Numerous strengths in the Finnish pension system - International evaluators suggest raising the retirement age and seeking higher investment returns

Professor Nicholas Barr recommends that Finland raise the lower limit of retirement age to reflect increasing life spans. He does not believe that current incentives will increase the actual age of retirement sufficiently. His proposal is to define an earliest eligibility age for old-age pensions, separately for each age cohort. Gradually increasing the earliest eligibility age is also an important signal to change attitudes.

Barr suggests a model where retirement occurs later than it does now, but with greater flexibility, which is also desirable for its own sake. To promote later but more flexible retirement, Barr suggests that pensions can be paid out at rates of 25, 50 or 75 per cent, while the deferred element continues to grow.

To improve the possibilities of more flexible employment, Barr encourages a re-examination of the fixed costs of employment with respect to part-time work and labour law, with the aim of reducing transaction costs and legal uncertainty in cases where an employee wishes to decrease his/her working hours. He would also like to see public discussion on the empirical facts concerning the productivity of older workers and its implications for labour law.

In order to ensure sustainable financing, Barr argues that there are four and only four potential remedies: a smaller pension, a later pension, higher contributions and/or higher national output. Barr states that pension contributions in Finland are already fairly high by international comparison and can thus not be increased much further. Sustainable financing is not a goal in itself, but a precondition for adequate pensions in the future, according to Barr.

The pension system should also take more account of changes in family structure. Single pensioners in Finland face a significantly larger poverty than pensioner couples.

Barr thinks the Finnish pension system is not in a crisis, which is why changes can be allowed to develop over time. He sees several strengths in the Finnish system: the joint decision-making of employees and employers, the fact that pension arrangements give workers only limited choice, the capacity of the system to cover a majority of citizens and their earnings, and the adequacy of benefits for most people. The system also does not prevent workforce mobility, since pension benefits are the same in the public and private sectors.

Efficient combination solution in place in Finland

Professor Keith Ambachtsheer also identifies many strengths in the Finnish pension system. He puts special emphasis on the functionality of the institutions involved, and their efficient work distribution. However, Ambachtsheer also sees room for improving efficiency.

Ambachtsheer draws attention to the administrative costs of Finnish pension providers. According to the review by CEM Benchmarking, which forms one basis of the evaluation, costs are 48 euros higher per insured person compared to the average in an international peer group, representing probably the most efficient pension providers globally. The difference occurs in services directed at employers (59 euros/year in Finland, 8 euros/year in the peer group). Costs for services for the insured, on the other hand, are three euros lower in Finland than in the peer group (48 euros/year vs. 51 euros/year.)

Employer-related service costs and marketing and sales costs are higher for Finnish pension providers whose clientele consists large number of employers. Other factors contributing to the higher costs are the smaller sizes of the Finnish pension providers, greater complexity of the benefit structure, and the so-called principle of the last institution.

The investment costs of Finnish pension providers are approximately equal to the average level of the international peer group. Costs are reduced by the practice of Finnish providers to largely manage significant proportions of their investments internally, but on the other hand, costs rise due to higher-than-average fees paid for external investment management services.

Ambachtsheer is of the opinion that larger pension providers, or stronger co-operation between providers, would facilitate a drop in administrative and investment costs.

According to Ambachtsheer, the Finnish system is an efficient combination of Pillar I statutory pensions and Pillar II supplementary labour market-based pension arrangements. Ambachtsheer states that when taking into account both Pillar I and Pillar II pensions, the operating costs as a whole are likely to be lower in Finland than on average in the countries of comparison.

Reconsidering the funding rate, increasing global investment

The funding of pensions should be reconsidered, according to Ambachtsheer. Currently, approximately 75 per cent of the pension contribution income goes towards the immediate payment of pensions and 25 per cent is invested for future pensions. Ambachtsheer would raise the rate of prefunding further. Also, rethinking the purpose of current solvency regulations would make it possible to devote a larger proportion of Finnish pension asset to long-horizon, return-seeking strategies, thus raising the expected return on investments.

Ambachtsheer is of the opinion that the health of Finnish pension system is highly dependent on the country's national economy and employment rate. At the same time, a large share of investments, roughly a third, is concentrated to Finland. From the perspective of diversifying risks, the share of international investments should be expanded. More extensive co-operation with leading pension organizations abroad could also bring new investment opportunities.

Development suggestions are welcome

The Managing Director of the Finnish Centre for Pensions, Jukka Rantala, is happy to hear that the international evaluators see the Finnish pension system as fundamentally in good shape.

”We also received a number of good suggestions to develop further. I believe that our decision-makers will take these suggestions into careful consideration."

Professor Nicholas Barr (London School of Economics) evaluated the Finnish pension system from the perspective of adequacy, sustainability and design. Professor, Director Keith Ambachtsheer (Rotman International Centre for Pension Management, Rotman School of Management, University of Toronto) investigated system governance in his evaluation. Barr and Ambachtsheer are internationally renowned and esteemed experts in the pension field.

Additional information:

Professor Nicholas Barr, n.barr@lse.ac.uk
Professor Keith Ambachtsheer, keith@kpa-advisory.com
Managing Director Jukka Rantala, jukka.rantala@etk.fi, Tel +358 40 585 0021
Director Hannu Uusitalo, hannu.uusitalo@etk.fi, Tel +358 50 574 0280

Publications are available online at: http://www.etk.fi/fi/service/suomi_vertailussa/1598/suomi_vertailussa 

Nicholas Barr:

EVALUATION OF THE FINNISH PENSION SYSTEM / PART 1
The pension system in Finland:
Adequacy, sustainability and system design

Keith Ambachtsheer:

EVALUATION OF THE FINNISH PENSION SYSTEM / PART 2
The pension system in Finland:
Institutional structure and governance