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 Simon Colboc
FEPI Secretary General
Assets for retirement in Europe: the case of the missing €10tn
High-level analyses of demographic evolution in Europe and the state of local unfunded pension schemes come to the alarming conclusion that there is €10tn missing from the system, if we are to have a level of funded pensions comparable with US, UK or Scandinavian markets.
EU-driven attempts to generate additional pension savings, such as the PEPP, have little chance of success as they do little to address the core issues – even if some local products such as the French PER are taking off.
However, European households are big savers, and have already set aside some €30tn in financial assets, out of which nearly €10tn are ‘earmarked’ for retirement. But these assets are mostly invested in short-term/capital-guaranteed products and would need to be re-allocated to better match the long-term needs they cover.
As demographic changes converge with a reversion of the historical trend of rate reduction, there is a window of opportunity for product providers to bring new solutions to European households and their financial advisors.
Macro-economic and demographic trends are frightening
The financing of pensions in Europe relies mostly on state-run pay-as-you-go systems, where contributions from workers and employers are used to pay for the income of pensioners. Funded pensions are highly developed in countries such as Australia or the USA where pension assets represent 130 to 170% of GDP, but also in some European markets such as the Netherlands and the UK.
In parallel, demographic changes, with longer life expectancy and a reduction in the birth-rate, lead to a rapidly ageing population across all OECD countries. In Europe, this generates a rapid deterioration of the ratio of workers to pensioners, with a detrimental impact on the sustainability of pension systems.
Getting the bulk of European countries on par with a ‘target’ level of 100% of GDP would require additional assets of some €10tn. This staggering ‘deficit’ has driven many observers to worry that the Continent might be heading towards a massive financial and social crisis – some reports even predict complete financial meltdown.
PEPP product has no bite – and it is barking up the wrong tree anyway
The European Union has addressed the need to create additional retirement savings with the creation of the PEPP (Pan-European Personal Pension Product), attempting to create a Continent-wide market. After years of discussion, the legal basis was established in March 2022 – but only two providers have launched products so far.
One issue hampering the development of the PEPP is that the scheme was ill-conceived from the start. EU rules forbid the European Commission to intervene in the fiscal field, which remains the prerogative of Member States. However, a savings structure with no tax advantage has very little chance to generate any interest in the market. The horse-trading needed to push the legislation through the complexities of EU institutions put additional constraints on the products with mandatory capital guarantees and low fee limits, further discouraging potential providers. Local products such as the French PER, provide a tax advantage and are gathering assets, but are still far from the scale that would change the pension balance.
In any case, creating a product to generate more pension savings was perhaps not as urgent as reallocating existing assets.
Europeans are sitting on a huge pile of financial assets – but need to put them to work
European households are sitting on a massive amount of savings, over €30tn in financial savings. These assets are not usually considered when analysing the pension gap, because they sit in life insurance, savings accounts or other forms of financial investments not usually associated with retirement.
However, providing for retirement is one of the key reasons why households have built such savings. If we consider that about a third of these assets are earmarked towards retirement, the assets represent some €10tn aimed at providing long-term financial security to European households.
European households have long preferred risk-free investments, leaving their assets massively invested in capital-guaranteed life insurance policies, current/deposit accounts or bank-issued bonds, depending on the country.
The window opens for providers to bring structural changes to Europe
In principle, such investments contradict financial theory, and ‘best practice’ would steer long-term savings toward a higher level of risk, in the belief that over the long term, the volatility of such investments is smoothed out and longer returns remain.
But the gradual reduction in yields that we have witnessed over the past forty years across Europe has turned this conventional wisdom on its head: investments in long-duration bonds and real estate underlying capital-guaranteed products generated high returns over the period, comfortably higher than inflation.
Now rates have nowhere to go but up and inflation is returning, the situation is very different, and households can no longer expect to get such a ‘free lunch’. Europeans realise this and are asking their financial advisors for new solutions to this new situation.
It is now up to providers to develop the solutions and the tools that will support European households into a financially secure retirement. It is already important for middle-age households holding assets today, and vital for the younger generation starting its professional life now.
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