**Figure 6:** Selected LAC countries: Return on equity **Figure 7:** Selected countries: Return on equity of of PFAs, 1995-2005 (percent) PFAs and commercial banks, 2005 (percent)

<!-- Start of picture text --> 60<br>Argentina<br>50 Chile<br>El Salvador<br>40 Mexico<br><!-- End of picture text --> <!-- Start of picture text --> 45<br>38.8 41.1 PFAs<br>40<br>Banks<br>35<br>30<br>24.0<br>25 19.5 20.5 22.7 21.0<br>20 16.9<br>15.5<br>15<br>10.2<br>10<br>5<br>0<br>Chile El Salvador Mexico Peru Poland<br>2004 2005<br><!-- End of picture text --> <!-- Start of picture text --> 2000 2001 2002 2003<br><!-- End of picture text --> <!-- Start of picture text --> Peru<br>30<br>20<br>10<br>0<br>-101995 1996<br><!-- End of picture text --> <!-- Start of picture text --> Peru<br>1996 1997 1998<br><!-- End of picture text --> Sources: AIOS, Bankscope, Fitch Ratings (2007), IMF and World Bank (2005a).

# **III.3. What Factors Explain the High Fee Structure of PFAs?**

A body of literature has emerged trying to explain the factors that impede the development of more competitive markets in pension fund management in LAC countries. The two main factors explored in the literature are barriers to entry and the low demand elasticity of affiliates.<sup>26</sup>

# _Barriers to Entry_

Several factors have impaired the development of more competitive markets and the entry of new PFAs despite both the high yields on net worth in most LAC countries and operations that are less risky than those taken by other financial institutions. Restrictions on affiliates’ transfers have created market barriers by making it more difficult for new entrants to capture a number of affiliates that is large enough so they can attain an optimal operating size. There are other legal barriers that require a minimum entry capital and, in several reformed LAC countries, a reserve fund to back up the minimum rates of return on investments of pension funds.<sup>27, 28, 29</sup> In a few LAC countries, the law prohibits banks (e.g., Chile and El Salvador) and insurance companies (e.g., El Salvador) from managing pension funds. This prohibition was imposed because there were concerns about potential conflicts of interest, such as the cross-selling of products, and excessive concentration of assets in a few institutions. Nevertheless, it can leave potential new-comers with relevant experience in financial asset management outside the industry. In Mexico, the law stipulates that 51

> 26 See, for example, Barrieros and Bussofiane (2001), García and Rodríguez (2002), Apella and Maceira (2004), Marinovic and Valdés (2004), Melendez (2004), Berstein and Ruiz (2005), Valdés (2005), Aguilera et al. (2006), and Masías and Sanchez (2006).

> 27 Minimum capital requirements vary across countries. In Mexico, the requirement is one of the highest in the region (US$2.5 million). In, Chile, it is much lower, about US$130,000, increasing with the number of affiliates and subjected to a ceiling of US$500,000 (World Bank 2006).

> 28 In LAC, Argentina, Chile, Colombia, El Salvador, Peru, and Uruguay impose relative minimum rates of return on investments of pension funds.

> 29 In Mexico, there is no minimum rate of return, but the law requires PFAs to keep a reserve of 0.8 percent of the assets under management for basic funds ad one percent for voluntary and complementary contributions. Reserves would be used to compensate the fund in case there were losses related to regulatory violations.

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