At that time, it was estimated that, at maturity, the funds would amount to 1½ times GDP. They came close to that just before the financial crisis, but this was not “real”, as I will come to later. It is noteworthy that the funds do not obey simple classifications. Some of the funds have an employment guarantee and would be characterised as defined-benefit funds, where the employer bears the investment risk, but in Iceland only the government, municipalities and banks can guarantee pension funds. But the rest are not pure defined contribution funds. The investment risk is borne collectively by the members, and there is some scope for smoothing changes in benefits and for some risk-sharing among generations. This can matter when you have a once-in-a-lifetime shock to returns, as we experienced during the international financial crisis. The third pillar of the pension system entered the stage rather late here in Iceland. It was only in 1998 that legislation on tax incentives for voluntary private pension saving was adopted, but these incentives were subsequently increased. Voluntary private pensions saving then increased by leaps and bounds, reaching 10% of GDP in 2002 and 15% of GDP in 2007. This saving has proven to be an important cushion during the current crisis, as early repayment was temporarily allowed. So far, these early repayments have amounted to 2½% of GDP. This is akin to a fiscal stimulus and has supported private consumption this year and last.
I remember that the last thing I did in this respect, before I went to the Bank for International Settlements in Basel to focus on other things, was to try to sell the system to a Russian audience that was considering pension reform in their own country. 2 On what was this view based? In order to answer that, I must first remind us of the attributes of a good pension system. Of course it is obvious that it must be a mechanism for saving for retirement. But in order to be an efficient such mechanism, it must take due account of the lifetime risks facing individuals, as well as the economic and financial risks facing society as a whole. These are, for instance, risks related to life expectancy, ability to work, demographics, the productivity of labour, and the rate of return on financial assets. Furthermore, some at least would make the demand that the system have a certain degree of income equalisation built into it, and most would accept that it should at least not be regressive. Then we would want the pension system to have some degree of flexibility and to provide scope for individual choice. Finally, we want the pension system to be designed so as to promote economic performance; that is, saving, growth, and financial sector development. This is a tall order, of course, and in practice there are bound to be trade-offs between these goals.