International comparison of funded pension systems. Greater freedom of choice is possible; risk-sharing structures differ by country.
This brief considers what the Netherlands can learn from funded pension systems in other countries. The roles of the government, the social partners and the individual differ from one country to another. We examine four prototypes: the Provident Fund model (Malaysia, Singapore) which is marked by extensive government regulation; the Social Partners model (the Netherlands, Switzerland, Scandinavia) which entails a combination of government regulation and self-regulation by the social partners; the Regulated Choice model (Australia, Chile) in which governments impose a mandatory savings obligation which is then administered by private sector providers, and the Induced Choice model (New Zealand, UK, USA) which allows considerable room for individual choice although decisions can be influenced by the inclusion of standard preferred options (‘defaults’).
The most important conclusions
- Greater choice in investment and eventual withdrawal of the supplementary pension will allow participants more flexibility in spreading income and consumption throughout their life career. Such choice may also help to address the individual’s circumstances and preferences more effectively. Freedom of choice will be enhanced if participants are permitted to reduce their accrual of pension entitlement, i.e. pay lower premiums, or to withdraw part of the final entitlement as a lump sum. However, it will be necessary to restrict freedom of choice to some extent in order to avoid selection risks and to encourage better distribution of income throughout the participant’s lifetime. Freedom of choice during the accrual phase will call for the abolition of the ‘average system.’ In the Dutch situation, freedom of choice during the investment and withdrawal phase is important because the level of mandatory savings is relatively high, even if we allow for reduced accrual and the poor indexation prospects at this time.
- Other countries’ arrangements which allow individual choice are increasingly using standard options (‘defaults’) to encourage the responsible accrual, investment and withdrawal of pension entitlements. In the Netherlands, employees and self-employed persons who are not currently obliged to contribute to a collective scheme could be automatically enrolled in a standard scheme similar to the United Kingdom’s NEST. They would be free to discontinue participation at any time (‘opting out’) and to withdraw the pension capital already accrued.
- Experience in other countries suggests that allowing individuals an entirely free choice with no further regulation of their pension plans is not always effective. An active role for the government, the social partners or the employer usually helps to keep costs in check and to enhance transparency.
- Dutch pension funds are more likely to share investment risk with future generations than the funded pension systems in other countries. Intergenerational risk-sharing is a feature of the Defined Benefit pension plans, but is seen to a much lesser extent – if at all – in Defined Contribution plans. Countries which have favored Defined Benefit arrangements in the past are now gradually shifting towards Defined Contribution plans. The Dutch policy debate has now turned its attention to the pros and cons of sharing investment risks with future generations.