Veiko Tali Ministry of Finance of Estonia May 7, 2009 World Bank Workshop Pension Systems in Times of Financial Crisis Country case: Estonia Veiko Tali Ministry of Finance of Estonia May 7, 2009

Second pillar pension funds indexes (NAV)

OMX Tallinn index

Contributions vs pension funds assets

Some main features of II pillar Optional for 1942-1982 - ca 75 % of all switchers top-up model 2 (individidual) + 4 (social tax) three types of funds (6 PFMC – 19 funds) 2009 – payment phase – already ca 4000 cases 5000 10000 15000 20000 25000 1942 1944 1946 1948 1950 1952 1954 1956 1958 1960 1962 1964 1966 1968 1970 1972 1974 1976 1978 1980 1982 1984 1986 1988 0% equity funds 25% equity funds 50% equity funds

NAV’s of progressive (50% equity) funds - different ability to manage the crisis

NAV’s of conservative (0% equity) funds – diverged performance

Regulatory challenges: what we`ve missed ? new post Lehman world or just another (deep) financial crisis: should we expect old paradigms to “die” (equity premium, long-short etc.) ? sustainable structure of pension pillars (PAYG vs funded) guarantees for mandatory pension funds (especially conservative funds) how to protect victims of economic cycle – forcing pre-retirement switching to more conservative funds

Regulatory challenges: what we`ve missed ? role and motivation of fund managers (active/passive, fee structure) regularity and conditions for switching (annual or..?) self- responsibility vs. short-termism role and ability of supervisors (FSA-s) mandatory share of domestic investments (financing economic revival) investment restrictions

Real GDP growth % 12 10 8 6 4 2 -2 -4 -6 -8 -10 1996 1998 2000 2002 2004 2006 2008 2010*

General government budget

Why changes of I and II pillar pensions ? meet Maastricht criterias of EMU accession – 3 % of budget deficit sustainability of state cash position 2009-10 (reductions, reserves, borrowing) as a part of fiscal package (fundamental cost reductions) encouraging consumption vs forced savings during crisis compensation of the increase of unemployment insurance contributios rate from 0,6 to 2 %

Social tax from EMPLOYER Individual contribution 2% Financing I + II pillar pensions Social tax from EMPLOYER Health insurance 13% Pension insurance 20% I pillar 16% II pillar 4% + Individual contribution 2%

I pillar pension index 2002: 50% CPI + 50% social tax fund revenues growth Min index 1,000 (floor) 2008: 20% CPI + 80% social tax fund revenues growth Possibility to change index after every 5 years 2009: Possibility for Governement to reduce index if economic growth is negative or I pillar budget deficit is more than 1% of GDP (actually 1,05 instead of 1.14) Government has to balance the reductions or increases within 5 years (taking into account also actual negative indexes)

I pillar indexes

I pillar index vs II pillar return 1 1,4 1,8 2,2 2,6 3 3,4 3,8 4,2 2001 2002 2003 2004 2005 2006 2007 2008 2009 2010 2011 2012 2013 2014 2015 2016 2017 II pillar return I pillar pension actual growth I pillar formal index

I pillar index vs II pillar return 1 1,2 1,4 1,6 1,8 2009 2010 2011 2012 2013 2014 2015 2016 2017 II pillar return I pillar pension index

Temporary freezing of II pillar: base scenario

Optional scenario to continue own contribution

Optional scenario for pre-retirees (born in 1942-1951)

II pillar changes temporary full (2009-10) and partial (2011) contribution holiday options to continue with own contribution in 2009 (voting for II pillar) optional compensation scheme (2014-17) with additional contributions (3+6), linked to economic performance 5 % nominal GDP growth rate exemption for older generation, because they cannot reach the compensation period not allowing switching back or taking money out of II pillar during 2009-11 - 6,5 bn EEK missing fresh inflow to II pillar funds during 2014-17 additional 4-6 bn EEK to II pillar funds Main risk for II pillar: it happens again in future - like a drug for politicians

Short term state pension budget balance

Investment funds market (1)

Investment funds market (2)

II pillar investments by region

Investments into Estonia (2009 Iq)

Investments into Estonia (2007)