Mi)'§i;|ni'kWN , v: ~ ~ ~ ~ ~ _PRG I,_ go

# **Finsimnd** ot_nSwr **ovonnn**

# WPS 1199

- This paper a product of the Finc and Private Sector Development Division, Policy Research - Department is part of a larger effowt in the department to Investigate the complex issues related to old age security amngements. The study was nded by the Bank's Research Support Budget under research prject"Income Security for Old Age" (RPO _677-45)._ Cepies ofthe paperare available free from the World Bank, 1818 H StreetNW, WWhington, DC 20433. Plee contact Daniele Evans, room N9-057, extension 37496 (October 1993,73 pages).

Mitbell examircs the elaionshp between public sector pension plan performance and managemat practices to improve the design and govenace of public pensions in developing countries. Understanding this relationship is important because better yields on public pension plan investments reduce the need **for** additional taxes to support retirees - and wellfunded plans stand a better chance of paying promised benefits.

Her model relates investnent returns on public pension assets, as well as plan funding status, to features characterizing the pension systems' governance structure and authority, using a new data set on U.S. state and local public sector plans. Certain findings stand out: The higher the fraction of retirees elected to the pension board, the stronger the negative effect on investment return in 1990, and the more variable the returns.

systems funded their pluas stisfactorily but others did not. The results show that:

* Fiscal stress reduced stock funding ratios.

***** Stock funding **rates** were lower, the higher the fraction of elected retirees and elected active workers represented on the pension systemn board.

S* tock funding raldos were higher when a system had in-house actuaries, when the board authorized benefit levels, and when board members had liability insurance.

* Stock funding rates were unaltered by state statutes guaranteering that benefits be guaranteed by law, or by legally set funding requirements, or by the state's ability to carry budget deficits from one year to the next. Nor did tiiey vary when dedicated or special taxes were earmarked for pension revenue.

* Systems fared about the same whether they had in-house or extemal money managers, or independent performance analysis (even if the extemal managers were drawn from the "top 10"). But public pensions perforned better when fund and actuarial computations were done by professional actuarial and investment couselors rather than relying on former or current employees **to** choose investment strategies.

* Social investment rules hurt public pension yields. Public pension plans which mandated that a certain portion of investments be directcr to instate projects generated much lower returns.

Policymakers in developing countries can profit from the mistakes made and lessons learned by U.S. pension analysts. although no single package of pension plan practices can optimize investment performance for all systems across all time periods, care must be taken when designing the regulatory and investment environment in which these plans operate. Developing countries should study the work of the U.S. Government Accounting Standards Board.

Mitchell discusses some of the complex issues that **i.ust** be confronted when establishing funding norms for defined benefit pension plans in the public sector.

Thc data show that many public pension

**Toe Woricing Policy Research Papei Seriesdisinates the rinding** of **workxlud way** m **theBankc Anobpaive of** the **series** **_is_ to get tlsse findings out quickldy, even if presentations are less than fully polished.i The findings, interpretations, and cawncuions in** thes **pape dD not noceafly rvepsent of ficial Bulik policy**

J ~~~~~~~~~Pro&ced **by the Policy Resech Dimaionak Center**