Már Guðmundsson: The Icelandic pension system and the financial crisis Speech by Mr Már Guðmundsson, Governor of the Central Bank of Iceland, at the opening dinner of the European Pension Convention 2010, Reykjavík, 2 May 2010. *  *  *  Chairman, ladies and gentlemen, It gives me great pleasure to address you here tonight, and I would like to thank the organisers for inviting me to do so. This is due not least to my past interest in and work on the Icelandic pension system and, more generally, my interest in the optimal design of pension systems. During my tenure as Chief Economist of the Central Bank of Iceland from 1994–2004, I was convinced that the pension system that had developed in Iceland, partly by historical accident, was one of the strengths of Iceland’s economy. This conviction had taken root earlier, when I was involved with pension reform and served for a while as the chairman of the board of a pension fund that has long been among the top ten in Iceland in terms of size. However, this view was reinforced around the turn of the century, when I made an in-depth study of the Icelandic pension system and tried to analyse its effects on the economy and the financial sector. 1 I subsequently tried to propagate the virtues of the system abroad.
The conditions for opening up that access are rapidly being created in the wake of the Second Review of the IMF programme, as is witnessed by the development of the credit default swap spread of the Icelandic sovereign and the fact that the rating outlook has improved. But what about the pension funds? They were hit very badly, of course, as their equity stakes in the fallen banks became worthless overnight, the value of bank bonds collapsed, and asset prices of all kinds tumbled. The result was that the real rate of return on the funds was negative to the tune of 22% in 2008, and their assets as a share of GDP fell from 134% in 2007 to 119% last year. But let us remember that part of this is a correction. The asset values of the boom and the associated rates of return on pension funds, as well as banks, had a significant element of froth. To some extent, they were never real. 4  BIS Review 63/2010  We always knew that this kind of shock was the major risk facing fully funded pension systems. But the system is still here. It took a hit, but it withstood the shock. So my basic belief in the strengths of the Icelandic pension system and similar systems around the world is still intact. But that is provided that we learn the lessons of the financial crisis and make it a once-in-a-lifetime event. We need to learn the lessons on incentives and risk management.