The consequences of changes in the term structure methodology: A study on the consequences of introducing the UFR-methodology for Dutch pension funds

  • Tom van der Vorst Tom van der Vorst

The yield curve methodology used by the Dutch Central Bank for the term structures for pension funds has changed as of September 2012. Low market rates, a persistent economic crisis and assumed illiquidity of the swap market beyond 20 years have clearedthe way for the implementation of the UFR-methodology in the yield curve. A direct consequence for Dutch pension funds is a sudden increase in the funding ratios. In this thesis the consequences of the changed yield curve methodology for Dutch pension fundsare further illustrated. Looking at the effects on the coverage ratio and cost-effective contribution, the implementation of the new methodology improved the financial situation of pension funds. The coverage ratio has increased, and the volatility seems to decrease with the new methodology.Higher coverage ratios will prevent or lower rights cuts in 2015, when the new financial assessment framework is likely to be fully operational. The new methodology will be in favor of the older participants of the funds, as a large part of their financial capital is put into the pension fund and their human capital has diminished. The full effect for the younger participants is not clear at this moment in time.In the new methodology, choices have to be made regarding a number of key input parameters.A solid theoretical and empirical basis on which these choices are made seems to be missing at this moment in time. At the end, when the interest rates cannot meet their expectations in the long run (i.e. the ultimate forward rate), pension funds can be in trouble. Pension funds then have paid higher pension bene ts to the pensionersand assigned more pension accrual to the participants then they could afford ex post.An overestimation of the nancial status at this moment in time can cause for a (more) asymmetric distribution of capital over generations within pension funds.

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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