Pensions Adequate and Sustainable

A private insurance firm or an employer may go bankrupt or may abuse the system. What kind of protection will I have against such events?

It is true that abuse can occur. The safeguards in this regard are based on two fundamental premises.

First is the regulatory framework. A strong and competent regulatory framework will minimise opportunities for abuse. The White Paper recommends that MFSA becomes the regulator for the second pillar pensions scheme.

The drafting of the legislation regulating this scheme, the Special Funds (Regulation) Act 2002, was designed taking into full account the experience learned from other jurisdictions. Moreover, MFSA has proved to be a very competent regulator of the financial services market. There is no doubt that the same competence will be shown here.

Furthermore, a competent regulatory framework instils confidence. Consider the following analogy. Most people have no difficulty in putting their life savings in a bank. Surely life savings are as important as a pensions fund. Why then is this so? Primarily because of a strong regulatory framework which ensures that a bank not only behaves correctly but is actually perceived to do so.

There is no reason to believe that the same trust and belief cannot be accrued to private sector firms managing second pillar pension schemes within the ambit of a tight regulatory framework.

Apart from this, the White Paper recommends that the second pillar pension scheme is initially introduced voluntarily. One of the aims behind this is to help people build trust and credibility in the regulatory framework as well as the management of second pillar pension schemes.

Second, are the instruments for redress and compensation. The White Paper recommends that there should be measures and instruments in place that will provide compensation in the event of abuse or bankruptcy. The White Paper provides a number of options in this regard.

One of the options provided is the constitution of a Pensions Compensation Fund that will be governed by an independent body and that will allow for compensation to be provided as appropriate. The appropriate mechanism in this regard should be drawn out in the second pillar pension scheme study. The White Paper recommends that the government should commission MFSA to undertake this study.

The second pillar pensions scheme is dependent on market behaviour. What would happen if the assumptions do not work and the market does not behave as predicted? Will I lose my pension fund?

Protection against unpredicted behaviour of a private insurance firm will be provided through the way in which a private firm is allowed to manage that investment.

The answer therefore lies in regulation. In the absence of regulation, a private insurance firm may decide to invest in high-risk portfolios. In this regard, the danger on the return on investment could be very high.

The White Paper recommends that the MFSA should establish a regulatory framework that would determine how private insurance firms manage such an investment. The White Paper recommends that such a framework should be based on two important principles.

First, the MFSA should design a regulatory framework based on a "prudent-person" pensions principle. This principle would establish standards that ensure the safety of these assets as well as create the environment in which managers of the second pillar pensions scheme would obtain the best returns at an acceptable level of risk.

Second, the regulatory framework will be complemented by a number of quantitative limitations that will determine the behaviour of the managers of the second pillar pensions schemes. Such quantitative limitations will, for example, establish the percentage of the investment that can be placed in high-risk investment, the percentage of investment in a single country or firm, or the percentage of investment by the private sector firm in its subsidiaries.