A reality check on Funded Pensions

1. A reality check on Funded Pensions Pablo Antolin Head of the Private Pension Unit Deputy Head OECD Financial Affairs Division

2. Structure presentation • Challenges facing funded pensions and pension funds • Their mandate (OECD Core Principles of Private Pension Regulation) • The role of funded systems and pension funds in sustainable and ESG investment

3. Challenges facing funded pensions • Population ageing • Current economic environment of low interest rates, low returns, low growth and low wage growth

4. Population ageing • Increase average age population, higher life expectancy (lower mortality rates), low fertility rates • Differentiate between baby boom (temporary) and improvements in life expectancy (permanent?) • Baby boom: costs incurred • Life expectancy: account for it (proper mortality tables), problem with uncertainty about future improvements (longevity risk)

5. Population ageing • Implications • Higher dependency ratio • (1) intense fiscal pressures on PAYG DB pensions: sustainability problems • More years in retirement to be financed: • (2) solvency problems for DB funded pensions; • (3) adequacy problems for DC pensions • Solutions • Contribute more for longer • Automatic adjustment mechanisms (actuarial adjustments, mortality tables, NDC, DCs)

6. Economic environment low growth, returns, interest rates • Low internal rates of return in PAYG schemes, which increases the problem of fiscal sustainability • Loss of confidence in funded (private) pensions, mistrust PAYG public pensions will deliver on their promises • Low returns & interest rates in DB funded system increase problems of solvency, pension funds problems to deliver on promises, employers higher costs because of liabilities. • Low financial returns generate retirement income adequacy concerns for DC (same savings lower accumulated assets, lower annuity payments, lower retirement income)

7. Economic environment low growth, returns, interest rates • Solutions as before: contribute more and for longer, automatic adjustment mechanisms, appropriate and regularly updated mortality tables including future improvements (dynamic tables) • Risks: • Pension funds seek higher yields via higher risk investments to match the level of returns promised to beneficiaries • Regulatory framework plays an important role here to prevent excessive risk taking in search for yield.

8. Pensions Funds • The OECD Core Principles of Private Pension Regulation and the regulatory framework of OECD countries establishes that • The main mandate of pension funds is to manage people’s retirement savings in their best interest • Achieve higher retirement income possible, by balancing returns and risks: • higher risk adjusted net of costs real returns • Diversification • Assess all investment opportunities by using appropriate risk assessment techniques and • Have appropriate risk management

9. Pensions Funds, Sustainable Investment and ESG • Sustainable investment opportunities and ESG investment opportunities are part of pension fund investment policy and risk management • OECD work establishes that fiduciary duty does not prohibit ESG integration nor prevents it • Regulation permits but (generally) does not encourage ESG investing, beyond the fiduciary of best interest of members (best real risk adjusted returns net of costs) • Investors interpretation: prudent man, efficient market (everything is in the price), and lack of clarity on the rules by the regulator may discourage ESG integration

10. Pensions Funds, Sustainable Investment and ESG • Practical barriers: • Lack of standardised and homogenised data • Lack of standardised and appropriate disclosure • Lack of appropriate models, indicators, metrics, and approaches to assess ESG investment opportunities (future work of the OECD WPPP?) • Availability of ESG investment opportunities that provide good risk adjusted net returns • ESG no matter what (investment risk management)

11. Thank You!