Pension plans suffer growing pains throughout region

Przemysław Rosiński has no idea what his pension will be under a landmark reform passed in 1999. Nor has he been told how much money he has saved in his retirement account. But Rosiński does know that without the reform Poland's communist-era pension system would have gone bust long before he stops working. "It was not well thought out," said the 33-year-old courier. "We needed reforms - but they should have been done properly." The Polish reform, one of the boldest in Eastern Europe, aims to defuse a demographic time bomb by supplementing a scaled-down version of the old pay-as-you-go state system with another scheme under which people are compelled to build up their own personal pension.

Fine in theory, but in practice there have been teething troubles. The computer system set up to handle payments into personal pension accounts still doesn't work, leaving workers in the dark about how their funds are doing. And forecasts that pensions in 2020 could be less than half average final pay, compared to more than 60% now, have shaken public confidence and sparked calls for reform. But optimists counter that despite the glitches the new system is working well enough and that Poland, like other Eastern European countries, has leapfrogged some European Union countries where social resistance to pension reform is greater. The money piling up in personal pensions funds in Poland, Hungary and even Bulgaria should, when it is put to work, boost capital markets and drive economic development as these countries try to close a wide wealth gap with the West. "Central and Eastern European countries have an advantage; they can bring in wholesale reforms without a legacy of existing schemes," said Jonathan Woollert, a director at the European Bank for Reconstruction and Development (EBRD) in London. "There have been teething troubles but they won't require countries to go back to square one."

Reform race Governments know the sums underpinning the pay-as-you-go system - where today's workers pay today's pensioners - won't be sufficient as the ratio of retirees to employees is climbing because of rising life expectancies and falling birth rates. But they have moved, albeit at varying speeds, to reform their pension systems by launching mandatory or voluntary top-up schemes in which workers save for their own retirement. Surprisingly, countries often seen as reform laggards, like Bulgaria, have taken bold steps while politicians in the Czech Republic, a hot target for foreign investors, are bickering over pensions reform ahead of elections in June. The Czechs have patched up their pay-as-you-go scheme by raising the retirement age and have created a voluntary funded scheme, but reforms have not gone far enough to avert a blowout in the state scheme's deficit. "Pension reform is a hornet's nest for politicians that they will have to stir up," said Miroslav Brabec, an economist with Raiffeisenbank in Prague. "The demographic trends are clearly pointing toward a rising deficit in the current pension system and a long-term reform is the only solution," he added. Bulgaria, although criticized for paying too little into a compulsory second pillar scheme, has created new asset classes - such as mortgage-backed bonds - into which funds can invest. Such instruments are vital in countries where equity markets failed to take off in the 1990s. Any progress on reform is worth applauding in a country where monthly pensions now average $43 - too little even to pay heating and electricity bills.

Equity constraints Pension fund assets are now worth 3% of gross domestic product in Poland and 1.4% in Hungary - which passed a similar reform in 1998 but has been criticized for not raising second pillar contributions to levels first envisaged. According to the Organization for Economic Cooperation and Development (OECD), funds under management in both countries could swell to as much as 30% of GDP by 2020. But finding places to invest retirement savings is already posing problems, even in Poland, which has the region's liveliest equity market. Pension funds already account for 15% of the Warsaw bourse's free float and managers are chafing against rules limiting investment abroad to 5% of assets and capping individual company holdings at 10%. "I don't think you can provide a large domestic portfolio with a competitive rate of return and sufficient diversity to manage your risk," said Dawid Sukacz, who manages $1.5 billion at Poland's market leader Commercial Union. "Historical data show you can achieve the best results in markets where there are no restrictions." Sukacz also said fears the new pensions will fall short of expectations are overdone. Fund performance over just two and a half years, a period when shares were very weak, does not provide an adequate basis for long-term forecasts, he said. Politicians have also made hash of explaining the new "defined contribution" scheme, where the final payout depends on investment returns, and made matters worse by rushing to call for repairs to the reformed system. "It is a question of education: People have to understand certain risks," said the EBRD's Woollert. "I don't think it is necessary to go back to the drawing board. The greatest danger to these systems is that politicians modify these systems in the future to get votes." - Reuters