International Comparison of Pension Fund Regulation
Pension funds base their financial policies on ALM models with long-term projections. Dutch solvency supervision (FTK) focuses strongly on the short term and mainly uses market values. Does this lead to problematic tension between policy and solvency supervision? ls it useful to give the long term as used in policy-making a greater role in the financial assessment in the context of (solvency) supervision? Pension funds often use stochastic models and look at scenarios for a (medium) long term, through the projection of returns and cash flows. The starting point is continuity of the fund including new accrual and contributions. The assessment of the policy within the FTK takes place on the basis of projection methods (feasibility test, recovery plans). The daily supervision of pension funds mainly looks at the current balance sheet. The FTK looks at the market value of investments and liabilities starting from discontinuity. The assessment of the required solvency is based on a
horizon of one year.
Tension between policy and supervision
The above makes it clear that the policy and the supervision of the solvency of pension funds -methodologically – are not necessarily compatible with each other. The policy is based on continuity, long term and cash flows / projections, while solvency supervision focuses on present values and avoiding discontinuity. The methods used for supervision and policy are therefore very different. The question is whether the supervisory framework can give more attention in the assessment of the solidity of the institutions to the way in which pension funds design and value their policies, and how that could be rooted in a supervisory framework. For example, in the stress test for pension funds in 2019, EIOPA will use a valuation approach (Common Framework), but will also assess a cash flow projections based approach (Cash Flow Analysis). A projection method is also applied for DC funds. The motivation of the solvency supervision is to be able to meet the expectations that have arisen and to prevent too much risk from being invested in new build-up (and leads to discontinuity risk). The underlying question is how the regulator should weigh and combine the following two objectives: long term sufficiency (it the pension fund able to pay out the indicated pensions) and short-term discontinuity requirements (if the pension fund is abolished today, is the value of the assets sufficient to cover its liabilities?).
In our research we propose to compare different supervisory regimes. In particular we want to make a three-way comparison between the Dutch, the European and the Canadian supervision framework for pension funds. The reason for choosing Canada is that it has a well-developed and regulated pensions sector, but the Canadian supervision framework is more focused on “going concern” compared to the Dutch and European regulation frameworks.