O. Settergren 2004 Should we move towards more funding and less PAYG? Lessons from the Great Swedish Pension Reform

O. Settergren 2004 Unfair redistribution of income B Significant work disinscentives C Reform Reasons Financial instability A

O. Settergren Parliament adopts principles of the new pension plan Pension reform process - very long first payments according to new system 1991 Commission set up 1992 Draft of a new pension plan 1998 Main legislation of the new pension plan 2001 Legislation on the automatic balance mechanism But transition rather quick i international comparison

O. Settergren 2004 Transparency B Maximize inter-generational fairness C Basic income security D Reform Objectives Financial stability (= Credibility?) A

O. Settergren 2004 What Is a Notional Defined Contribution (NDC) Pension System?

O. Settergren 2004 IIIIV III Tie between contribution and accrued pension credit 0 % 100 % 0 %100% Degree of funding Four basic design options Defined Benefit Defined Contribution Pay- as- you- go Funded Theoretical or formal risk distribution 100 % insured 100 % insurer (= taxpayers)

O. Settergren 2004 IIIIV III Defined Benefit Reform Strategy Contribution 16 % Contribution 2.5 % Premiepension Funded Inkomstpension NDC Contribution 16 % D S G D = Disability pension S = Survivors pension G= Guarantee pension Old pension scheme Defined Contribution PAYGOFunded

O. Settergren 2004 Each crown payed during life result in the same amount of pension credit 16 % Pay-as-you-go Funded 2,5 % Pensinable income of insured SEK

O. Settergren 2004 Administration Survivors bonus 0 Development of notional account and convertion to an annuity The amount on the notional account, SEK Annuity divisor 15,7 Net indexation Credited contributions = Pension Age Interest with change in average income Life expectancy (65 =18,5) Interest rate 1,6% -

O. Settergren interest 1,6 % growth 2,0 %..interest 1,6 % growth 1,6 % Imputed interest 0,0 % growth 1,6 % Pension as an annuity Age Pension..interest 1,6 % growth 1,0 %

O. Settergren 2004 Individual information Micro level information

O. Settergren 2004 Why individual information? The change from a defined-benfit to (two) defined-contribution systems Harmonise the expectations of the insured with the economic and demographic realities Create a relevant sense of confidence and trust between the system and the insured Make clear that: If life expectancy continues to increase you either will have to delay your retirement or accept a lower annual pension Improve the insureds opportunities for well informed decisions

O. Settergren 2004 Page 1 Projection of the future pension 5 The development of the funded account 2 The development of the notional account 3 Pension credit earned last year The NDC system & Premium pension system 4 Premium pension funds 6 Explanations

O. Settergren 2004 Page

O. Settergren 2004 Page 2 1 euro 9 couronnes

O. Settergren 2004 Page 1 Continuation... The projection If you draw your pension from age: age 61: With growth 0 %: you receiveSEK per month per month With 2 % growth you receive age 65: With growth 0 %: you receiveSEK 9,374 per month per month With 2 % growth you receive age 70: With growth 0 %: you receiveSEK 13,270 per month per month With 2 % growth you receive

O. Settergren 2004 Page 1 The elements of the annual individual projection The base : the last value of the virtual and financial accounts. A. The assumption made on the individuals future contributions to retirement: = 16 % + 2,5 % x last income + 0 % & 2 % B. Annuity divisor : projected life expectancy at 61, 65 and 65 for each birth-chohort C. Indexation / return: D. 0 % 3,5 % 2 % 6 % At age 61 : At age 65 : At age 70 : Continuation...

O. Settergren 2004 Page 1 What are the ideas behind this complicated individual projection? Age 61: The importance of retirement age, and life expectancy development The importance of economic development (Growth in average income and the return on capital) Age 65: +/-0 Age 70: Continuation...

O. Settergren 2004 Page 1 You may receive a pension from more than one source In addition to the national pension, you may also receive pension benefits from other sources. This may be an occupational pension from your employer or perhaps a pension from your own private pension savings. Such benefits are not described here. Continuation...

O. Settergren 2004 What is a fair pension system? Here opinions differ wildly, at least in Sweden

O. Settergren 2004 Some of many possible, definitions of a fair pension system: 1. Same pension for all 2. Same replacement rate for all 3. Same ratio of expected benefits over contributions for all Calculated at what discount rate? Discount with average income growth, always! Every contribution, for every insured, has the same expected value

O. Settergren White collar worker Blue collar worker Age of worker Annual income euro Pension X contribution rate 18.5 %

O. Settergren Accumulated contributions= pension credits Age of worker Euro Accumulated interest (indexation)

O. Settergren Notional Capital, i.e. accumulated contributions & interest (indexation), euro Age of worker 64

O. Settergren 2004 Administration Survivors bonus 0 Remember this image? The amount on the notional account, SEK Annuity divisor 15,7 Net indexation Credited contributions = Pension Age Interest with change in average income Life expectancy (65 =18,5) Interest rate 1,6% -

O. Settergren White collar worker Blue collar worker Age of worker Annual income euro Replacement rate 65 % Replacement rate 42 % Pension

O. Settergren 2004 Disability benefits 4% 2% Child years 11% Sickness unemployment parental benefits, etc. Fairness, etc Types of Pensionable Income 83% Wages & incomes of self employed

O. Settergren 2004 Guarantee pension change the distribution of risks for those with low or no income-related pension The guarantee is a basic security financed with general tax revenue Earnings-related pension Income-related pension Guarantee Income-related pension Guarantee Earnings- related + guarantee pension

O. Settergren ,7 – 65 years18 y. 6 m ,4 –4 % + 7 months + 11 months ,0 –7 % + 13 months + 20 months ,5 –10 % + 18 months + 28 months ,9 –12 % + 23 months + 35 months ,2 –13 % + 26 months + 41 months Gender neutral life- expectancy at age 65 Birth cohort...turns 65 Projected annuity divisor Effect on pension from increased life-span Pension age to neutralize life-span effect on pension

O. Settergren 2004 Procent Inkomstpension Old Scheme Premiepension Life-span effect Birth Cohort Garantipension Projected Compensation Rate at age 65, Cohorts Average pension at 65 relative to average wage for those working at that time

O. Settergren 2004 Simulations of net contribution in percent of total contributions 90s 60s Born in the 1940s Without balance mechanism

O. Settergren 2004 Simulations of fund ratio, Without balance mechanism Market value of buffer fund One year of pension disbursements

O. Settergren 2004 Trusted true prophet Mistrusted true prophet Accountant Trusted false prophet Policy makers knowledge of the future 0 1 The publics perception of the policy makers knowledge of the future 0 1 Line of satisfied expectations Four stylised policy makers – which one are you?

O. Settergren 2004 The end Distributed by: Riksförsäkringsverket (RFV), Stockholm