Should I stay or should I go? Break even funding ratios for DB pension plan participants

We analyze whether a low funding ratio of a pension fund can create incentives for individuals to leave this fund and save for retirement on an individual basis. Furthermore, we explore how these incentives differ per age. The recent crisis has led to a large drop in funding ratios of many pension funds, which raises the question whether for a certain funding level the benefits of participating in the pension fund are outweighed by the disadvantages. For the benchmark case we find that the funding ratio needs to be very low, for almostall ages, to give agents motives to leave the pension fund and save via an individual DC scheme. Furthermore the break even funding ratios vary substantially with age and exhibit a U-shaped pattern over the life cycle. Hence relatively young and old cohorts have more incentives to leave the pension fund. However, the benefits of participating in the DB scheme, namely intergenerational solidarity, lower costs, and no conversion risk, are in most cases so high that even for low funding ratios individuals do not have an incentive toleave the fund.

Netspar, Network for Studies on Pensions, Aging and Retirement, is a thinktank and knowledge network. Netspar is dedicated to promoting a wider understanding of the economic and social implications of pensions, aging and retirement in the Netherlands and Europe.

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