The European Commission has published a White Paper detailing its agenda for “adequate, sustainable and safe pensions”. Among its initiatives is a plan to present a legislative proposal to review the current Institutions for Occupational Retirement Provision (IORP) Directive by the end of the year. The IORP Directive provides a framework for the regulation of funded occupational pension schemes (i.e. IORPs) throughout the EU. According to the White Paper, one of the aims of the review is to maintain a level playing field with Solvency II which is a set of risk-based capital requirement rules for the European insurance industry that is to come into force in 2014.
The White Paper was published only hours after the European Insurance and Occupational Pensions Authority (EIOPA) delivered its response to the European Commission’s “call for advice” on an EU-wide supervisory system for IORPs. EIOPA put forward a prudential supervisory solvency assessment tool for IORPs which is based on the underlying principles of Solvency II and which, according to EIOPA, takes account of the differences between the pension and insurance industries and acknowledges the existing diversity of pension systems across Europe.
However, many critics have pointed out that EIOPA’s proposed rules too closely resemble the stringent Solvency II rules applicable to insurance companies. They have also stressed that, for the following reasons, such an approach is not appropriate for the pensions industry:
- It is not suitable to apply a “one size fits all” regulatory regime for both the pension and insurance industries as they have very different funding requirements. Pension schemes have long term predictable liabilities whereas insurance companies operate on a more short term and uncertain basis which justifies the application of the stringent funding requirements set down in Solvency II
- A harmonised regulatory framework, such as a Solvency II type framework, is unsuitable for the pensions industry given the diversity of pension systems across the EU
Critics have also highlighted the following potential consequences of applying a Solvency II type regime to occupational pension schemes:
- The capital requirements under EIOPA’s proposal would vastly increase the cost to employers of providing occupational schemes and this may ultimately lead to the closure of a substantial number of defined benefit schemes
- The risk-based calculation of capital under EIOPA’s approach would likely cause pension funds to de-risk their asset allocation by redirecting investment towards the more expensive, and lower return, fixed income assets. This is likely to impact upon the ability of pension schemes to meet their long-term financial liabilities and on the European economy generally as it would result in less capital being available to companies to create jobs and growth
It is noteworthy that EIOPA pointed out that its response “does not consider the question of whether Solvency II is the correct starting point”. EIOPA also notes that its advice is conditional on the results of a quantitative impact study, which will provide further information about whether a common level of security is feasible in practice and effective in terms of costs and benefits.
The idea of applying Solvency II type rules to the pensions industry is highly controversial. If the quantitative impact study shows that adopting such an approach will have a negative impact on pension funds, it is hoped that the European Commission will reconsider the need for such a change.
Contributed by Mary Greaney, Lorna Osborne and Michael Wolfe