Record low interest rates are forcing the world’s best pension system to take drastic action aimed at staving off cuts to payouts that were once unthinkable.
An extended period of negative or record low interest rates has put huge pressure on pension funds in the Netherlands, forcing them to alert retirees that their incomes could be cut. The Dutch government is working urgently to resolve the immediate problem, but the emergency is fueling concern in a country where an increase in the number of retiring workers means pension changes are inevitable.
Dutch workers have typically been able to retire on a pension equivalent to roughly 80 per cent of their average pay. But stress on pensions from low interest rates has led to talk of reduced payouts to retirees, or increased premiums for those still in work, shocking a nation that has come to rely on a system known for its strict accounting and reliability. Nearly everyone has access to pensions from both the government and through their employer, and the Netherlands was ranked first in investment adviser Mercer’s 2019 annual review of global pensions.
For global pension funds, low interest rates couldn’t have come at a worse time. Returns on their investments are poised to drop just as a seismic demographic shift takes hold. People are living longer, and populations are aging, which means there are fewer younger workers to pay into the system, keeping it afloat.
A report last week estimated that the world’s top economies will face a shortfall of $15.8 trillion in 2050 — up from $1.1 trillion in 2017 — in providing financial security for their citizens in retirement. And that’s using optimistic assumptions on economic growth, wages and returns on pension investments.
“It’s an extraordinary situation,” said Shaktie Rambaran Mishre, Chair of The Dutch Pension Federation, which represents about 200 pension funds. The Dutch government was forced to propose an intervention, which Mishre said “creates peace for now.”
But for the Netherlands, these are uncharted waters. Mishre said such actions haven’t been necessary “as long as I’ve read the news.”
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On the brink
These developments have roots not in The Hague, the Netherlands’ seat of government, but in the cities that host the world’s most powerful central banks: Washington, Frankfurt and Tokyo.
Central bankers have conducted an unprecedented experiment since the 2008 financial crisis. To juice a sluggish global economic recovery, they’ve pushed interest rates to their lowest points in history; in Europe and Japan, rates have been in negative territory since 2014 and 2016, respectively. Meanwhile, central banks have gobbled up bonds via massive asset purchase programmes with the aim of lowering long-term borrowing costs.
Years later, the worrisome side effects of such policies face growing scrutiny. One consequence of negative rates has been the impact on banks, which have to pay to park their money with central banks instead of collecting interest. Savers have also been penalised.
Now the impact on pension funds is coming into focus. These entities count on bonds for stable returns to fund payouts to pensioners. Yields on bonds from countries such as Germany are negative, forcing them to chase returns elsewhere. In the Netherlands, stringent accounting rules for calculating future costs – generally seen as a positive – mean that funds face higher liabilities when interest rates are low. If they can’t meet their obligations, they’re forced to cut benefits.
“In all likelihood, we will have to reduce pensions next year, and it does not look good for the coming years either,” Corien Wortmann-Kool, the chair of ABP, one of the Netherlands’ largest funds, warned last month.
- Culled from CNN Business
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