Munich For many years, the financial sector could rely on a cross-party network for private pensions. Until the turn of the millennium, the Union provided tax exemption for capital life insurance and Gerhard Schröder’s red-green federal government provided state funding for old-age provision named after his Minister of Labor Walter Riester.
But now politics is no longer good to speak of in the industry. “Before the introduction of Riester, the insurance industry promised us heaven on earth. In particular the introduction of a standard product. Nothing happened. Really nothing, ”complains Karl-Josef Laumann, chairman of the CDU’s powerful workers wing. Laumann criticizes an opaque jungle of products that are expensive and also bring little return. If the state did not invest billions in funding, there would be nothing for the citizen to “get around” with. It is therefore no wonder that people are reticent about private retirement provision.
In fact, the number of Riester contracts has been stagnating at around 16 million since 2016, after sales rose sharply between 2005 and 2010 since they were introduced in 2001. The number of products sold by far, based on pension insurance, has even decreased by a good 300,000 contracts to 10.7 million contracts since 2011, while Riester funds grew to a total of 3.3 million policies in the same period. The criticism regarding the lack of transparency and the high costs is justified for many Riester products. Many problems have been caused by politics.
Expensive capital guarantee
For example, the legislature has prescribed to the product providers the guarantee of the contributions paid in at the start of retirement. This guarantee can often only be achieved with a high proportion of fixed-income securities. The European Central Bank’s zero interest rate policy has subsequently depressed the return on guaranteed products. The Christian Democratic Workers’ Association (CDA) does not leave it at the general criticism of the Riester pension, but also suggests an alternative to the existing products. Because private pensions should become significantly more efficient, fair and binding, they are calling for the introduction of a state-organized standard product. A statutory cost cap, the waiver of transaction costs and free advice to investors are intended to compete vigorously with the products on the market.
The CDA remains unexplained why it allocates a state-organized standard product to private pensions. A mistrust of the state pension is appropriate: Finally, the private Riester pension was introduced by the legislature on the initiative of the Schröder government, because the state pension alone was no longer sufficient to ensure the standard of living in old age. Since the statutory pension based on the pay-as-you-go system is particularly affected by the aging of society, it was decided in 2005 to lower the statutory pension level, which was to be compensated for by the state-funded private Riester pension.
However, within the grand coalition of the Union and the SPD, there does not currently seem to be a majority for a state-organized pension fund. The Union’s entrepreneurial wing – such as the former Blackrock Supervisory Board Friedrich Merz – advocates strengthening equity investments, but is rather critical of the expansion of state powers in old-age provision. The SPD, on the other hand, rejects a funded sovereign wealth fund because the Social Democrats prefer to expand the pay-as-you-go statutory pension instead.
Number of the week
Riester contracts have been concluded by German citizens. The number has been stagnating for years.
However, a funded sovereign wealth fund could have a majority in the Bundestag after the next Bundestag election. Because in addition to the CDU workers’ wing, Alliance 90 / The Greens also advocates this. “It’s time for a civic fund,” says Robert Habeck, party leader of the Greens. The term “citizen fund” should not hide the fact that Habeck means a sovereign wealth fund and is considered the model for the world’s largest sovereign wealth fund, the fund financed from oil revenue in Norway.
However, while the latter mainly invests internationally in large public companies outside of Norway, Habeck is more of a nebulous target bundle for a German sovereign wealth fund. “The fund should be open to all citizens and invest in the long-term restructuring of the economy,” said the party leader of the Greens. Citizens would benefit from increased profits, and at the same time the fund could stabilize the situation on the financial markets.
The German pension industry is not at all enthusiastic about the proposal of a state-organized fund. With the competition from a sovereign wealth fund, it fears the loss of its “bread and butter business”. In addition to fears of income and livelihood, plausible objections to a sovereign wealth fund are also raised. “There is no empirical evidence that a sovereign wealth fund invests capital better than private sector institutions,” warns Andreas Wimmer, board member corporate clients of Allianz Lebensversicherung. A sovereign wealth fund would also raise questions of security as a pure commitment to contribute. So it is unclear who bears the risk of fluctuations in value or what happens if the fund develops strongly negatively shortly before retirement.
In a joint statement at the end of 2019, the associations of the insurance industry (GDV), fund companies (BVI) and building societies instead proposed the reform of private pension provision in a five-point plan. Thereafter, there should be standard products without complicated options, a simple state subsidy of 50 cents per euro saved, the opening of subsidies for the self-employed, the relaxation of the contribution guarantee and a simplification of the allowance procedure.
Swedish role model
Instead of competing with a sovereign wealth fund, the state should expand and simplify funding. Consumer advocates have little understanding for this. They also favor a standard product and, in order to keep the costs for savers as low as possible, a state-organized fund based on the model of the Swedish state fund Safa. The investment risk due to a high equity component does not speak against it. “A simple strategy consisting of stocks plus reallocation would be significantly better than complicated insurance or the Riester savings stocking,” says Dorothea Mohn, finance team leader at the Federal Consumer Association (VZBV).
It is based on an expert opinion from the ZEW Economic Institute in Mannheim, which is funded by the Ministry of Consumer Affairs and initiated by the German Bundestag. In the study “Capital investment by a state-organized pension fund”, the authors, Tabea Bucher-Koenen, head of the ZEW research area “International Financial Markets and Financial Management”, her colleague Jesper Riedler and Professor Martin Weber from the University of Mannheim advocate a high proportion of shares. The calculation was based on an average earner who invests four percent of his or her gross income on the capital market for 45 years and who has the savings in retirement age with a retirement plan from 90 onwards.
Based on historical returns for bonds and stocks and a random number generator, the average nominal monthly pension for a purely equity portfolio is EUR 5560. In the worst five percent of the simulation cases, the monthly pension was less than 1650 euros and in the best five percent of the simulations more than 22,900 euros. Alternatively, mixed portfolios in which the proportion of shares is reduced with increasing age according to the life cycle model, as well as a mixed portfolio with half the proportion of shares and annuities, were examined. On average, they have significantly lower pension payments than the pure equity portfolio, but their diversification is significantly less.
The experts’ conclusion: “The equity portfolio with a life cycle shift would be best suited as a standard portfolio.” So you recommend a kind of Riester fund with no guaranteed contribution. But they also advocate an opening option for investors: “Depending on their risk attitude and risk-bearing capacity, people should be given the opportunity to deviate from this portfolio and select riskier or less risky portfolios.”
From the perspective of investors, the legitimate question remains why they should entrust their money to the state rather than to the financial sector. Finally, the decisions on statutory pension insurance in recent years have shown that the parties like to sacrifice a contribution-based pension benefit in favor of election redistribution for their electorate. Investors who want to invest in shares as cheaply and widely as possible do not need a sovereign wealth fund. This can be achieved with exchange-traded ETFs as required. Nor are they at risk that the government could use the fund’s investor funds for other purposes.
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