How Does the Retirement System Work in Sweden? Not Great!

February 12, 2005
Sweden's Take on Private Pensions
By ALAN COWELL

STOCKHOLM - Every spring Marie-Louise Graveleij, a 62-year-old receptionist in a funeral home, receives a large orange envelope through the mail. Now, it is about to become her lifeline, offering her an alternative to a full-time job.

Soon, she said, she will end her current work contract and decide whether she can afford to retire. The orange envelope she expects to receive within the next few weeks will contain a statement of her rights under a five-year-old restructuring of this country's still-generous state pension program that - like the changes President Bush wants to introduce in Social Security - includes a personal investment account.

The question is, will she be able to get by on what the envelope offers or not?

As in other lands where private accounts have been introduced in various forms, the answer seems ambiguous. For all the uncertainty over such accounts, what may be most surprising to Americans is that Sweden, long known for its cradle-to-grave welfare state, has already embraced a system that partly resembles the White House proposals.

"I felt everything was going to be simple; this is Sweden," Ms. Graveleij said in an interview, musing over her understanding of her pension rights before and after the changes in the system. "I didn't worry about it before. I felt safe. I felt everything would be O.K. Then, the safety net was gone."

Even after poring over the statement of benefits, she said, she was still not sure how much she would receive to help her afford the $450-a-month rent on her 400-square-foot apartment. "Everything has become very complicated," she said.

Her anxiety could eventually be shared by Americans who would lose some of the guaranteed benefits of Social Security if President Bush's plans to introduce privatized accounts became law. But Sweden's struggle with a new approach to pensions is by no means unique.

Its experience, along with those from other countries, highlights some of the benefits involved but also underscores the various risks when a government turns over an important investment decision to people not always comfortable with managing their retirement money.

With the possible exception of Singapore's ambitious and expensive savings programs, the experience of other countries has been mixed. In Britain, in the late 1980's, legislation permitting savers to divert funds from company and state retirement plans into private investments backfired when the value of those investments fell and insurance sales representatives were accused of selling products under false pretenses.

In Chile, the introduction of private investment accounts almost 25 years ago led to accusations that hidden fees reduced benefits by as much as a third.

In Poland, an army of sales agents, hired under a new private savings regime in 1999, defrauded the system by charging commissions on false accounts. Since some of the sales agents were paid a commission for every new account, they simply invented them. Other accounts were in the names of deceased people. To try to avoid such fraud and secret costs Sweden introduced its private pensions system by placing a state-appointed intermediary, the Premium Pensions Authority, between savers and fund managers, much as President Bush is proposing to do. Moreover, Sweden created a state-administered default account, comprising foreign and Swedish equities, for people who did not want to choose their own investments.

But in seeking a highly competitive program, Sweden threw open its private accounts system to a staggering 675 funds (compared with 6 in Chile and 21 in Poland), requiring savers to pick 5 of them or invest in the default fund.

Unlike Mr. Bush's Social Security overhaul proposal, which would carve voluntary private accounts out of existing taxes, the Swedish system imposes a mandatory 2.5 percent saving on top of its basic benefit. In Sweden, 16 percent of wages goes into an overhauled pay-as-you-go system that defines the contributions savers make but no longer guarantees the same benefits as in the past.

But while the system was meant to help people like Ms. Graveleij make her investments, it has left many Swedes confused, with some expressing indifference.

To some here, the government seems to be requiring savers to take on too much risk with too little expertise after decades of having the state take care of most such issues.

"After a working life, the legislative process should provide a proper standard of living," said Busse Ekvall, 65, who took early retirement six years ago. "As far as the private pension is concerned, it's too risky. We want a guarantee so that the money is not exposed to risk," added Mr. Ekvall, who receives about $3,300 a month before taxes, about 72.5 percent of his final salary.

Similarly, Lars Gedda, 66, a retired bank employee, noted that many of his friends did not feel they were qualified to pick 5 funds out of the 675 offered. "You must have a knowledge that the average person does not have," he said.

And for many of those still quite a few years from retirement, it is difficult to come to grips with the contents of the orange envelope.

"Its 2.5 percent, so who cares?" said Hakan Ehn, 39, an airplane engineer who says he expects to be able to retire at 55 by relying on gains from owning his $250,000 four-bedroom home, a private savings plan costing $300 a month and an anticipated inheritance.

Sweden's investment plan has suffered from poor timing, having been introduced in 2000, just before the global stock market boom came to an end.

"Those who chose to put their money in funds have lost their money in some way," said Berit Andnor, the minister of social affairs. "I think that the experience has not been so good."

Of five million current savers, only three million actively choose their investments - mostly people who chose their five funds when the system was introduced and the market looked more promising. After the initial enthusiasm, according to official figures, only 8 percent to 10 percent of new entrants into the system opt to make their own investments.

Many people do not even bother to open their orange envelopes, the authorities say, either because they are too young to regard pensions as relevant or unsure of how the figures inside will translate into benefits. Such is the uncertainty that the government has ordered an inquiry into the private accounts system.

"The government has misled and under-educated the Swedish people in this huge change of responsibility," said Christer Elmehagen, chief executive of AMF, a leading pension fund manager that makes most of its money in Sweden's thriving regular pension business but also sells funds in the new private accounts system.

"In the United States you have a history of taking responsibility," he said. "We are educated in a completely different landscape where the government has been our big brother."

Christina Lindenius, director general of the Premium Pensions Authority, the state body that oversees the private account system, said the reason the proportion of active investors has fallen is that the new entrants into the system are "young people with very little money in the system" who "are not yet thinking about retirement."

Nonetheless, she said, "my belief is that we should go in the direction of fewer funds."

In some ways, the Swedish model offers important lessons for the United States. A proliferation of funds, for instance, evidently creates confusion, while a default fund attracts savers unsure of themselves in the open market, drawing them away from active investment choices that could turn out to be perilous or profitable - or both.

The Premium Pensions Authority in Sweden aggregates trades between funds made by individual savers on a huge computer system and places them each day in bulk with the specific funds that savers have requested. That cuts out individual transaction costs but it also prevents fund managers from knowing their customers. Mr. Bush has proposed something similar for the United States.

Despite these similarities, the Swedish pension overhaul grew out of political and economic circumstances different from those driving change in the United States.

In the early 1990's, said Klas Eklund, the chief economist at SEB Bank, a deep recession, growing unemployment and soaring interest rates "had a traumatic effect on Sweden and we realized that we were not God's chosen people."

In contrast to the ideological rift in the United States, moreover, the overhaul grew out of a binding consensus among the dominant Social Democrats and four other parties accounting, in total, for over 80 percent of the Swedish Parliament. And the changes were introduced at a time of fiscal surpluses to help offset the costs of switching systems.

But there are similarities, too. The old pay-as-you-go system, like the one in the United States, was under strain as increasing numbers of pensioners relied on decreasing numbers of taxpayers for support. Under the previous system, pensioners were guaranteed 65 percent of the average salary of their 15 best-paid years up to salary levels of around $50,000 a year.

Beyond that, more than 90 percent of all Swedish employees belong to occupational pension plans worth 10 percent to 15 percent of their final salary up to $50,000 and a much higher proportion for higher salaries.

By contrast, the new pay-as-you-go component offers retirees even higher pensions if they postpone their retirement, and it includes a complex formula, known as the brake, that automatically reduces pensions if the system goes into deficit.

So while the level of contributions has remained the same, the overall value of benefits will fall as pensioners in coming decades move increasingly onto the new system. That is where the private accounts come in, forecast, ideally, to provide up to 30 percent of Swedish pensions from real savings for those who are entering the system now. At the moment, the private accounts system holds about $20 billion.

But it seems inevitable that the new plan will lead to greater financial disparities in a society that has long valued equality. "It will all depend," said Ellen Nygren, a specialist in the LO labor union federation, "on which fund you invested in and when you retire."



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