36 March 2008www.the-actuary.org.uk Why should the security of a pension promise from an occupational pension scheme be any different from that under an insurance policy? This is the central question to be addressed by the European Commission in the looming debate on whether and how a risk-based funding and capital adequacy requirement of the type applying to 64257 nancial services 64257 rms should also be applied to de64257 ned-bene64257 t pension schemes. Opinions in Europe are currently polarised between those who view pension schemes as financial institutions not dissimilar to insurance companies, and others that view pensions as a cross between a strict financial product and a best-endeavour initiative to deliver certain social policy objectives. In a specific reference to pensions, the European Parliament has urged the Commission to explore ways of promoting better risk management, and the possibility of supplementing the Institutions for Occupational Retirement Provision (IORP) Directive with a harmonised solvency framework for pension funds in line with the Solvency II approach, taking into account the specific features of occupational retirement provision. If the Solvency II requirements, as constructed for insurance (see box), are adopted for pension funds, the technical provisions and capital required could be considerable 8212 well in excess of the amounts required for buy-out. The Commission is well aware that pensions are different from insurance and have acknowledged that a 8216cut and paste8217 solution is therefore not the right answer and that a sharp increase in capitalisation could have serious consequences for members and sponsors. They will seek to identify the relevant issues before a 8216call for advice8217 in 2008 as part of the due process for reviewing the operation of the IORP Directive. The blueprint for change, if any, is unlikely to emerge until 2009 and any timetable beyond that is speculative. HarmonisationInsurance companies in the EU have been complying with EU-wide regulatory requirements since the 1990s. Thus, there is already a reasonable amount of homogeneity of markets and consistency across the EU on reserving and solvency for insurance companies. Solvency II may just be the logical next step on the road to removing regulatory arbitrage. The pension landscape, on the other hand, is fundamentally different, presenting some unique challenges if the admirable objective of harmonisation is to be converted into a practical set of principles acceptable across the EU.There is already a high level of State provision in some member states and little or no tradition of occupational pensions, although the IORP Directive does not apply to the former. Then there are member states where a high proportion of occupational pensions traditionally come from de64257 ned contribution arrangements where solvency considerations only apply to embedded guarantees. Where pensions are funded, there is a wide range of funding practices across member states, often shaped by national legislation, much of which has only recently been put in place at great cost to comply with the IORP Directive. Elsewhere, there is the curious situation whereby signi64257 cant slices of de64257 ned-bene64257 t pensions fall outside the scope of the IORP Directive, simply because they are unfunded or provided through book reserves. Further, the range and types of pension plan and the degree of risk-sharing between plan sponsors and members varies signi64257 cantly between member states. In many cases, certain aspects of plan design are dictated by national legislation and are insensitive to changing fashion and conditions. Finally, differences in the tax treatment of pensions provide a further (and in many cases substantial) tilt to the playing 64257 eld. This is not just con64257 ned to differences between member states but can also apply across the range of savings products in a single state. Much of this diversity results from the principle of subsidiarity which recognises national sovereignty, allowing governments the freedom to arrange their internal affairs as they see 64257 t. This is a much valued carve-out to accommodate different social and 64257 scal cultures and objectives. The IORP Directive does not (and probably cannot) seek to change it. The 64257 rst task for the Commission is to 64257 nd a practical way around what appears to be a con64258 ict between the principle of subsidiarity and the objective of harmonisation. This in turn should have an important bearing on whether the regulatory emphasis between Pillar I (capital) and Pillars II and III (supervisory process and market discipline) can be the same for pensions as it is for insurance. These are not issues that can be easily resolved at the technical level. Dif64257 cult choices will need to be made at the highest political level to reconcile the objectives of free competition with the disproportionate impact on capital requirements between differing member states: 9632 States with generously funded private-sector bene64257 ts (who would bear the brunt of any new requirements)9632 States with unfunded pensions (who would also face substantial new capital requirements unless the concept of harmonisation is severely compromised so that they continue to be exempted from the IORP)9632 States with little or no private sector pension provision (who escape regulation altogether).Some commentators would argue that any initial pain, however harsh or uneven, is a necessary price for a more competitive European Community in the long term. That said, the 64257 nancing implications and their potential impact on capital markets, as well as competition in the short term, could be very large unless the effects are allowed to emerge over very long periods. Equally important Chinu Patel explains the issues the European Commission will have to consider in shaping future regulation for pensionsA bridge too far?187 If the Solvency II requirements, as constructed for insurance, are adopted for pension funds, the technical provisions and capital required could be considerable 171Chinu Patel is a senior consultant at Watson WyattPensionsRegulation036_037_Actuary_Patel_0308.indd 3619/2/08 15:17:18
Page 1Page 2Page 3Page 4Page 5Page 6Page 7Page 8Page 9Page 10Page 11Page 12Page 13Page 14Page 15Page 16Page 17Page 18Page 19Page 20Page 21Page 22Page 23Page 24Page 25Page 26Page 27Page 28Page 29Page 30Page 31Page 32Page 33Page 34Page 35Page 36Page 37Page 38Page 39Page 40Page 41Page 42Page 43Page 44Page 45Page 46Page 47Page 48Page 49Page 50Page 51Page 52Page 53Page 54Page 55Page 56Page 57Page 58Page 59Page 60Page 61Page 62Page 63Page 64Page 65Page 66Page 67Page 68Page 69Page 70Page 71Page 72Page 73Page 74Page 75Page 76 Produced by PageSuite