Linking pension reform and financial market development the

Linking pension reform and financial market development: the LA experience Augusto Iglesias P. Prim. America Consultores Bled, Slovenia. June 9, 2007.

Pension reform in LA Source: FIAP, Prim. América Consultores

Pension funds in capital markets

Pension funds portfolio composition in LA (2006) n. d: not available n. a: not authorized

Pension funds portfolio diversification rules (Limits by asset class. % Pension Funds)

Some well known facts • The accumulation of pension funds can facilitate the development of capital markets • Efficient capital markets are a condition for better results of pension fund management • Then, there could be a positive “dynamic interaction” (D. Vittas) between pension funds and capital markets development • To capture the potential benefits from this interaction: ü Pension fund investment regulation must be carefully designed ü Eventually, capital markets regulations will need to be improved

Lessons from LA experiences • What have been the main challenges in designing and implementing pension fund investments regulations? : ü Portfolio diversification rules: stocks; foreign investments; mandatory investments in certain asset classes (particularly government bonds) ü Insulation of pension funds investments decisions (and portfolio diversification rules) from political interference ü Development of good corporate governance standards for pension funds ü Design of pension funds assets valuation rules ü Opening of portfolio choices to pension fund members ü Timing of changes towards less restrictive investment limits regulation

Lessons from LA experiences • From the perspective of pension funds, what have been the main weaknesses in (local) capital markets? : ü Lack of efficient trading and settlement arrangements ü Lack of coordination in the pace of capital markets reforms with that of pension fund reform ü Insufficient supply of different asset classes ü Interest rates controls ü Price controls over intermediation rates ü Inefficient tax rules ü High concentration (including state own monopolies) in the financial industry ü Legal restrictions for the development of indexed assets market (and inflation) ü Restrictions to international flows of capital ü Weak banking sectors ü Low corporate governance standards ü Lack of reliable and timely information

Final comments • Because of imperfect pension fund investment rules and lack of coordination between pension reform and capital markets reform, the impact of pension funds on capital markets development in most LA countries has been limited (the most significative exceptions are Chile and Perú) • Capital market development is a necessary condition for pension reform success, but pension reform can go ahead even if the capital market is not well developed • However, capital market should be prepared to respond to demands coming from pension funds: ü Remove all regulatory obstacles that may hamper capital market development (these obstacles may be found in financial market regulations, tax regulations and pension funds regulations themselves) ü Coordination of pension reform and capital markets reform is crucial

Many thanks Augusto Iglesias P. June 9, 2007