Romania's private pension system has only been operational since 2007, but they have been an eventful three years, as Chris Panteli discovers
The pension system in Romania has experienced a rocky road to get where it is today and, three years after launch, is still under threat from a government desperate to make cuts wherever possible.
In June the country’s Constitutional Court ruled out an attempt to cut the already-low contribution of 2.5% to 0.5% as part of its deficit-cutting financial austerity measure.
Prime Minister Emil Boc wanted to cut spending to qualify for a $20bn loan from the International Monetary Fund and targeted the fledgling scheme as a means of doing so. Similar cuts had also been attempted in neighbouring countries such as Hungary, but, as in Romania, such attempts have been ruled unconstitutional.
However, the Romanian Pension Fund Association (APAPR) believes the government will seek out another way of cutting pensions, and, together with Romania’s Private Pension System Supervisory Commission (CSSPP), fears such short-sightedness could strangle the scheme at birth.
“The contribution is only 2.5% from the gross salary, which is already the lowest level of contribution in Europe for a system of this type, and the government wanted to reduce that even more to 0.5%,” said CSSPP public affairs manager Dan Zavoianu.
“That would have meant the collapse of the system because they wouldn’t have had the money to invest.”
The narrowly-avoided cuts have not been the only setback faced by the young system. During the first year of operation, contributions amounted to 2% of wages. This was due to increase by 0.5% each year until reaching a target of 6% by 2016. However, Romania, like many other European countries, has suffered a heavy blow to its economy and last year the government postponed the scheduled increase. This year it did increase by half a percentage point, but the fund is already behind after just two years.
“You have a very low contribution in the mandatory pillar at just 2.5%,” said APAPR secretary general Mihai Bobocea. “It should be increasing to 6% by 2016 but we are already a year behind schedule and it will only increase by half a percentage point each year, so it will still be very low.
“There has been a lot of political opposition to this increase. Money is being re-directed from the state pension system to the private pension fund, so it has an economic cost and a political cost. That’s the problem and it’s been the same in Poland, Hungary and Slovakia.”
Romanian employers currently pay a hefty 31.3% to the state system. Out of this, 10.5% is the individual employee’s contribution and 20.8% is the employer contribution. From this 10.5% comes the 2.5% which goes into the second pillar, with the rest going to the pay as you go system.
Bobocea said this arrangement is unbalanced, however. “If you look at Poland for example, they have 19.5% in total and out of this 7.3% goes into the mandatory funds,” he added.
“In Slovakia you have 18% and 9% goes to the mandatory funds. So elsewhere, 40-50% goes to the mandatory funds, while here it is less than 10%. Everyone is looking at it in a very short-term way here. It makes a lot of sense election-wise but not long term.”
Despite the setbacks, the CSSPP is confident that the recovering economy will get the increases back on track and is already looking beyond the 6% target.
“We are already one year behind but the plan is to recover this delay through high economic growth,” said Zavoianu. “Even so, 6% is still a very low level and we are trying to get a strong argument together to increase it even more. We want to get it to 10%.”
Revised pension system
So it has been an eventful three years since the government rubber-stamped the system and replaced the former non-contributory state scheme, a hangover from the country’s communist past.
The new plan closely resembles the three tier models to be found in other central European countries and is built upon three separate pillars. The first of these pillars is the public pension system – also known as the pay-as-you-go system - and is compulsory. Effectively a state pension, it provides benefits when members reach retirement age and is 99% financed from the social security contributions paid by both employers and employees.
The second pillar is a mandatory private pension and is comprised of 14 funds all managed by pension management companies limited to one fund each.
The system is individual and non-occupational, but work-related. Participation is only open to employees paying social security contributions, which are collected by the National House of Pensions (CNPAS) – which declined to be interviewed for this article – and directed to the relevant funds. Employers do not get involved in the system other than paying social security contributions.
The third pillar is also based on the World Bank’s multi-pillar model and is fully-funded through voluntary contributions and is accessible through work-based provision. Participation is open to anyone earning an income and contributions are collected by the employer, who must then pass them on to the funds administrators.
Take-up in the third pillar has been low, but this has been blamed primarily with the launch taking place at the same time as the financial crisis, and the industry is optimistic that membership will rise.
APAPR’s Mihai Bobocea said: “In the three years since launch it has built up a membership of just 200,000, so it is not very popular, but it has constantly increased.
“The initial estimate was 200,000 in the first year and it has taken three years, so take-up has been slower than initially planned. However, we expect it to increase over the next two or three years once the economy has recovered. It is a corporate product and has tax breaks built in so is very employer friendly.”
CSSPP’s Zavoianu agreed. “Even in these difficult times, we are glad to say that it is increasing,” he said. “We have a culture which is not so much orientated to the economy and savings and that, along with the crisis, meant a slower pace of development for the third pillar. However, the results were better than other related savings vehicles.”
As the foundations of Romania’s pension system bed down and become better-established, the CSSPP has begun looking at the second phase of its regulatory duties, and one of its key objectives is to move away from strict supervision to a more supervisory role.
“We are a rule based system, but we want to shift to prudential supervision,” Zavoianu said. “For now it is still mostly rule-based and we have strict restrictions in the legislation depending on the risk type of the fund. However, over time we aim to become less prescriptive.” To read more on this, see pages 18-19
The body is also in the process of setting up a safety net similar to the UK’s Pension Protection Fund or the Pension Benefit Guaranty Corporation in the US. This was stipulated by law when the pension system was agreed by the government and as the assets under management grow in size, the need for a guarantee fund is becoming more pressing.
Launching a sustainable private pensions system has been a difficult experience for Romania. The effect of the global economic crisis on the country’s economy has not helped and subsequent government meddling has set the scheme back some way.
Despite these setbacks, there are agencies which are fighting these influences in order to let the system grow. Its immediate future, however, remains uncertain.
“It is pretty much impossible to plan in this environment, you have to improvise,” says Bobocea . “In this region the political risk has been more severe than investment risk, and you would be surprised how easily laws are bypassed.
Pension freedoms could generate as much as £1.9bn a year in tax revenue for the next 10 years, according to research by the Pensions Policy Institute (PPI).
The Pension Protection Fund (PPF) has conceded it does not have "all the data we need to calculate" the impact of last month's ruling that some benefits may be unlawful.
A looming court decision on gender equalisation of pension schemes could hit FTSE 100 profits by up to £15bn, Lane Clark and Peacock (LCP) says.
Dutch custodian KAS Bank has created a fintech solution to help schemes save on costs and improve transparency of currency hedging strategies.