Hopefully, if a continuing healthy stock market can be added to a mix of rising interest rates and rising plan contributions, all DB pension ships will soon be financially afloat again. But there are also future scenarios where modest increases in contribution rates will not be sufficient to refloat the currently underwater ships. Then what? Nobody wants to talk about it.
Well, almost nobody. The most notable exception is the Dutch pension regulator PVK. In its now-famous September 2002 letter to the Dutch pension fund community, the PVK stated that a significant gap had developed between plan members’ expectations and the ability of the plans to deliver on those expectations. On the one hand, the letter said, plan participants expect pensions tied to final earnings and fully indexed for inflation. On the other hand, there is now a possibility that current plan assets and contribution rates will be insufficient to deliver on those expectations. This, the PVK said, is unacceptable.
The letter laid out the regulator’s radical plan for re-floating DB plans. It has two key elements: financial standards and reporting requirements for DB plans are to move to a ‘fair value’ basis(i.e., assets and liabilities to be reported at market value); and risk-taking has to be accompanied by an adequate contingency buffer against adverse experience in the form of higher target funded ratios for plans taking higher balance sheet mismatch risk.
The reaction of the Dutch pension community ranged from disbelief to anger. A quick calculation showed the Dutch pension system would be ‘short’ some 250 billion Euros if the PVK plan was adopted immediately. A consensus evolved that the only way to maintain a sustainable pension system under the new PVK rules was to make pension benefits a variable—a “V” rather than the “D” in DB—with the level of benefits now dependent on the plan balance sheet’s ability to pay them. This new formula severely limits the ability of today’s generation to foist balance sheet losses unto future generations.
The Dutch were able to quickly re-engineer their work place-based pension system for four reasons: a pension regulator willing to take heat in order to fix a system it felt was going broke; a view that its mandatory, workplace-based pension system is a strategic national asset that must remain sustainable; a consensus-building culture; and a learning, researchbased attitude that is serious about making strategic decisions based on the best-available information and knowledge.
How relevant is the Dutch pension reform story for Canadians? Do we have a pension regulator willing to take the heat? Do we see our workplace- based pension system as a national asset? Do we have a consensus-building culture? Those are questions Canadian regulators and DB plan sponsors should be asking themselves.
Keith Ambachtsheer is president of KPA Advisory Services Ltd., a strategic advisor to major pension plans around the world, based in Toronto. email@example.com