Regulation Seen as Crucial to Pension Development in China

Even insurers with well-developed business portfolios find it is difficult to tap into the pensions market in Asian emerging economies, especially China, before further deregulation is achieved, according to insurance consultants.

Unlike commercial life insurance, pensions are a specialized and complex market tightly related to a country's government policies and its citizens' means of earning a living.

Pension systems in the Asia/Pacific region can be broadly classified into two groups. Australia, Japan and Singapore run well-established, comprehensive and mature systems, while Asian emerging markets including China and India are "either in the process of establishing formal pension systems or have done so only in the recent past," according to an Allianz SE demographic report.

In China, the pension and enterprise annuity market is expected to be the next growth engine of the country's insurance industry, following the life insurance market's evolution over the past decade, mainly due to domestic economic growth and a huge total population.

China has more than 1.3 billion people, and the overall population is aging rapidly. Projections shows that by 2040, 28% of the population will be age 60 or older, according to Swiss Re. One industry consultant found that the current pension market growth in the country has not lived up to expectations in the past.

"China's pension assets today only make up a single-digit of total gross domestic product, while in South Korea and Japan, total pension assets are 33% and 50% of GDP, respectively. Whether this market will grow by leaps and bounds remains to be seen," said Hong Kong-based Sharon Khor, head of insurance in Greater China at consultancy Accenture.

Global management consultant McKinsey said in a report that developing long-term savings and protection products can help address the concerns that Chinese consumers have about covering medical expenses or saving for retirement, freeing up personal savings for consumption.

Demographics

With China's family planning and the one-child policy beginning in the late 1970s, market experts said that many households are now experiencing the "2-4-8" family nucleus (which refers to couples plus their parents and grandparents) over the next decade.

"It is vastly more important for the current generation of working adults to plan for retirement than it was for their parents or grandparents. This is fuelled by the dismantling of the cradle-to-grave system that followed from the past 30 years of economic reform in China," said CheeKok Poh, Swiss Re's director of life and health client markets in China.

Poh noted "saving for retirement and the fact that people are living longer" are two emerging risks. The Chinese government has encouraged people to save for their retirement through special schemes.

For example, there are three pillars in urban areas in China, namely the statutory social pension, the voluntary enterprise annuity and voluntary private pension insurance, according to the reinsurer.

With people living longer, questions about whether the amount saved is adequate for a person after retirement becomes a market concern, said Poh. "Currently, most retirement savings are taken in the form of a lump sum amount, but few people use that money to purchase an annuity that provides lifetime income payments," he said.

This means that "many retirees are exposed to the financial strain of longevity, and may use up their funds while still alive," said Poh. Insurers, therefore, can focus more on the longevity risks to seek pension and EA opportunities in a market with a "fairly low" penetration rate.

For individual voluntary pension schemes, Khor expects "more annuity product offerings from life insurers to tap into the large individual market." For the EA market, she said the business model is "really going to be quite different" from the current life market in China.

She explained that many of the domestic players, banks, pension insurers, trust companies and asset managers "are definitely keen to get a piece of the action." Managing pension funds requires "a more specialized skill set," which the consultant said is very different from the life business.

"Companies with a proven asset or fund management track record will have the advantage, especially once the market opens up," added Khor.

Government Policies

According to Swiss Re, government policies that either make lifetime income payments compulsory or use incentives such as taxes to encourage pension development are also important to the take-up rate of the market.

Khor emphasized the importance of having a clear tax policy. "For a start, I think having a clear tax policy or incentives nationwide will be a big boost in developing the pension scheme," she said. "[The] government needs to set out very clear and consistent guidelines or steps for each local government to adhere to, until the tax policy issue both for corporations and individuals is resolved."

Creating awareness and encouraging early retirement planning in one's working life should be part of government policy, though commercial insurers have an important role to play in the retirement business in China, noted Poh. "To a large extent, state policies are already geared towards that, but the question is what more can be done."

Shanghai launched a pilot program of tax benefits to encourage pension insurance take-up. Swiss Re said this is an important pilot and expanding such tax benefits to other locations will make a material difference.

"As in many other countries, pension business is mostly linked to employment. Hence the appropriate distribution channels are those appropriate for group business," said Poh.

From an operational point of view, he said pension funds would have long-dated bonds to match long-term liabilities, and insurers will be concerned about any "asset-liability mismatch."

Mark O'Reilly, a partner with Deloitte Consulting LLP in the United States, said the Chinese pension market "needs the government intervention to kick off." He said Hong Kong's Mandatory Provident Fund model is the "most practical" model for effectively implementing the pension system in China.

In 2000, Hong Kong introduced the MPF -- an employment-based retirement protection system comprising three types of schemes -- master trust, employer-sponsored and industry. Employees or self-employed who are age 18 to younger than 65 and normally reside and work in Hong Kong are required to join an MPF scheme.

According to the Hong Kong Mandatory Provident Fund Scheme Authority, the MPF system is a vital part of a three-pillar approach to retirement support in Hong Kong, where 28% of the 7 million residents will be older than 65 by 2039. The other two pillars are a social security safety net and private savings and insurance.

Foreign Players

To date only a handful of joint ventures or foreign players have been approved to participate in the pension market. "So, unfortunately, this is not necessarily a strategy issue, but more of a regulatory restriction," said Khor.

"In my view, foreign insurers may need to consider narrowing their focus in specific areas, show good results to make a mark in the market to gain confidence from consumers as well as regulations," she said.

Poh said current regulation allows pension companies to write EA business, but he is unaware of any foreign players having obtained a license for such business.

Banks and companies such as asset managers are also allowed to participate in EA business, thus increasing the level of competition, noted Poh. Given that most retirement benefits are taken in a lump sum, there is no longevity risk involved, opening up competition on management fees. "Pension companies, therefore, need to find a way to best leverage their expertise to gain market share," he said.

If foreign players want to participate in EA business, "they need to understand what their core values and value proposition are and differentiate themselves by focusing on these," which according to Poh is the best strategy one can adopt.

Swiss Re found many foreign players are facing challenges in the area of talent, in getting enough good staff in the areas of general management and sales management to meet the demand of business growth.

In view of the demographics and the shift of retirement funding from the state to the private sector, Swiss Re expects commercial pension business to grow over the next decade in China. "The growth capacity will largely depend on pressure from the state. It is difficult to provide specific forecasts, but we expect it to be significant in line with the economic growth," said Poh.

"Although my personal view right now is that the pension market is not going to grow by leaps and bounds in the next three to five years, it is really highly dependent on government policies to drive the growth of the market," Khor said. "Given the number of stakeholders involved in the whole pension scheme, sorting out the structure and approach will take time."