Opinion of the Economic and Social Committee on the 'Green Paper from the Commission on Supplementary Pensions in the Single Market'
Date: 1997-12-11
Institutions: European Economic and Social Committee
Subjects: European social policy, freedom of movement, social security, supplementary pension

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Official Journal of the European Communities

9.3.98

Opinion of the Economic and Social Committee on the ‘Green Paper from the Commission
on Supplementary Pensions in the Single Market’

(98/C 73/28)

On 21 April 1997 the European Commission decided to consult the Economic and Social
Committee, under Article 198 of the Treaty establishing the European Community, on the
‘Green Paper from the Commission on Supplementary Pensions in the Single Market’.

The Section for Industry, Commerce, Crafts and Services, which was responsible for preparing
the Committee’s work on the subject, adopted its opinion on 3 December 1997. The rapporteur
was Mr Byrne, and the co-rapporteur was Mr van Dijk.

At its 350th plenary session (meeting of 11 December 1997), the Economic and Social
Committee adopted the following opinion by 92 votes to two.

1.

Introduction

1.1.
The Commission has launched this green paper
to draw attention to the significant demographic changes
occurring in the EU and the implications of these changes
for state pension arrangements.

1.2. Over the last few decades a decline in the birth
rate has been accompanied by an increase in life
expectancy. Consequently it is estimated that the current
ratio across the EU of four people of working age to
support each pensioner will, by 2040, have reduced to
two people of working age to every pensioner.

1.3.
The potential budgetary implications of these
demographic changes on state pension arrangements, if
no corrective action is taken, would be considerable.
For example, over the period 1995 to 2030 the weighted
average of pensions expenditure to GDP ratios in 11
Member States for which projections are available will
increase by 3 to 4 percentage points.

1.6.
The differences in approach between Member
States can be clearly observed from Tables 1 and 2
attached to this report. In Table 1 the ratio of mandatory
state pensions to earnings (1` times national average
earnings) are shown and it can be seen that Ireland, the
Netherlands and the UK are at the bottom of the table
ranging from 31 % upwards, whereas Portugal, Spain
Italy and Greece are in excess of 70 %. In Table 2
supplementary pensions are also included and as a result
the ratios — although still showing differences — are
much more closely aligned.

1.7.
The payment of adequate pensions to persons in
retirement is a cornerstone of the social structure in the
EU. In view of the threat posed to these pensions by the
forecast demographic changes, the ESC welcomes the
Commission’s initiative in addressing this issue. The
development of the problem will be gradual, but the
earlier corrective action can be commenced, the more
likely it is to be successful.

1.8.
In summary the ESC notes that pension practice
varies greatly as between Member States and that it is
not the intention of the Commission to proscribe a
detailed course of action which Member States should
follow.

1.4.
In fact 88 % of all pensions paid in the EU are
accounted for by state pensions which are funded on a
pay-as-you-go
are
basis. Demographic
important factors which are a burden on pay-as-you-go
schemes.

changes

2. Action options

1.5.
Even the figure of 88 % does not tell the full
story as it is the average across the EU; the position in
individual Member States varies widely. For example,
from Table II of the green paper it can be seen that,
while pension fund assets represent 20 % of GDP for
the EU against 59 % and 45 % respectively for the US
and Japan, within the EU two Member States, the
Netherlands and the UK, are at one end of the scale at
c. 80 %, whereas many Member States have ratios in
single digits.

The ESC notes from the Commission’s introduc-

2.1.
tory statement to the green paper:

a)

that Member State’s social security schemes (Pillar 1)
will continue to provide the bulk of pension payouts;

b) that Pillar 2 (occupational pension schemes) and 3
(life insurance based — predominantly — personal
pension plans) schemes discussed in the paper are
not a panacea for tackling the difficulties caused by
demographic change;

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c) consistent with the principle of subsidiarity, it is for
Member States to decide on the role they wish each
of the three pillars to play in providing retirement
income.

2.2.
The ESC endorses the Commission’s analysis
outlined in 2.1 above and states that the Committee’s
major concern is that appropriate steps are taken to
protect the expectation of European citizens that they
will enjoy reasonable pensions in retirement. The ESC
would stress that the viability of retirement arrange-
ments, both private and public, depends not solely
on demographic factors but also on the economic,
sociological and legal environment, for example, high
unemployment has a negative impact.

2.3.
Given the importance of Pillar 1 schemes Member
States should seek ways to improve the sustainability of
these schemes. The ESC notes that some Member States
have already initiated modifications to their schemes
with this objective in view and it is important that this
process continues.

2.4.
Supplementary pension arrangements are never-
theless growing in importance and the ESC agrees on
the need above all to provide a legally secure environment
for their operation.

out there are advantages and disadvantages associated
with both funded and unfunded pension arrangements.
It should also be noted that any switch, however gradual,
from pay-as-you-go to Pillar 2 or 3 schemes will involve
more resources being devoted to pension provision since
finance for existing commitments under the first pillar
must be met while contributions are commenced to
future funded schemes. Care should be exercised there-
fore to ensure that any initiatives on Pillar 2 and 3 can
be sustained without undermining existing Pillar 1
commitments.

3. Chapter II – Retirement provision and EU capital

markets

The green paper highlights the significant differ-
3.1.
ences in investment profiles which exist between the
Member States in terms of the proportion of equities
versus bonds (see Table 3). It points to the evidence that
equities produce superior returns but questions whether
the evidence is totally conclusive. However it does
emphasize the dramatic reductions in long-term pension
costs which relatively small increases in annual real rates
of return can bring about.

There are two main routes by which supplemen-

2.5.
tary pension arrangements are normally provided:

3.1.1.
There is also considerably disparity in the
proportion of foreign assets held by pension schemes
(see Table 4).

a) pension arrangements linked to employment, nor-
mally financed through either book reserves of the
enterprise or funded via external
investment in
separate assets held under group life insurance or
pension fund arrangements, and

b) individually insured arrangements.

2.6. While the level of use of Pillar 2 and 3 schemes
is a matter for each Member State the rest of the green
paper concentrates on how the single market can enable
these schemes to operate more efficiently.

2.7.
The ESC draws the Commission’s attention to
the existence of pay-as-you-go schemes which will have
to be continued in order to provide the pensions of
existing beneficiaries, and to provide for a very gradual
transition to greater reliance on funded schemes, where
funded schemes are being introduced to supplement
pay-as-you-go schemes and to recognize the complemen-
tary nature of pay-as-you-go and funded schemes.

2.8. While drawing attention to the possible use of
supplementary pension schemes the Commission points

3.1.2.
The green paper poses further questions about
whether higher returns can be achieved without undue
risk and whether EU capital markets can absorb the
potentially large additional investment.

3.2.
The ESC commends the comprehensive analysis
set out in the green paper and offers the following
comments:

3.2.1. Over the long term, pension liabilities increase
in real terms because of the long term real increases in
pay which, in turn, drive rising living standards. Past
experience suggests that investment in real assets (equi-
ties and property) therefore provides a more appropriate
match for pension liabilities than a fixed interest security.

3.2.2.
The experience over very long periods in the
past (see for example Table VI c attached to the green
paper) provides impressive evidence of the beneficial
real returns which equities can generate. Because pension
investment is long term in nature short-term market
fluctuations have little importance. As demonstrated in

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the green paper however, an increase of say 2 or
3 percentage points in the rate of annual return over a
period of time can have a very material effect on benefits
and/or costs.

The approach outlined in paragraph 36 seems an
appropriate basis of regulation, subject
to further
refinements to be proposed by the Commission on which
the ESC would ask to be consulted.

Actuarial

3.2.3.
techniques have been developed
which enable a pension fund to evaluate its asset mix
against its liabilities and thus minimize risk by matching
its investments to the age profile of its membership.
Thus, a prudent manager reflecting actuarial advice, is
likely to have a higher proportion of bonds in a fund
with a mature membership than would be appropriate
for a fund covering mainly young members. Diversifi-
cation of investment in various asset categories, some of
which are negatively correlated, is also used to minimize
risk.

3.2.3.1.
Stock markets enable investment to be spread
across many industry sectors which are likely to perform
differently at any point in time, and stock specific risk
is managed by imposing a maximum investment limit
on any individual security.

3.2.4.
In regard to the ability of the EU capital
markets to absorb the relatively significant funds which
arise, it should first be noted that the funds would only
become available over an extended period of time. It
seems likely therefore the capital markets could and
would develop to absorb the available funds as has
happened for example in the US. More difficult to assess
is the possible positive spin-off for the EU economies
from this new source of investment.

3.2.5. Non-prudentially based investment restrictions
which impose unjustified arbitrary limits on, say, equity
investment or on non-domestic investment, can increase
the risk of under-performance. Equally the ESC agrees
that it is not the role of the Commission to advocate
any particular investment strategy for pension funds.
This is the function of the investment managers operating
under appropriate supervision.

3.2.6.
In summary the ESC believes that, subject to
appropriate prudential controls being in place including
supervision over the investment managers, higher returns
can be achieved without undue risk and that EU capital
markets are likely to develop sufficiently to absorb any
additional investment funds.

The ESC supports the policy objectives set out

4.2.
in paragraph 40 which seek to:

a) remove the barriers to the completion of the single

market in investment services, and

b) provide freedom to invest assets of pension funds
subject only to adherence to the ‘prudent man’
principle.

4.3.
The ESC agrees with the Commission that this
would be unlikely to trigger dramatic short-term changes
in investment profiles. Fund managers tend to be
conservative and are likely to adjust gradually to new
investment freedoms. The introduction of the euro
will facilitate cross-investment in participating Member
States as currency matching considerations are elimin-
ated.

4.4.
The ESC fully supports the view that pension
funds must be subject to appropriate prudential super-
vision. A key aspect of this would be to ensure that the
supervision take particular responsibility for the control
of risk. However the Commission poses a very important
question when it asks whether there should be common
rules for pension funds and insurance companies.

4.4.1.
The ESC would, however, emphasize here that
prudential rules must include an evaluation of liabilities
using proper actuarial standards, and a close correlation
between the return on assets and the extent of commit-
ments. The ESC would also stress the need to involve
members in the management of their pension fund and
to ensure that the managers are obliged to provide
members with information and access to advice.

4. Chapter III — Appropriate prudential rules for a

single market

This chapter discusses what might be appropriate
4.1.
prudential rules in a single market for fund investment.

4.5.
The ESC points out that there is a fundamental
difference between insurance companies and pension
funds in that the former sell their services while in most
Member States the latter do not. Also life insurance
companies are subject to supervisory rules which apply
to the total business of each company which includes a
range of protection and investment products. However,
the objectives underlying the investment of assets by

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pension funds and the investment policy adopted by life
companies in respect of their pension contract liabilities
should be broadly similar.

c) workers temporarily seconded by their employer to
work in another Member State should be permitted
to remain in his existing supplementary scheme.

4.6.
Because of the specific characteristics of pension
investment, the ESC recommends therefore that separate
rules should apply to pension investment. To the extent
that insurance companies offer products which provide
matching benefits to those provided by pension funds,
then it may be necessary to modify the Life Insurance
Directive to ensure that insurance companies do not
suffer from any distortion of competition in relation
to pension products. The rules applied to pension
investments should, without diminishing the quality of
protection, endeavour as far as possible to ensure that
pension funds including those operated through life
insurance companies operate subject to similar rules ‘on
a level playing field’.

4.7.
The ESC believes that it is necessary if the
Single Market is to be realised that freedom of fund
management is established. With modern communi-
cations it is not so much proximity to the market which
the fund-
the quality and depth of
matters but
management team.

4.8.
In regard to the way forward, the ESC believes
that in this instance the adoption of a broad directive
embracing basic principles along the lines described in
paragraph 47 (option 3) would be appropriate.

5. Chapter IV — Facilitating the free movement of

workers

In this chapter the Commission deals with
5.1.
the current barriers which impede free movement of
workers. It notes that Community legislation has already
removed the obstacles to cross-border mobility in respect
of statutory pensions but the legislation does not cover
supplementary pension schemes.

In November 1996 the High Level Panel set up by the
Commission to examine this area recommended that
initial Community legislation should only deal with
three aspects of this issue:

a) preservation of acquired pension rights for members

who move to another Member State,

The ESC welcomes the recent action of the Commission
in adopting a proposal for a directive dealing with these
issues and is currently drafting an opinion on it.

Remaining issues identified by the Commission

5.2.
and not dealt with by the high level panel include:

a) qualifying conditions for acquiring rights — in
particular the long period of years necessary in some
Member States;

b) difficulties with transferability of vested pension

rights from one Member State to another;

c)

tax difficulties linked to acquiring pension rights in
more than one Member State (taxation is also dealt
with in Chapter V);

d) the position of a worker temporarily employed in
another Member State, other than on a seconded
basis.

The ESC agrees that the issues outlined in point
5.3.
5.2 represent important obstacles to the free movement
of workers and are inconsistent with the concept of a
single market. In particular if it is accepted that pensions
are a form of deferred pay earned during the years of
work, then it is unreasonable to impose long vesting
periods, e.g. up to 10 years, before pension rights are
acquired.

5.3.1. When changing pension schemes, members
must be given full information about the option of
transferring rights by capital transfer where this is
compatible with the funding methods of the schemes
concerned. The ESC also feels that in any proposed
directive on the coordination of pension schemes,
consideration should be given to mechanisms for pro-
tecting the purchasing power of preserved pensions.

b) cross-border payment of benefits due under sup-
plementary pension schemes should be facilitated in
other Member States, and

5.3.2.
The ESC believes that employees temporarily
seconded by their employer to work in another Member
State with the company or an affiliate should be able to
retain their membership of their home pension scheme,

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but it considers that it would not be reasonable to
require an employer to retain in membership employees
who resign to take up employment not connected with
him in another Member State.

6.2.1. While fully respecting the principle of subsidi-
arity, the ESC believes it would enhance the mobility of
workers if a common set of rules for the recognition of
pension schemes domiciled in one Member State, in
relation to all other Member States, could be developed
for approval by the Council.

In its Opinion adopted on 15 May 1992 on
5.4.
supplementary social security schemes (rapporteur: Miss
Maddocks) the ESC recommended that the Commission
explore the possibility of devising the format and rules
of a model European occupational pension scheme
which ‘European’ companies could use to cover their
employees in all Member States; the ESC now repeats
this recommendation.

5.5.
The High Level Panel proposed the setting up of
a Community Pensions Forum to discuss problems
relating to pensions which hamper the promotion of the
free movement of persons. The ESC is still hesitant
about this proposal. At the moment there is an Advisory
Committee on migrant workers which discusses social
security problems within the context of the free move-
ment of workers. And secondly such proposals can be
discussed as part of the social dialogue, especially if
supplementary pensions are regarded as deferred wages.
The Committee would suggest that within the Advisory
Committee on migrant workers a special working group
be established to propose as soon as possible solutions
for the actual problems with supplementary pensions

6. Chapter V — The importance of taxation for

supplementary pensions

6.3.
In general Member States give tax exemptions
to pension schemes in the expectation that they will
receive tax on the benefits ultimately paid. It is important
that the common rules do not significantly distort this
principle; in the next century pensioners will represent
a significantly higher proportion of the total population
and it would become progressively more difficult to
finance government expenditures if taxation on pen-
sioners’ income was not available.

6.4.
To deal specifically with the issue of worker
mobility, the common rules might therefore have the
following characteristics:

a) Tax relief on contributions to a non-domestic
pension scheme should be granted on a like basis
with a domestic scheme. This concession should
only be available for a limited period to facilitate
short-term work transfers (workers on secondment)
— it is not uncommon for employees of a multi-
national to work successive periods of, say, three to
five years in a number of different countries, but
with the intention of ultimately retiring in their
home country. Considerable problems and inequities
are created if workers like these are forced to change
pension scheme each time they move.

6.1.
In this chapter the green paper sets out the
importance of taxation in the provision of pensions.
In most Member States, pension schemes enjoy tax
privileges in regard to the accumulating fund, which is
offset by the taxation of the actual pension ultimately
paid to beneficiaries.

b) On a permanent transfer to another Member State,
the worker would have the option to retain his
accrued benefits in his previous scheme or where
funds exist to transfer these accrued benefits into an
approved scheme in his new country of residence. It
is also important that the worker would have access
to appropriate information and advice.

6.1.1. However the current tax rules can constitute a
barrier to the freedom of movement of workers. The
green paper asks for views as to how this situation might
best be improved and in particular if Community
legislation is appropriate and feasible.

c) Pensions paid would be taxed in the country of
residence. Although this could pose some problems
for those Member State for whom the loss of tax
revenue would not be compensated by movement of
pensioners.

6.2.
The ESC supports the broad principle that
pension funds as they accumulate represent a deferred
benefit for scheme members and that taxation should
similarly be deferred until the benefits are paid out to
individual members.

6.5. While it would be beneficial if a Community-wide
approach to removing these barriers could be found, it
is probably more realistic to rely on bilateral or

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multilateral arrangements if progress is to be made. This
could be facilitated if the Commission developed a
model set of tax rules relating to pension provision.

7. Conclusions

7.1.
The ESC welcomes the green paper and reiterates
its concern that timely action be taken to ensure that
adequate pension provisions will be available to those
retiring in the next century.

7.2.
It agrees that supplementary pensions will have
an important part to play in providing for pensions in
the future.

7.3.
The ESC acknowledges that progress on sup-
plementary pensions has been, and will continue to be,

complicated by the different approaches traditionally
adopted in the Member States. It is clear that not only
does the use of supplementary pensions vary widely but,
where supplementary pensions are well established, a
more liberal investment policy exists in relation both to
equities and derived financial
instruments, and to
foreign investment. Conversely in those countries where
supplementary pensions are in their infancy, there is a
much higher level of bond investment at the expense of
equities and foreign assets.

Although not strictly relevant to the specific
7.4.
pensions issue, the increase in investment funds available
is likely to have further beneficial economic effects in
EU Member States.

Brussels, 11 December 1997.

The President

of the Economic and Social Committee

Tom JENKINS

TABLE 1

Ratio of Mandatory State Retirement Pensions to Earnings
(1` · N.A.E.)

Source: Sedgwick Noble Lowndes.

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TABLE 2

Ratio of Mandatory and Voluntary Retirement Pensions to Earnings
(1` · N.A.E.)

Source: Sedgwick Noble Lowndes.

TABLE 3

Equity Exposure of Pension Funds in % end 1995

UK

IRL

B

S

DK

77,60

58,42

39,50

27,59

26,93

NL (*) 26,00

L

F

A

D

P

FIN

I

GR

E

21,20

13,58

12,95

10,16

9,42

9,20

7,71

7,70

5,00

Source: EFRP.
(*) The Netherlands is the only country with a funded pension scheme for state employees and this significantly
influences the figures shown because the state scheme is heavily exposed to domestic fixed interest investment.

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TABLE 4

Foreign Assets in % of Total Assets end 1995

IRL

38,92

B

UK

37,30

26,79

NL (*) 23,00

A

L

S

DK

D

P

F

E

GR

21,93

18,00

10,48

7,98

5,70

5,62

4,44

3,00

2,82

Source: EFRP.
(*) The Netherlands is the only country with a funded pension scheme for state employees and this significantly
influences the figures shown because the state scheme is heavily exposed to domestic fixed interest investment.