Successful reform of the Netherlands’ pension system will require “strong political leadership and a strong dose of national solidarity”, according to influential pensions consultant Keith Ambachtsheer.

In an open letter to the new Dutch social affairs minister Wouter Koolmees, first published in IPE’s sister publication Pensioen Pro, Ambachtsheer – who was born in Rotterdam before his family emigrated to Canada – explained how the principles of Dutch economist and Nobel Prize winner Jan Tinbergen could be adopted in an overhaul of the Dutch system.

Redesigning the system was a major part of political party manifestos during this year’s election, and debate has continued throughout the industry as to how a new pensions contract for workplace benefits could be constructed.

However, the timeline for the proposed reform has been pushed back and a number of the Netherlands’ biggest schemes have voiced concerns about some of the changes.

Here is the full English text of Keith Ambachtsheer’s letter to Wouter Koolmees, titled: A solution for the Netherlands pension puzzle.

Dear Minister Koolmees,

I understand you have been handed the challenging task of solving your country’s current pension puzzle. It may interest you to know I was given the same task by the Koninklijke Vereeniging voor de Staathuishoudkunde in 2014. The resulting paper was titled Taking the Dutch Pension System to the Next Level: A View from the Outside, and presented in Amsterdam in December 2014. I thought you might appreciate a brief summary of my recommendations.

Explaining why there is a Dutch pension puzzle is not difficult. The emphasis in your very large pillar 2 (i.e. workplace-based) pension sector on solvency has had a counterproductive effect on plan participants: less rather than more trust in the pension system. Why? Because young workers believe they are overpaying in relation to the future benefits they are accruing.

At the same time, recent asset shortfalls uncovered by complex balance sheet solvency calculations have led to actual cuts in pension payments to retirees. So ironically, current measures to ensure the long-term solvency of your pillar 2 pension schemes are causing both the young and the old to lose faith that the system operates in their interest.

In terms of that famous Dutch concept of ‘solidarity’, measures intended to increase it are actually having the opposite effect.

So how to solve this problem? A good first step is to recall Albert Einstein’s dictum: “Make things as simple as possible, but no simpler.” If people are going to trust a pension system, they must understand it. For many Nederlanders, their workplace pension schemes don’t pass the Einstein test: they have become far more complex than they need to be.

A good second step is to recall why Dutch academic Jan Tinbergen was the first recipient of the Nobel Prize in Economics in 1969. He showed that the number of economic goals must be matched by the number of economic instruments designed to achieve them.

In pension economics, there are two goals: (1) affordability and (2) safety. Achieving the first goal requires an investment instrument that generates high investment returns over the long-term (higher investment returns mean lower contribution rates). Achieving the second goal requires an instrument that matches projected pension payments with assets of similar duration and inflation sensitivity, while also pooling longevity risk.

This dual Tinbergen pension scheme structure solves the noted problems of the current Dutch unitary structure, which attempts to achieve both affordability and safety goals with just one instrument. The predictable result is collective schizophrenia, with both the young and the old unhappy.

The cure is to adopt the dual Tinbergen structure, where separate instruments focus on long-term wealth-creation in one, and on delivering a lifetime pension in the other. The wealth-creation instrument is a collective investment fund that aspires to generate a competitive long-term rate of return net of all expenses. The safety instrument is a collective ‘fair value’ balance sheet that promises to pay a predictable lifetime stream of pension payments to participants.

Over the course of their working lives, scheme participants begin by accumulating units in the wealth-creation instrument, and eventually shift these accumulations into the safety instrument as they approach retirement. This can be done automatically, or through participant intervention if they so choose.

While I believe the Tinbergen solution to the Dutch pension puzzle passes the ‘as simple as possible, but no simpler’ test, its implementation will require strong political leadership and a strong dose of national ‘solidarity’.

Pension schemes will have to take three steps: (1) Establish operational wealth-creation and payment safety pools, (2) divide total scheme assets into individual member components, and split each member’s total component into allocations to the two pools based on a simple age-related formula, and (3) give participants the option to adjust those ‘default’ weightings to better reflect their personal preferences for wealth-creation and payment safety if they so choose.

Executing these 3-step processes will be challenging and time-consuming. However, the end-prize will be worth it: renewed national trust in the fairness and sustainability of the best pillar 2 pension system in the world.

Yours truly,

Keith Ambachtsheer 

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