Financial structure of Estonia (% of GDP)
100%
90%
2003
2004
2005
2006
80%
70%
60%
50%
40%
30%
20%
10%
0%
Debt
securities
Insurance
* Incl. pension funds' assets
Assets of Stock market Loans and
investment capitalisation* leasings***
funds*
** Stocks listed on Tallinn Stock Exchange
*** Loans and leasings to households and non-financial undertakings
Financial deepening (growth rates)
70%
60%
50%
40%
30%
20%
10%
0%
-10%
-20%
-30%
-40%
2004
2005
GDP growth
Growth of debt securities
Growth of insurance premiums
Growth of investment funds assets
Growth of stock market capitalisation
Growth of loans and leasings
2006
Profitability of financial institutions:
(ROE in solo basis)
50%
45%
40%
35%
Credit institutions
Management companies
Investment firms
30%
25%
20%
15%
10%
5%
0%
2003
2004
2005
2006
Payments by payment instruments
100%
80%
60%
40%
20%
Cash payments
Card payments
Direct debit
Mobile phone payments
Standing order
Paper based credit order
Telebank credit order
Internet bank credit oders
Other
02/28/07
09/30/06
04/30/06
11/30/05
06/30/05
01/31/05
31.08.04
31.03.04
31.10.03
31.05.03
31.12.02
31.07.02
28.02.02
30.09.01
30.04.01
30.11.00
30.06.00
31.01.00
31.08.99
31.03.99
31.10.98
31.05.98
31.12.97
0%
Investment funds sector
 Total investment funds
– 46 funds (18 equity, 15+7 pension, 6 debt)
– 9 fund management companies
– assets: 30,2 billion EEK (2 billion EUR,14% of GDP)
in march 2007
 II Pillar pension funds
– 15 mandatory pension funds
– 5 pension fund management companies
– assets: 9 billion EEK (0,6 billion EUR, 4% of GDP)
in may 2007
– ca 530 000 investors
Investment funds assets
Assets M EEK
% of GDP
30000
14,0%
25000
12,0%
10,0%
20000
8,0%
15000
6,0%
10000
4,0%
5000
2,0%
0
0,0%
1998
1999
2000
2001
2002
2003
2004
2005
2006
Market share of investment funds
3,0 b EEK 4,4 b EEK 7,2 b EEK 10,9 b EEK 18,1 b EEK
24%
26,9 b EEK
19%
44%
Debt funds
Equity funds
II pillar funds
71%
94%
87%
46%
51%
III pillar funds
31%
14%
14%
2001
2002
2003
23%
2004
27%
28%
2005
2006
Asset Management
10%
2004
2005
(% of GDP)
2006
9%
8%
7%
6%
5%
4%
3%
2%
1%
0%
Debt funds
Equity funds
Mandatory
Voluntary
pension funds pension funds
Total size of asset management in the end of 2006 – 2 781 mln EUR
Individual
portfolios
Size of II pillar assets (mln EUR)
14 000
12 000
10 000
8 000
6 000
4 000
2 000
* 2007 – 2025: estimation
2025
2024
2023
2022
2021
2020
2019
2018
2017
2016
2015
2014
2013
2012
2011
2010
2009
2008
2007
2006
2005
2004
0
II pillar pension fund’s fees in practice
Management fee
Unit issue fee
Unit redemption fee
3%
2%
1%
LHV UT
LHV TS
LHV KV
LHV MA
LHV DV
Sampo 50
Sampo 25
Sampo 00
Hansa K3
Hansa K2
Hansa K1
ERGO 50
ERGO 00
SEB 50
SEB 00
Management fees by fund type and country
Austria
Belgium
Czech Rep.
Denmark
Estonia
Finland
France
Germany
Greece
Hungary
Italy
Netherlands
Poland
Portugal
Slovakia
Spain
Sweden
UK
Balanced
0,7%
0,7%
1,8%
1,1%
1,4%
1,7%
1,2%
0,6%
2,4%
1,9%
1,5%
0,6%
2,9%
0,9%
1,4%
1,6%
1,1%
1,3%
Bond
0,4%
0,4%
1,1%
0,7%
0,9%
0,6%
0,9%
0,5%
1,6%
1,5%
0,9%
0,6%
2,0%
0,8%
0,9%
0,7%
0,7%
1,0%
Equity
1,1%
0,8%
2,1%
1,2%
1,7%
1,5%
1,3%
1,0%
2,8%
2,0%
1,6%
0,8%
2,9%
1,4%
1,7%
1,7%
1,2%
1,3%
Source: ZEW/OEE database. Data from Feri FMI Fund File, ZEW calculations; the data refer to the maximal
fees included in the prospectus.
III pillar in practise
 PENSION FUNDS:
– 7 pension funds
– 31 984 members (5% of employed)
– 866 million EEK (0,4% of GDP)
– average nominal investment return
around 20% (yearly basis, from beginning)
 PENSION INSURANCE:
– 5 life insurance companies
– 81 463 contracts (13% of employed)
– 1651 million EEK (0,78% of GDP)
III pillar assets
Billion
EEK
Pension funds
% GDP
Pension insurance
2,5
1%
2,0
0,75%
1,5
0,50%
1,0
0,25%
0,5
2000
2001
2002
2003
2004
2005
2006
Impact for markets
 Investment rules
 Quantitative vs. prudent man rule
 Diversification rules
 Instrument based restrictions (equity, nonlisted, non UCITS funds, real estate etc)
 Country based restrictions (home, EEA,
third countries)
 Self-investment restrictions (same group)
Switching rules, taxation etc. (long-termism)
Investment restrictions –
main asset class rules
 into equity (incl. equity funds) – up to 50%
 into non-listed securities – up to 10%
 into bank deposits – up to 35%
 into money market instruments – up to 35%
 into non-UCITS funds – up to 30%
 into real estate – up to 10%
Main three types of pension funds
 Debt pension funds – all assets must be invested into
debt instruments. Each pension fund manager must have
at least one this type of fund under management.
 Equity pension funds – up to 50% of assets can be
invested into equity.
 Balanced (mixed) pension funds, which can invest up
to 25% of assets into equity.
Assets of II pillar pension funds
7,43
% GDP
Billion EEK
6
50% debt - 50% equity
5
75% debt - 25% equity
100% debt
4%
4,65
3%
4
3
2,48
2%
2
1
1%
0,99
0,17
2002
2003
2004
2005
2006
Investment rules – country based
investment restrictions
 no restrictions for EEA or OECD investments
 securities issued by third country issuer – up to 30%
 securities traded only in third country – up to 20%
 currency matching rule – not less than 70% in EUR or
EEK
II pillar investment by asset type
Real estate Other
Bank accounts
3,1%
(2006)
Equities
Units of equity
14,8%
funds
24,5%
41,1%
Bonds
3%
Money market
instruments
12,4%
Units of other
investment
funds
II pillar investment by asset type
100%
Other
Bank accounts
80%
Bonds
Money market
instruments
60%
Units of other
investment funds
40%
Units of equity funds
20%
Equities
31.03.2007
31.12.2006
30.09.2006
30.06.2006
31.03.2006
31.12.2005
30.09.2005
30.06.2005
31.03.2005
31.12.2004
30.09.2004
30.06.2004
0%
II pillar investment by region (2006)
USA
EU-15
2,5%
Estonia
54,5%
19,1%
11%
3,3%
9,8%
Other
Russia
EU-10 (except
Estonia)
31.03.2007
31.12.2006
30.09.2006
30.06.2006
31.03.2006
31.12.2005
30.09.2005
30.06.2005
31.03.2005
31.12.2004
30.09.2004
30.06.2004
II pillar investment by region
100%
Other
90%
80%
Estonia
70%
Russia
EU-10
(except Estonia)
60%
50%
40%
30%
20%
EU-15
10%
0%
USA
Assets M EEK
31.03.2007
31.12.2006
30.09.2006
30.06.2006
31.03.2006
31.12.2005
30.09.2005
30.06.2005
31.03.2005
31.12.2004
30.09.2004
30.06.2004
Investments into Estonia (2006)
% of assets
1800
25%
1600
1400
20%
1200
1000
15%
800
10%
600
400
5%
200
0
Investments into Estonia (2006)
 3/4 of investments into Estonia are in real economy
 1/4 is actually invested outside of Estonia
Other
Bank accounts
17%
2%
Equities and units
of funds
1%
34%
Real estate
38%
Bonds
8%
Money market
instruments
Growth of Estonian GDP and
TSE index
14 000
900
GDP (mln EUR)
13 000
800
Tallinn Stock Exchange index
700
12 000
600
11 000
500
10 000
400
9 000
300
8 000
200
7 000
6 000
1.01.00
100
1.01.01
1.01.02
1.01.03
1.01.04
1.01.05
1.01.06
0
1.01.07
Investments to Tallinn Stock
Exchange (end of 2006)
Other countries
Finland
7%
USA
3%
Latvia
3%
4%
Luxembourg
6%
UK
5%
Sweden
20%
Estonia
52%
Tallinn Stock Exchange (2001 – 2006):
incl. shares and bonds
5 000
70 000
Market capitalization (mln EUR)
4 500
4 000
Turnover (mln EUR)
60 000
No of transactions (on the right scale)
50 000
3 500
3 000
40 000
2 500
30 000
2 000
1 500
20 000
1 000
10 000
500
0
2001
2002
2003
* Incl. de-listing of Hansapank’s shares
2004
2005*
0
2006
Nordic-Baltic Capital Markets
Relative Size, End-2006
Stock Markets
Country
Denmark
Iceland
Sweden
Norway
Finland
Estonia
Lithuania
Latvia
Capitalization
(mln €)
181 606
27 375
467 072
232 556
234 691
4 521
7 724
2 039
Bond Markets
% of GDP
83%
219%
152%
87%
140%
35%
33%
13%
Outstanding
Stock (mln €)
413 202
13 371
207 631
117 71
55 864
392
1 170
649
% of GDP
188%
107%
68%
44%
33%
3%
5%
4%
General government debt
% of GDP
80
75,1
74,9
74,2
72,8
70,4
69,4
69,2
70,4
70,9
70,8
69,4
60
40
20
7,6
6,4
5,7
6,2
4,7
4,4
5,3
5,3
1996
1997
1998
1999
2000
2001
2002
2003
5,0
4,5
4,0
0
Euro area
2004
Estonia
2005
2006
Loans and leasings (% of GDP)
100%
90%
80%
Households Debt/GDP
Non-financial corporations Debt/GDP
70%
60%
50%
40%
30%
20%
10%
0%
1999
2000
2001
2002
2003
2004
2005
2006
Consumer credits EEK
Consumer credits EUR
Housing loans EEK
31.08.06
31.12.06
30.04.07
31.12.04
30.04.05
31.08.05
31.12.05
30.04.06
30.04.03
31.08.03
31.12.03
30.04.04
31.08.04
31.08.01
31.12.01
30.04.02
31.08.02
31.12.02
31.12.99
30.04.00
31.08.00
31.12.00
30.04.01
30.04.98
31.08.98
31.12.98
30.04.99
31.08.99
30.04.97
31.08.97
31.12.97
Annual interest rates of loans
granted to individuals
30,0%
25,0%
20,0%
15,0%
10,0%
5,0%
0,0%
Housing loans EUR
Financial deepening (growth rates)
70%
60%
50%
40%
30%
20%
10%
0%
-10%
-20%
-30%
-40%
2004
2005
GDP growth
Growth of debt securities
Growth of insurance premiums
Growth of investment funds assets
Growth of stock market capitalisation
Growth of loans and leasings
2006
Savings in Estonia
50 %GDP
40
30
20
10
0
2000
2001 2002
2003 2004
Domestic private
savings
2005 2006 2007* 2008* 2009* 2010* 2011*
Domestic public
savings
Foreign savings
Investment return of II pillar PF’s
From beginning
20%
Last 12 months
15%
10%
15,5%
5%
9,3%
11%
6,6%
3%
3,5%
Debt instr PF
Mixed PF’s
Equity PF’s
Investment return of II pillar PF’s
EPI 100
EPI 75
EPI 50
EPI
160
150
140
130
120
110
100
2002
2003
2004
2005
2006
Initial conclusions for
capital market development
 Overregulated – too strict quantitive
investement restrictions – negative real
rate of returns of debt pension funds.
 Lack of long-term views in investment
strategies (short-termism)
 Moderate level of impact to domestic
capital market (no corporate and
mortgage bond market boom, no new
long-term instruments)
Redesigning regulatory
framework
 Removing investment restrictions
- real estate and real estate funds up to 40%
- venture capital funds up to 50%(+20%)
- ? increasing 50% equity ceiling (70% or 100%
for equity funds) for III pillar funds already 100%
- ? allowing 10 % equity for most conservative
fund (10 %, 40%, 70% instead of 0,25,50)
 Making fee structure more transparent
 removal of entry fee
 removal of exit fee if 5 years before retirement
 regressive ceilings for management fee
 Payment phase (annuities etc)
Contacts
www.pensionikeskus.ee
[email protected]