1. “Accomplishments and Challenges in the Chilean Pension System”
IAIS Annual Conference
9 October 2002
Santiago de Chile
“Accomplishments and Challenges in the Chilean Pension System”
Francisco Silva
Superintendencia de Valores y Seguros of Chile

2. Table of Contents I. Objectives of the Chilean Pension System
II. Structure of Incentives for the Chilean Model
III. Dilemma and Coordination of Objectives in the Regulation
IV. Conceptual Elements of the Latest Amendments to the System
V. Proposals of Improvements to the Chilean Pension System

3. Objectives of the Chilean Pension System

4. General Objectives of the System
To minimise the Government risk in paying Pensions (subsidiary role of the Government).
Coordination of objectives in the regulation.
To assure pensioners a fair pension when retiring (Private sector role).
To strengthen the Chilean capital market.

5. II. Structure of Incentives for the Chilean Model.

6. Structure of the Chilean System
Compulsory
Saving
Pension
Funds
Annuity
Affiliates
Mutual Funds
Accumulated
Fund
Voluntary
Saving
Schedule
Withdrawal
Investment Funds
Insurance
Retirement
Date
After
Retirement
Labour Cycle

7. Incentives Scheme Incentives Scheme for Competing
among Pension Funds Managers
Profitability
No. Affiliates
Elements
Portfolio Analysis
Flexibility to assume risk and differentiation
Attract affiliates through better profitability and lower management costs

8. Analysis Structure (Specifics Objectives of the System) Pension Fund
1 Efficiency
Pension Fund
Managers
4 Low Costs
2 Efficient Contract
6 Competition
Funds
5 Strengthening
3 Interest
Pensioners
Financial
Market
7 Knowledge

9. III. Dilemma and Coordination of Objectives in the Regulation

10. Relation between Regulation Objectives1
Maximisation of Social Security 2
Efficient Regulation of the Capital Market
Minimise Government risk
Reduce competition from profits
Diminish Risk
Promote the use of securities
To generate competition profits
Risk Diversification
Asymmetry of Interests

11. Regulation based on social standard
Regulation Dilemma
(Asymmetry of Interests from Regulators) r
Usocial U2 r2 rs r1 U1 1 s 2 
Regulation based on social standard

12. Solution to Conflict of Regulation
(Nash Equilibrium)
(Risk) 
 =  (Y) +
Zone of Personal Risk or by Group
Government Risk
Y (Income)
Y min
Two Conditions: 1) Minimise Government Risk
2) Maximise Institutional Investors Profits

13. IV. Conceptual Elements of the Latest Amendments to the System.

14. Pillars of the Pension System
Social
Security
Compulsory
Saving
Voluntary
Saving

15. Pillars of the Pension System
Government assure a minimum pension.
Minimise Government risk, increasing the effort of individual saving.
Social
Security

16. Pillars of the Pension System
Require a minimum individual saving to finance the pension.
Minimise the government risk, increasing the effort of individual saving.
Compulsory
Saving

17. Pillars of the Pension System
Improve replace rate.
Align incentives so people increase individual saving.
Minimise government risk, increase individual saving.
Voluntary
Saving

18. Opening Voluntary Pension Saving
Participation of insurance companies, mutual and investment funds managers, and for housing funds in the Voluntary Pension Saving Scheme Market.
Collective Regulation.

19. Analysis Structure (Specifics Objectives of the System) Pension Fund
Improve with Amendments
(Specifics Objectives of the System)
1 Efficiency
Pension Fund
Managers
4 Low Costs
6 Competition
2 Efficient Contract
Funds
5 Strengthening
3 Interests
Pensioners
Financial
Market
7 Knowledge

20. Creation of Multi-funds for Pension Funds Managers.
Increase the number of type of Funds in the Pension Fund System, from two to five (Types A, B, C, D y E).
Maximum and Minimum Investment Limits in variable income securities.
Maximum
Limit
Allow
Compulsory
Minimum
Fund A
80 %
40 %
Fund B
60 %
25 %
Fund C
15 %
Fund D
20 %
5 %
Fund E
Not Allow
Not allow

21. Analysis Structure (Specifics Objectives of the System) Pension Fund
Improve with Amendments
(Specifics Objectives of the System)
1 Efficiency
Pension Fund
Managers
4 Low Costs
6 Competition
2 Efficient Contract
Funds
5 Strengthening
3 Interests
Pensioners
Financial
Market
7 Knowledge

22. Proposals of Improvements to the Chilean Pension System.

23. Proposed Third Pillar Amendment
Amendment based on the US 401(k) plans.
Main characteristics:
Employer contribution in proportion to employee contribution.
Tax incentives for employer and employee.
Fairness conditions as an increasing incentive.

24. Analysis Structure (Specifics Objectives of the System) Pension Fund
Improve with Amendments
(Specifics Objectives of the System)
1 Efficiency
Pension Fund
Managers
4 Low Costs
6 Competition
2 Efficient Contract
Funds
3 Interests
5 Strengthening
Pensioners
Financial
Market
7 Knowledge

25. Proposed Second Pillar Amendment
To limit the compulsory contribution of each person, among the minimum of:
(a) 10% salary with a maximum of 6 UF, and
(b) a projected salary percentage that added to his/her accumulate fund, would allow to reach a minimum saving to obtain X time a minimum pension, Y years before his/her retirement age (x>1; Y>5).
In the case that (b) < (a), the difference (a)-(b) must be saved using any pension plan, including voluntary saving managers.

26. Proposed Second Pillar Amendment
Nash equilibrium is maintained within objectives of regulation:
Increasing competition in the financial market and the pensions market, partially opening actual compulsory saving to other fund managers and to insurance companies (voluntary pension saving model).
Setting boundaries to Government risk.

27. Analysis Structure (Specifics Objectives of the System) Pension Fund
Improve with Amendments
(Specifics Objectives of the System)
1 Efficiency
Pension Fund
Managers
4 Low Costs
6 Competition
2 Efficient Contract
Funds
5 Strengthening
3 Interests
Pensioners
Financial
Market
7 Knowledge

28. Second Pillar: Increasing Efficiency
Align incentives to avoid herd behaviour.
The effective correction in the difference regarding average profitability, allows the reduction of risk, however generating an herd behaviour that decreases competition (another example of conflicting objectives in regulation).
Analyse the convenience of providing vertically integrated functions of collecting, account management and portfolio management.
The effective economies of scale in the first two functions could produce a strong concentration, damaging competition in portfolio management.

29. Proposed First Pillar Amendment
Change actual Government subsidy that assures minimum monthly pension for system pensioners, for a one time subsidy given at the moment of retirement, for the necessarily amount to finance a annuity equivalent to the minimum pension.
Allows the elimination of a contingency that nowadays is assumed by the State, transferring it to the market.
If the private sector is more efficient than the State in the portfolio and risk management, this subsidy should constitute a minor government burden than the actual system, ceteris paribus the coverage.

30. Summarizing… First Pillar:
Reduce government risk transferring contingencies to the private sector.
Segundo Pillar:
Increase competition, opening compulsory saving to other agents of the financial market, reducing government risk.
Third Pillar:
Increase coverage, introducing a model similar to the 401(k) plans.