Design of solidarity reserve
In June 2020, the government sent an outline memorandum to the Lower House containing a proposal for the reform of the pension system. This outline memorandum is not yet a bill: important details have yet to be determined. However, the direction for the reform of the pension system is fairly clear. The reform includes a new tax framework for supplementary pensions and a draft for a new pension contract.
A characteristic of the new pension contract is that there is no defined pension obligation to participants. Participants do not accrue pension entitlements. Instead, participants acquire a personal “share” in a collective asset. This characteristic has similarities with the existing defined contribution agreements, which fall under the Improved Premium Scheme Act (WVP), whereby participants accrue individual pension assets. One difference is that in the new pension contract, the pension assets are the collective property of the participants in the pension fund. Another difference is that part of the collective property is not assigned to anyone. This part of the collective assets is called the solidarity reserve. The outline memorandum states that the solidarity reserve will also be optional for use in contracts under the WVP, at least for industry and occupational pension funds.
The solidarity reserve can be used for transfers between generations for intergenerational risk sharing. There are two ways to fill the solidarity reserve: by skimming part of the premium deposits, and by skimming part of the positive excess returns. The reserve can be distributed to participants basis on the allocation rules that pension funds themselves can specify. A possible implementation is to compensate participants if the replacement ratio is lower than previously expected, or to compensate for disappointing returns on the personal assets of participants.
Intergenerational risk sharing may come under pressure if it turns out that specific age groups are strongly disadvantaged in a scenario in which windfalls or setbacks have occurred. This is called the risk of discontinuity. For this reason, legislation sets limits to the possibilities for intergenerational risk sharing through the solidarity reserve. The outline note states that the maximum size of the solidarity reserve is limited to 15% of the total assets, and that it may not be negative. Moreover, both the percentage of the premium contribution and the percentage of the positive excess returns that are creamed off for the benefit of the solidarity reserve, are limited to 10%.
The four central research questions of this project relate to intergenerational risk sharing through the solidarity reserve:
- What types of risks can be spread over generations through the solidarity reserve? In particular, consider the options for sharing macro longevity risk and inflation risk. What are the economic arguments for doing so in scientific literature?
- When does the solidarity reserve contribute significantly to intergenerational solidarity? And to what extent is the solidarity reserve (which must not be negative) able to limit the risk of discontinuity?
- What are the arguments for drawing up the rules with regard to the way in which the solidarity reserve is filled and the rules for the distribution of the resources in the solidarity reserve? Are there any major reasons why certain types of designs lead to better results than others?
- What is the theoretically optimal design for the solidarity reserve? Would this optimal design contain asymmetrical rules?
Read the paper here.