Mercer Human Resource Consulting Limited is authorised and regulated by the Financial Services AuthorityRegistered in England No. 984275 Registered Office: 1 Tower Place West, Tower Place, London EC3R 5BU

Deborah CooperLondon, UK

The payout phase of funded pensionsWorkshop on private pension provision – decumulation phase

7 September 2007

Mercer Human Resource Consulting 2

The payout phase of funded pensionsAgenda

Context

Terms of reference

What is being investigated

What we know already

Mercer Human Resource Consulting 3

The payout phase of funded pensionsAgenda

Context

Terms of reference

What is being investigated

What we know already

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The payout phase of funded pensionsObjectives of pension saving

Sustainability

Adequacy

Modernisation

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The payout phase of funded pensionsPensions vs poverty

Poverty threshold

Pillar 1 Comment

Cz 4660 960 minimum pension

De 9890 14110 average pension, full service

Ee 2870 2260 average pension, full service

Es 7040 6540 minimum pension

Ie 9000 10040 maximum flat rate

Pl 2880 1850 minimum pension

Sl 7050 8810 average pension, full service

Nl 9690 11950

UK 10650 6540 minimum, flat rate pension

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The payout phase of funded pensionsPossible objectives of pension saving

1st pillar 2nd and 3rd pillars

Help redistribute between income groups and cohorts

Provide insurance in old age

Provide minimum income above a certain age

Provide ‘adequate’ income above a certain age

Reduce reliance on state

Assist individuals to distribute employment income over their adult lifetime

Contribute towards adequate incomes in retirement

Help maintain standard of living throughout lifetime

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The payout phase of funded pensionsPension environment

Defined benefit provision replaced with defined contribution

Government provision replaced with employer provision

Employer provision replaced with private saving

– People living longer

– Working lifetimes getting proportionately shorter

– Measurements of adequacy - replacement ratios

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The payout phase of funded pensionsAgenda

Context

Terms of reference

What is being investigated

What we know already

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The payout phase of funded pensionsAims of investigation

To determine how sucessfully payout phase helps savers to achieve these aims

To consider whether there are obstacles

To consider whether markets or regulators could make it easier to achieve these aims

– Security vs. flexibility

Making use of international comparisons

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The payout phase of funded pensionsNeed for regulation – does one size fit all?

state

state

state

private

private

private

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The payout phase of funded pensionsAgenda

Context

Terms of reference

What is being investigated

What we know already

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The payout phase of funded pensionsWhat is being investigated

Step 1:

Create an inventory of Member states pension markets including:

¯ Requirement for annuities

¯ Options for lump sums, drawdown, other forms of payment

¯ Indexation requirements

¯ Interaction between tax and social security regimes

Commentary on types of annuities, single, joint-life,

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The payout phase of funded pensionsWhat is being investigated

Step 2:

Review of recent and anticipated market developments

Commentary on annuity form flexibility and pricing structures.

Analysis of risk management options

Analysis of information and advice available for provider choice.

Consideration of cross-border provision of annuity

Hurdles to greater availability and product development.

Commentary on other retirement saving vehicles, or other forms of saving products

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The payout phase of funded pensionsAgenda

Context

Terms of reference

What is being investigated

What we know already

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The payout phase of funded pensionsBehavioural economics

Individual savers on average are:– relatively unsophisticated

– have low levels of saving

People tend to be ‘optimistic’ when making savings decisions. They:– do not understand investments or investment risk

– ignore inflation

– underestimate their longevity

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The payout phase of funded pensionsWork and Savings Survey – UK employees

85% of employees think planning for retirement is important– Only half feel confident they are doing enough to prepare

– Over a quarter worry that they do not know what to do

Only 20% of employees understand what an annuity is

52% of people believe they will receive a pension income (excluding state pension) in excess of 50% their salary– Average contributions to UK occupational DC schemes are

9%

– 2/3rds expect to retire at or before age 60

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The payout phase of funded pensionsWorkPlace Survey – US employees

For 85% of employees, retirement is the most important reason for saving– For 24% of employees, not saving enough for retirement is

their biggest financial worry

65% think they are not saving enough for retirement– 53% worry that in retirement they will not be able to afford

health care

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The payout phase of funded pensionsWhat we know already about provision - 1

Lifetime annuities most common– 1st pillar in annuity form, sometimes with partial lump sum

option

– 2nd, 3rd pillars more varied

Availability of lump sum tends to be– Related to size of first pillar

Countries with large 1st pillar more likely to permit lump sum

– Related to size of second pillar Countries with little 2nd and 3rd pillar provision more likely to

permit it to be taken as lump sum

– Related to size of fund Annuity requirement relaxed for small funds

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The payout phase of funded pensionsWhat we know already about provision - 2

Sometimes:– Annuity indexed to prices

– Joint life annuities compulsory

– Some of risks borne by individuals are shared E.g. system takes some investment/inflation/longevity risk

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The payout phase of funded pensionsInternational experience – three different regimes

USA France UK

Retirement age

65 60-65 65

Payment form

Lump sum Annuity with guarantee

Annuity

Participation rates 55-64

62.9% 43.6% 58.4%

Replacement ratios (gross)

41.2% 51.2% 30.8%

Questions

?

What is the purpose of 2nd and 3rd pillar retirement saving?

How permissive to you believe retirement regimes can be?

Should social security systems protect themselves from excessive drawdown?

Do annuity streams meet the consumption needs of people in retirement?

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The payout phase of funded pensionsSources

OECD Employment Outlook, OECD 2006, http://www.oecd.org/dataoecd/53/15/36900060.pdf

Selection of pensions at a glance indicators – how does your country compare?, http://www.oecd.org/dataoecd/13/61/38710921.xls

Benefit plans throughout the world, Mercer

Work and Savings Survey, Mercer UK

WorkPlace Survey, Mercer US

Joint report on social protection and social inclusion, Brussels 6.3.2007, SEC(2007) 329

Central and European Pensions 2007, Allianz Global Investors

Preliminary responses to Payout phase survey questionnaire, Mercer