The Future of Public Employee Retirement Systems
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- 9 / Reforming the German Civil Servant Pension Plan 139
- 140 Raimond Maurer, Olivia S. Mitchell, and Ralph Rogalla
- 9 / Reforming the German Civil Servant Pension Plan 141
- 142 Raimond Maurer, Olivia S. Mitchell, and Ralph Rogalla
- The Outlook for Canada’s Public Sector Employee Pensions
- 144 Silvana Pozzebon Relative importance of public and private sector plans
- 10 / The Outlook for Canada’s Public Sector Employee Pensions 145
- 146 Silvana Pozzebon
Notes 1 To be precise, the benefits of retired civil servants are adjusted according to the general salary increase of active civil servants. 2 Civil servants are exempt from unemployment insurance and the state covers a certain fraction of health care expenses for civil servants and their families. These fractions range from 50—85 percent, depending on family status, number of children, and state (Börsch-Supan and Wilke 2003). 3 If, for example, a civil servant were to quit service and take a job in the private sector, he would sacrifice about 50 percent of his accrued pension claims. In this case, the state pays the employee’s foregone employer contributions to the national social security system. 9 / Reforming the German Civil Servant Pension Plan 139 4 To compensate for this cut in pension benefits, civil servants are allowed to (voluntarily) invest up to 4 percent of their salary (with a ceiling of C2,100 per year) into tax sponsored personal retirement account also known as ‘Riester accounts’; see Maurer and Schlag (2003). 5 Being part of former West Germany, Hesse’s civil service population appears to be rather representative of the approximately 1.5 million active (which is about 4.5 percent of the German workforce) and 900,000 retired civil servants in Germany as a whole; this section draws on Maurer, Mitchell, and Rogalla (2008). 6 This time horizon could be easily extended, but after 50 years, all active workers will be fully included in the new funded system. 7 See Blake (2006), Gold (2003), and Waring (2008). 8 The difference between the average nominal par yield of long term German gov- ernment bonds and the average inflation rate for the post-World War II period is about 4 percent. Inflation protected bonds in the Eurozone currently yield about 2 percent. This market is currently not well developed for government bonds (especially those with long durations) which supports the assumption of a real interest rate of 3 percent. 9 As noted above, we set aside pension benefits of current retirees as well as those already accumulated by currently active civil servants and assume that these will be covered by some other financing arrangement. Thus, only future benefit accruals by active civil servants will be covered by this scheme. 10 We assume investments in index funds to prevent the state from systematically influencing asset prices. 11 For a comparable objective function using the Value at Risk see Albrecht et al. (2006). 12 We deliberately do not dynamically optimize investment weights and contribu- tion rates over time. While this might by appealing from a theoretical perspec- tive, political decision makers will most likely be unable to implement this in practice. Moreover, empirical evidence on pension plan asset allocation suggests that investment weights are rather constant in real-world pension schemes (see Haberman et al. [2003]). 13 For a detailed discussion of the advantages of the CVaR over the more widely acknowledged VaR see, for example, Artzner et al. (1997, 1999) and Rockafellar and Uryasev (2002). 14 The state variables included here are commonly used in the strategic asset allo- cation literature (see e.g., Campbell and Shiller [1988, 1991]; Fama and French [1989]; Campbell, Chan, and Viceira [2003]; Campbell and Viceira [2005]; Cochrane [2005]; Brandt and Santa-Clara [2006]). 15 For an extensive discussion of design and characteristics of real estate indices we refer to—among others—Hoesli and MacGregor (2000) and Albrecht and Maurer (2005). 16 In a survey by Eichholtz (1997), correlations between common equities and property company shares range from 0.12 to 0.96. 17 Other methods to unsmooth real estate return time series have been suggested by—among others—Firstenberg, Ross, and Zisler (1988), Ross and Zisler (1991), Geltner (1993), Fisher, Geltner, and Webb (1994), and Barkham and Geltner (1994). 140 Raimond Maurer, Olivia S. Mitchell, and Ralph Rogalla 18 A thorough analysis of the institutional design of German open-end real estate funds, as well as their risk and return profile can be found in Maurer, Reiner, and Rogalla (2004). 19 Mean real log returns on bonds in our time series come to almost 5 percent per year while equities only yield an excess return of 1.5 percent. We reduce expected bond returns to 4 percent, considering this to be more appropriate in the long term. 20 Formally, we expand the total pension cost in Formula 2 to T P C = ”(RC t + (1 + Ó 1 ) · SC t − (1 − Ó 2 ) · W t ), where W t are the withdrawals in the case of a funding ratio higher than 180 percent and Ó 2 is the penalty factor. References ABP (2006). ABP Annual Report 2006. Heerlen, The Netherlands: ABP Investments. ABP (2007). Strategic investment plan ABP 2007–2009. Heerlen, The Netherlands: ABP Investments. Albrecht, Peter and Raimond Maurer (2005). Investment- und Risikomanagement, 2nd ed. Stuttgart, Germany: Schäffer-Poeschel. Joachim Coche, Raimond Maurer, and Ralph Rogalla (2006). ‘Understanding and Allocating Investment Risks in a Hybrid Pension Plan,’ in D. Blitzstein, O. S. Mitchell, and S. P. Utkus, eds., Restructuring Retirement Risks. Oxford: Oxford University Press, pp. 204–25. Artzner, Philippe, Freddy Delbaen, Jean-Marc Eber, and David Heath (1997). ‘Thinking Coherently,’ Risk, 10(11): 68–72. (1999). ‘Coherent Measures of Risk,’ Mathematical Finance, 9(3): 203–28. Barkham, Richard and David M. Geltner (1994). ‘Unsmoothing British Valuation- based Returns without Assuming an Efficient Market,’ Journal of Property Research, 11(2): 81–95. Blake, David (2006). Pension Finance. Chichester: Wiley. Blundell, Gerald F. and Charles W. Ward (1987). ‘Property Portfolio Allocation: A Multi-factor Model,’ Land Development Studies, 4: 145–56. Börsch-Supan, Axel and Christina B. Wilke (2003). ‘The German Public Pension System: How it Was, How it Will Be.’ MRRC Working Paper 2003–41. Ann Arbor, MI: Michigan Retirement Research Center. Brandt, Michael W. and Pedro Santa-Clara (2006). ‘Dynamic Portfolio Selection by Augmenting the Asset Space,’ Journal of Finance, 61(5): 2187–2217. Campbell, John Y. and Robert J. Shiller (1988). ‘Stock Prices, Earnings and Expected Dividends,’ Journal of Finance, 43: 661–76. (1991). ‘Yield Spreads and Interest Rate Movements: A Bird’s Eye View,’ Review of Economic Studies, 58: 495–514. and Luis M. Viceira (2002). Strategic Asset Allocation: Portfolio Choice for Long- Term Investors. Oxford: Oxford University Press. (2005). ‘The Term Structure of the Risk-Return-Trade-off,’ Financial Analysts Journal, 61: 34–44. 9 / Reforming the German Civil Servant Pension Plan 141 Yeung L. Chan, and Luis M. Viceira (2003). ‘A Multivariate Model for Strategic Asset Allocation,’ Journal of Financial Economics, 67: 41–80. Cochrane, John H. (2005). Asset Pricing. Princeton: Princeton University Press. Craft, Timothy M. (2001). ‘The Role of Private and Public Real Estate in Pension Plan Portfolio Allocation Choices,’ Journal of Real Estate Portfolio Management, 7(1): 17–23. DAV (2004). Herleitung der DAV-Sterbetafel 2004, R für Rentenversicherungen. Köln: Deutsche Aktuarvereinigung. Eichholtz, Piet M. (1997). ‘Real Estate Securities and Common Stocks: A First International Look,’ Real Estate Finance, 14(1): 70–74. Fama, Eugene F. and Kenneth R. French (1989). ‘Business Conditions and the Expected Returns on Stocks and Bonds,’ Journal of Financial Economics, 25: 23–49. Firstenberg, Paul M., Stephen A. Ross, and Randall C. Zisler (1988). ‘Real Estate: The Whole Story,’ Journal of Portfolio Management, 14: 22–34. Fisher, Jeffrey D., David M. Geltner, and R. Brian Webb (1994). ‘Value Indices of Commercial Real Estate: A Comparison of Index Construction Methods,’ Journal of Real Estate Finance and Economics, 9(2): 137–64. Geltner, David M. (1993). ‘Estimating Market Values from Appraised Values without Assuming an Efficient Market,’ Journal of Real Estate Research, 8(3): 325–45. Gillis, John R. (1968). ‘Aristocracy and Bureaucracy in Nineteenth-Century Prussia,’ Past and Present, 41(December): 105–29. Gold, Jeremy (2003). ‘Risk Transfer in Public Pension Plans,’ in O.S. Mitchell and K. Smetters, eds., The Pension Challenge: Risk Transfers and Retirement Income Security. Oxford: Oxford University Press, pp. 102–15. Haberman, Steven, Christopher Day, David Fogarty, M. Zaki Khorasanee, Martin McWhirter, Nichola Nash, Bernard Ngwira, I. Douglas Wright, and Yakoub Yakoubov (2003). ‘A Stochastic Approach to Risk Management and Decision Making in Defined Benefit Pension Schemes ,’ British Actuarial Journal, 9(3): 493–618. Heubeck, Klaus and Bert Rürup (2000). Finanzierung der Altersversorgung des öffentlichen Dienstes. Frankfurt: Peter Lang Verlag. Hoesli, Martin and Bryan D. MacGregor (2000). Property Investment: Principles and Practice of Portfolio Management. Harlow, England: Pearson. Hoevenaars, Roy P., Roderick D. Molenaar, and Tom B. Steenkamp (2003). ‘Sim- ulation for the Long Run,’ in B. Scherer, ed., Asset Liability Management Tools. London: Risk Books. Peter C. Schotman, and Tom B. Steenkamp (2008). ‘Strategic Asset Allocation with Liabilities: Beyond Stocks and Bonds,’ Journal of Economic Dynamics and Control, 32(9): 2939–70. Hustead, Edwin C. and Olivia S. Mitchell (2001). ‘Public Sector Pension Plans,’ in O.S. Mitchell and E.C. Hustead, eds., Pensions in the Public Sector. Philadelphia, PA: University of Pennsylvania Press, pp. 3–10. Maurer, Raimond and Christian Schlag (2003). ‘Money-Back Guarantees in Indi- vidual Pension Accounts: Evidence from the German Pension Reform,’ in O.S. Mitchell and K. Smetters, eds., The Pension Challenge: Risk Transfers and Retirement Income Security. Oxford: Oxford University Press, pp. 187–213. 142 Raimond Maurer, Olivia S. Mitchell, and Ralph Rogalla Maurer, Raimond, Frank Reiner, and Steffen Sebastian (2003). ‘Financial Charac- teristics of International Real Estate Returns: Evidence from the UK, US, and Germany,’ Journal of Real Estate Portfolio Management, 10(1): 59–76. and Ralph Rogalla (2004). ‘Return and Risk of German Open-end Real Estate Funds,’ Journal of Property Research, 21(3): 209–33. Olivia S. Mitchell, and Ralph Rogalla (2008). ‘The Victory of Hope over Angst? Funding, Asset Allocation, and Risk Taking in German Public Sector Pension Reform,’ in D. Broeders, S. Eijffinger, A. Houben, eds., Frontiers in Pension Finance. Cheltenham, UK: Edward Elgar, pp. 51–79. McGill, Daniel M., Kyle N. Brown, John J. Haley, and Sylvester J. Schieber (2005). Fundamentals of Private Pensions, 9th ed. Oxford: Oxford University Press. Mitchell, Olivia S., David McCarthy, Stanley C. Wisniewski, and Paul Zorn (2001). ‘Developments in State and Local Pension Plans,’ in O.S. Mitchell and E.C. Hustead, eds., Pensions in the Public Sector. Philadelphia, PA: University of Penn- sylvania Press, pp. 11–40. Rockafellar, R. Tyrrell and Stanislav Uryasev (2002). ‘Conditional Value-at-Risk for General Loss Distributions,’ Journal of Banking and Finance, 26: 1443–71. Ross, Stephen A. and Randall C. Zisler (1991). ‘Risk and Return in Real Estate,’ Journal of Real Estate Finance and Economics 4(2): 175–90. Stambaugh, Robert F. (1997). ‘Analyzing Investments whose Histories Differ in Length,’ Journal of Financial Economics, 45: 285–331. Waring, M. Barton (2008). ‘Between Scylla and Charybdis: Improving the Cost Effectiveness of DB Retirement Plans,’ in O.S. Mitchell and G.W. Anderson, eds., The Future of Public Employee Retirement Systems. Oxford: Oxford University Press, forthcoming. Wilshire Consulting (2007). Wilshire Report on State Retirement Systems: Funding Levels and Asset Allocation. Wilshire, CA: Wilshire Associates Incorporated. Ziobrowski, Brigitte J. and Alan J. Ziobrowski (1997). ‘Higher Real Estate Risk and Mixed-Asset Portfolio Performance,’ Journal of Real Estate Portfolio Management, 3(2): 107–15. Chapter 10 The Outlook for Canada’s Public Sector Employee Pensions Silvana Pozzebon Occupational pension plans are a key component of Canada’s retirement income system. Assets held by occupational pensions or registered pension plans accounted for 60 percent of the total CAN$1.9 trillion of assets amassed in the country’s retirement programs in 2006. 1 Occupational pen- sion plans of public sector employees in turn play an important role in the Canadian retirement regime. With almost two-fifths of Canada’s retirement assets held by public sector pension funds, the latter represented the largest share of the country’s pension assets in 2006 (Statistics Canada 2008). The nine largest Canadian pension funds were also associated with the public sector, accounting for 46 percent of the total market value assets of CAN$693.1 billion accumulated in Canada’s 100 top pension funds (in 2006). 2 In terms of employment, the public sector corresponded to 21 percent of the Canadian paid labor force in 2006. 3 This sector includes civil servants and employees of government enterprises at various levels (federal, provin- cial, territorial, and local), as well as provincial and territorial employees of publicly-funded educational, health, and social service institutions. The turbulent employment and market environments of recent years have spurred considerable interest in occupational pensions in Canada among practitioners, policymakers, and a few researchers. One area that remains largely unexplored concerns public sector employee pension plans, the subject of this chapter. In what follows, we first examine the relative importance of public and private sector employee pension plans in Canada and review their general characteristics drawing largely from administrative data collected by Statistics Canada (various years) through the Pension Plans in Canada Survey. We then turn to a discussion of funding issues and other challenges faced by public sector plans. 144 Silvana Pozzebon Relative importance of public and private sector plans Registered pension plans (RPPs) are the most common type of occupa- tional pension arrangement in Canada. 4 For reasons of simplicity, RRPs will be referred to as either occupational pension plans or employer- sponsored pension plans in what follows. Voluntarily-sponsored by employ- ers or unions, RPPs must comply with federal income tax law to obtain favorable tax treatment for both employer and employee contributions within stipulated limits, as well as for investment earnings. RPPs are also subject to minimum standards prescribed by federal and provincial pen- sion regulations. Some public sector employee groups (e.g., civil servants, teachers, and members of legislative assemblies) are covered by special pen- sion statutes. These employee groups under special statutes differ among jurisdictions and in some instances, there is a degree of complementarity between special statutes and the general pension legislation applicable in the jurisdiction. As Table 10-1 shows, a number of parallels can be drawn between the reg- istered pension plan membership distribution of public and private sector employees. The 5.8 million Canadian RPP participants at the beginning of 2007 were almost evenly divided between the public and the private sectors. Moreover, the share of pension plan membership as a percentage of the country’s paid workers was also similar in the two sectors (18% for the public sector versus 20% for the private sector). Differences in member- ship distribution between the sectors exceed similarities however. Public sector plan membership appears to be heavily concentrated (Table 10-1), with three-fifths of public sector RPP members employed by provincial government bodies or enterprises at the beginning of 2007. Analysis of additional data not reported in Table 10-1 indicates that the vast majority of public sector RPP members were found in two industrial classifications: 67 percent in public administration and 26 percent in educational services, health care, and social assistance. 5 By contrast, private sector plan members work in a wider range of industries with the largest proportions being in manufacturing (25%), followed by trades (18%), construction (13%), and finance (12%). Membership gender patterns between the public and private sectors also diverge, as shown in Table 10-1. Sixty percent of public sector plan participants were female with proportions reversed in the private sector where 62 percent of members were male. These numbers do not reveal the fact that females represent a steadily growing share of plan members in both sectors over time. The proportion of females in the public sector increased from 37 percent in 1974 to 60 percent in 2007, while in the private sector, the proportion almost doubled from 20 to 38 percent during 10 / The Outlook for Canada’s Public Sector Employee Pensions 145 Table 10-1 Overview of public and private sector Registered Pension Plans (RPPs), Canada, 2007 (at January 1) Public (%) Private (%) Active members in RPPs (total: 5.8 million) 47 53 Number of RPPs (total: 18,594) 7 93 Male members in RPPs (total: 3.0 million) 36 64 Plan assets as % of reserves held in all RPPs (total: 1.1 trillion CAN$, market value) 67 33 Members in sector: Members as % of Canadian paid labor force 18 20 Members as % of paid labor force in sector 86 25 Male 40 62 Sub-sector of employment Municipal 24 − Provincial 59 − Federal 16 − Other 1 − Plan size 1–99 members 1 7 100–999 3 26 1,000–9,999 11 35 10,000–29,999 12 11 30,000+ 73 21 Sources: Author’s calculations based on Statistics Canada (n.d. Table 183-0002, n.d. Table 280-0009, n.d. Table 280-0010, n.d. Table 280-0012, n.d. Proportion of Labour Force and Paid Workers Covered by a Registered Pension Plan [RPP]). the same period. 6 Among the explanations cited for this trend are the growth in female labor force participation, and employment shifts away from male-dominated areas such as heavy industry and manufacturing to female-dominated service industries (Schembari 2006). The table also reveals that, compared to the private sector, most public sector plan members were concentrated in large plans. Almost three- quarters of the public sector members were in plans of 30,000 or more, whereas more than two-thirds of private sector members were in plans of 10,000 or fewer. These figures are consistent with the fact that plans in the public sector represented only 7 percent of the 18,594 RPPs in Canada at the beginning of 2007. 7 Perhaps the most telling distinctions between the public and private sectors emerge from a study of RPP coverage rates. At the end of 2006, total RPP participants in Canada represented 38.1 percent of paid workers. 8 The RPP coverage rate fell from 44.7 percent in 1981 to 38.1 percent in 2006, with a consistent downward trend discernable since the early 1990s 146 Silvana Pozzebon (see Figure 10-1). The decrease in overall RPP coverage rates in Canada has been driven by developments in the private sector. The proportion of private sector paid workers who were members of employer-sponsored pension plans has eroded slowly since 1991 from percentages in the mid- to low-thirties during the 1980s to 25 percent at the end of 2006. By compari- son, the share of public sector paid workers in RPPs experienced a one-time jump from 76 percent in 1989 to 84 percent in 1991, rose slowly until 1999 and has been relatively stable since. As such, the 86 percent coverage rate at the end of 2006 for the public sector stands in sharp opposition to the situation in the private sector where only a quarter of the paid labor force is covered by an occupational pension. Several explanations have been offered for the decline of private sector pension coverage in Canada. Among these are the structural shifts in employment as mentioned earlier, complex legal requirements which added to pension administrative costs, and an uncertain economic environment increasing the financial burden of pensions for employers. Differences in unionization rates between the private and public sectors may also be telling since unions have traditionally sought to secure pensions 0 10 20 30 40 50 60 70 80 90 100 1981 1983 1985 1987 1989 1991 1993 1995 1997 1999 2001 2003 2005 2007 Total RPP members Public sector Private sector Figure 10-1 Percentage of paid workers covered by a Registered Pension Plan (RPP), total and by sector, Canada: 1981–2006. Sources: Total percentages: 1981– 2003 data from Statistics Canada (2006b ); 2005 data from Statistics Canada (2007a); 2006 data from Statistics Canada (n.d. Proportion of labour force and paid workers covered by a registered pension plan). Sector percentages: Author’s calculations using: sources cited for total percentages; Statistics Canada (n.d. Table 183-0002, n.d. Table 280-0009); Statistics Canada (2006a). |
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