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  • D I R E C T I O N S I N D E V E L O P M E N T


    Aging Population, PensionFunds, and Financial Markets

    Regional Perspectives and GlobalChallenges for Central, Eastern, and

    Southern Europe

    Robert HolzmannEditor

  • Aging Population, Pension Funds, andFinancial Markets

  • Aging Population, PensionFunds, and Financial MarketsRegional Perspectives and Global Challenges forCentral, Eastern, and Southern Europe

    Robert Holzmann, Editor

  • 2009 The International Bank for Reconstruction and Development / The World Bank

    1818 H Street, NWWashington, DC 20433Telephone 202-473-1000Internet www.worldbank.orgE-mail

    All rights reserved.

    1 2 3 4 :: 12 11 10 09

    This volume is a product of the staff of the International Bank for Reconstruction andDevelopment / The World Bank. The findings, interpretations, and conclusions expressed in thisvolume do not necessarily reflect the views of the Executive Directors of The World Bank or thegovernments they represent.

    The World Bank does not guarantee the accuracy of the data included in this work. The bound-aries, colors, denominations, and other information shown on any map in this work do not implyany judgment on the part of The World Bank concerning the legal status of any territory or theendorsement or acceptance of such boundaries.

    Rights and Permissions

    The material in this publication is copyrighted. Copying and/or transmitting portions or all of thiswork without permission may be a violation of applicable law. The International Bank forReconstruction and Development / The World Bank encourages dissemination of its work and willnormally grant permission to reproduce portions of the work promptly.

    For permission to photocopy or reprint any part of this work, please send a request with completeinformation to the Copyright Clearance Center Inc., 222 Rosewood Drive, Danvers, MA 01923,USA; telephone: 978-750-8400; fax: 978-750-4470; Internet:

    All other queries on rights and licenses, including subsidiary rights, should be addressed to theOffice of the Publisher, The World Bank, 1818 H Street NW, Washington, DC 20433, USA; fax:202-522-2422; e-mail:

    ISBN: 978-0-8213-7732-1eISBN: 978-0-8213-7733-8DOI: 10.1596/978-0-8213-7732-1

    Library of Congress Cataloging-in-Publication Data

    Aging populations, pension funds, and financial markets : regional perspectives and global chal-lenges for central, eastern, and southern Europe / Robert Holzmann, editor.

    p. cm.Includes bibliographical references and index.ISBN 978-0-8213-7732-1 (alk. paper) ISBN 978-0-8213-7733-81. Old age pensionsEurope, CentralFinance. 2. Old age pensionsEurope, Eastern

    Finance. 3. Old age pensionsEurope, SouthernFinance. 4. Population agingEurope, Central.5. Population agingEurope, Eastern. 6. Population agingEurope, Southern. 7. FinanceEurope,Central. 8. FinanceEurope, Eastern. 9. FinanceEurope, Southern. I. Holzmann, Robert. HD7105.35.E852A354 2008331.252094dc22


  • Preface xiAcknowledgments xiiiAbbreviations and Acronyms xv

    Chapter 1 Introduction, Main Messages, and Policy Conclusions 1Robert Holzmann

    Structure of the Book 2Overview and Key Messages 3Policy Conclusions and Future Priorities 8Note 11

    Chapter 2 Were Financial Systems in CESE Countries Prepared for the Challenges of Multipillar Pension Reform? 13Robert Holzmann, Csaba Feher, and Hermann von Gersdorff

    Multipillar Reforms in Transition Economies 14Financial Sector Readiness in the Region 23



  • Current Status of the Financial Sector 29Conclusions 37Notes 38References 38

    Chapter 3 How Can Financial Markets Be Developed to BetterSupport Funded Systems? 41Ricardo N. Bebczuk and Alberto R. Musalem

    Is Too Much Money Chasing Too Few Assets? 41Bank-Based and Market-Based Systems 51Alternative Investment Options in Emerging

    Countries 55Conclusions 57Notes 58References 60

    Chapter 4 Population Aging and the Payout of Benefits 63Heinz Rudolph and Roberto Rocha

    Lessons for Developing Annuity Markets 64Preparing for the Payout of Benefits: Challenges

    and Options 73Conclusions 79Notes 80References 80

    Chapter 5 Can the Financial Markets Generate Sustained Returns on a Large Scale? 83Ricardo N. Bebczuk and Alberto R. Musalem

    Gross Financial Returns and Pension Fund Asset Allocation 84

    Net Pension Fund Returns 89Conclusions 91Notes 92References 94

    Chapter 6 Does Investing in Emerging Markets Help? 97Ricardo N. Bebczuk and Alberto R. Musalem

    International Financial Diversification and Domestic Bias 97

    vi Contents

  • Return, Risk, and International Diversification 102Investing in Emerging Markets 105Conclusions 112Notes 113References 115

    Chapter 7 Will Population Aging Affect Rates of Return? 119Robert Holzmann

    Demographic Developments and Motivation 120Will Aging Cause a Financial Market Meltdown? 123The Impact of Aging on the Implicit Returns of

    Unfunded Pension Schemes 130Conclusions 134Notes 135References 135

    Appendix Readiness Indicators 139

    Conceptual Considerations 139Ten Critical Areas of Readiness Assessment 149Applied Methodology for Rating 155References 156

    Index 157

    Figures2.1 Readiness Indicator Scores at Reform and Five

    Years Later, Five CESE Countries 262.2 Stock Market Capitalization as Percent of

    GDP, Five CESE Countries, 2000 and 2006 272.3 Stock Trading Volume as Percent of Market

    Capitalization, Five CESE Countries, 2000 and 2006 282.4 Readiness Indicator Scores, Four CESE Countries

    with Voluntary Pension Schemes 293.1 Financial Structure, Chile, 19812007 544.1 Bank Assets and Per Capita Income, 50 Countries, 2005 664.2 Nonbank Financial Institution (NBFI) Assets and Per

    Capita Income, 50 Countries, 2005 674.3 Total Assets and Per Capita Income, 50 Countries, 2005 674.4 Ratio of Life Insurance Assets to Pension Assets, Chile,

    19912005 71

    Contents vii

  • 7.1 Ratio of Savers to Dissavers by Region, 19502050 1227.2 Asset Prices and Share of U.S. Population Age 4064,

    19502050 1237.3 Real Stock Prices, United States, 19502006 and

    Projected to 2050 127

    Tables2.1 Characteristics of Multipillar Pension Reforms in

    Transition Economies 172.2 Gross Public Pension Expenditure in Relation to GDP,

    European Union Members, 2004 and Projected to 2050 212.3 Transition Indicator Scores: Banking Reform and Interest

    Rate Liberalization, 19892007 312.4 Transition Indicator Scores: Security Markets and

    Nonbank Institutions, 19892007 332.5 Volume and Structure of Assets in Second-Pillar Pension

    Funds as of December 2005 362.6 Allocation of Assets across Bond Categories as of

    December 2005 373.1 Pension Funds and Financial Market Size, Selected

    Countries 433.2 Pension Fund Regulatory Limits and Actual Shares,

    Selected Countries, 2007 443.3 Bank Deposits and Stock Held by Pension Funds,

    Selected Countries, Recent Years 443.4 Number of Listed Firms and Concentration of Market

    Capitalization, Selected Countries, 1966 and 20067 493.5 Absolute and Relative Size of Banking Sectors and Capital

    Markets, Selected Countries, Circa 2006 524.1 Population Share of the Elderly and Per Capita Income,

    2005 664.2 Assets of Banks and Nonbank Financial Institutions

    (NBFIs) as Share of GDP 664.3 Average Age, Average Wage, Average Balance, and

    Membership Size of Lifestyle Portfolios, Chile, December 2005 70

    4.4 Composition of Lifestyle Portfolios, Chile, June 2007 704.5 Portfolios of Chilean Life Insurance Companies, Selected

    Years, 19862006 71

    viii Contents

  • 4.6 Portfolios of Chilean Pension Funds, Selected Years, 19862006 72

    4.7 Payout Phase Design in Five Countries with Mandatory Second Pillars 74

    5.1 Annual Real Returns and Standard Deviations of DomesticAssets, 39 OECD and Emerging Countries 84

    5.2 Portfolio Allocation in High-Income OECD Countries, 2006 855.3 Portfolio Allocation in Selected Emerging Countries, 2007 865.4 Annual Gross Real Pension Fund Returns in Selected

    OECD Countries, 197095 875.5 Long-Term Stock Returns in the United Kingdom and the

    United States, 18722007 885.6 Impact of Administrative Costs on Yields and Assets,

    Selected Emerging Countries 905.7 Net Real Annual Returns as Percent of GDP Growth,

    Selected OECD Countries, 197095 905.8 Net Real Annual Returns in Emerging Countries from

    Inception of Pension Fund to 2007 916.1 Share of Foreign Assets in Household Financial Portfolios,

    Selected OECD Countries, 198199 996.2 Foreign Asset Limits in Pension Portfolios in High-Income

    OECD Countries 1006.3 Share of Foreign Assets in Pension Portfolios, Selected

    OECD Countries, 19802006 1006.4 Share of Foreign Assets in Pension Portfolios, Selected

    OECD Countries, 2006 1016.5 Foreign Asset Limits in Pension Portfolios in High-Income

    OECD Countries, 2007 1016.6 Share of Foreign Assets in Pension Portfolios in Emerging

    Countries, 2007 1016.7 Real Stock Return Correlation Matrix, Selected Countries,

    19962007 1026.8 Pension Replacement Ratios for Alternative Domestic

    and Foreign Portfolios, Selected Countries 1036.9 Pension Fund Real Returns and Risk, OECD Countries 1046.10 Optimal Foreign Assets Share by Target Return,

    OECD Countries 1046.11 Optimal Foreign Assets Share by Target Return,

    Emerging Countries 104

    Contents ix

  • 6.12 Dollar Returns and Volatility of Equity Indexes, 19992007 1076.13 Legal and Effective Shareholder Rights, Emerging and

    OECD Countries 1086.14 Market Capitalization, Volu