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Countries including Australia and the
United Kingdom (UK) have, over
time, experienced significant moves
away from occupational defined benefit
(DB) pension plans in the private sector,
replacing them with individual defined
contribution (DC) arrangements. While many
Dutch schemes have not yet started down
that path, they are seriously considering it
as part of a big re-think of their system of
THE DUTCH EXPERIENCE
As has been the experience of other countries,
Dutch pension funds were deeply affected
by the global financial crisis. Asset values fell
dramatically and the cost of the defined benefits
rose as governments imposed financial austerity,
artificially reducing interest rates and thereby
penalising savers – including pension funds. With
lower assets and higher liabilities, there was a
noticeable fall in benefit security.
What some people may not realise is that the
Dutch probably came out of the debacle the
strongest of all nations with funded plans. This
was because, unlike other nations, the Dutch
insist that benefit promises (typically a nominal
pension benefit with an indexation component
provided, if the funded status allows) are backed
in two ways. There’s a pension fund, of course.
But, in addition, the Dutch insist on risk capital
added to the fund, as a reserve against capital
market risks, to the extent that the assets do not
precisely hedge the cash flow required for the
Only the Dutch realise how expensive a
guarantee is. Only the Dutch insist that, if you
make a promise that cannot be hedged, or that
you choose not to hedge in the capital markets,
it’s not much of a guarantee unless you have
additional reserves to back the unhedged portion.
Some funds had to use their additional
reserves, and sometimes even more, seeing their
benefits fall below 100 per cent funded. However,
because of this additional risk capital, most Dutch
pension funds remained more than 100 per cent
funded, even at their lowest levels.
Building up risk reserves again, however, is
expensive, especially for the funds that went
below 100 per cent funded. As stormy weather
persisted, and the ‘credit crunch’ moved
seamlessly into a Euro crisis, some plans actually
had to write down some of the benefits already
accrued for past service.
This horrified the members affected, and it
horrified many in the Dutch pension community,
because they had expected that benefits
would never have to be reduced. All of this has
prompted a re-examination of Dutch occupational
Two specific approaches are being considered:
• One is that the actual definition of benefits
should simply be fixed nominally in euros
each year, and should never be increased,
despite the typical trend of inflation and
wage increases. The inadequacy of the
resulting benefits is acknowledged. The
benefits would also be hedged, to the extent
possible, despite the expense.
• The other approach being considered is to
go the route of defined contributions with
individual accounts, each member having
their accumulation account that is ultimately
used for post-retirement income, the
amount varying from member to member.
Personally, I believe that both these approaches
are inferior to a system that is already in place in
the Netherlands: the ‘collective DC’ system.
HOW THE PLANS WORK
These plans really are DC, because employers are
only on the hook for the defined contributions.
However, instead of an individual account for
each member, with each member responsible
for directing investments, a collective DC plan is
actually run as if it were a DB plan.
An actuary estimates how large a benefit
unit is likely to be sustainable in the future, if it
is couched in nominal terms: think of a career
average benefit with no post-retirement inflation
indexing. Add the risk capital reserves, because
the fund is invested in traditional DB fashion.
Then, each year, if the expected returns actually
show up (and, of course, being risky, there is
no guarantee that they really will show up), the
accrued benefits can be increased to keep pace
with wage increases, and the pensions being
paid can be increased to keep pace with inflation.
Many people think of this as being like a ‘with-
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