MOSCOW - Russia has taken the first steps in restructuring its substantial state pension scheme to fund some of its future liabilities.
In January, the government revamped the pay-as-you-go Pension Fund of Russia with a defined contribution component partly modeled on Sweden's successful Premium Pension Authority arrangements.
The new arrangement channels a portion of employees' state pension contributions into individual accounts.
Assets in the individual accounts - which for those born after 1967 will be funded with contributions representing 2% of salary - could grow to $5 billion in the next five years. Inflows to the individual accounts for 2002 are expected to be around $1.8 billion, according to estimates by local consultants and fund managers.
Later this year, the Russian government is expected to begin its first search for firms to manage this portion of its newly restructured state pension system.
In line with the Swedish system, the Russian government will look for commercial money managers to run the assets of the individual accounts.
But key details such as investment rules and the use of non-Russian money managers are still being debated in Parliament and may only be clarified by June at the earliest.
Benefits a priority
Russia's creaking state pension system is administered by the Pension Fund of Russia, and its assets are held in short-term deposits with the Central Bank. Reform of the system to keep paying benefits, no matter how meager, is a top priority for the government after years of no payments and poor administration, according to Christopher Granville, chief strategist at Russian investment bank United Financial Group, Moscow.
The average monthly benefit is $70 per person, and the state pension fund has a surplus of $1 billion, accumulated with the aid of budget contributions and three years of high oil prices. Currently, 28% of employee salaries are paid into the state pension fund through employer contributions.
Russia's population, like that of many other European countries, is aging and shrinking. The population dropped to 142.65 million from 150 million between 1991 and 2001.
"The pay-as-you-go system is untenable and the Russian government will have to increase collection of tax to pay its pension obligations," said Mr. Granville. He said the current reform would help ease the situation by introducing a funded element to the state pension system.
Until external money managers are appointed, assets of the individual accounts will be held in government securities, he added.
According to Elizabeth Hebert, general director for Pallada Asset Management, Moscow, the latest draft of the law says the government will search for at least five money managers in the first stage of outsourcing management of these accounts.
The draft also proposes that only managers licensed in Russia with at least a three-year presence be eligible to manage the new accounts. Less than 15 managers of the 45 now operating in Russia meet this target, said Ms. Hebert.
But it is unclear whether managers owned by non-Russian companies would be included. Ms. Hebert hopes they will. "This is one of the biggest opportunities for us and is why we have been working here for so long," she said. Pallada was launched in Moscow in 1996, has assets under management of $30 million, and is owned by State Street Global Alliance LLC.
Pallada is not alone.
ING bank (Eurasia) Moscow, last year received a license to manage Russian pension and mutual funds, and just this month acquired the Russian custody operations of Credit Suisse First Boston, Moscow.
Iain Batty, a partner at the London-based law firm CMS Cameron McKenna, which is advising the Russian government, believes foreign managers will be allowed to pitch for new business, but probably will be required to have a physical presence in Russia.
It also is unclear what the new investment rules will be and whether the new accounts will be allowed to invest outside of Russia.
The draft law allows up to 20% of assets to be invested outside Russia. Reform-minded groups are keen to embrace diversification and allow investing in non-domestic equities and bonds, said Ms. Hebert. But some political groups are keen to restrict investments to Russia only.
David Callund, chairman of Callund Consulting Ltd., Maidenhead, England, expects the investment rules to be quite quantitative, with restrictions placed on foreign investing. But he warned the final version of the law might differ markedly from the current proposals.
Mr. Batty also expects quantitative investment rules: "That is still the general standard in the region where it is felt that there should be instructions to fund managers as to where they should invest."
Similar to the Swedish system, the Pension Fund of Russia will administer contributions to individual accounts and will channel funds to money managers when account holders stipulate which money manager may manage their assets.
It is expected account holders will be able to choose their investments from a range offered by the approved money managers.
Managers will not know who their individual clients are and, unlike the Polish system, initial marketing to potential clients will be direct rather than through brokers paid on commission, according to Mr. Batty.
After 2004, investors will be allowed to have their individual accounts managed outside the state system by approved managers. It is not clear yet when the tender process to select the managers will start.
Russian President Vladimir Putin strongly has backed moves to reform pensions, and the government hopes the reform of state pensions and plans to encourage greater use of company pension plans will improve corporate reporting and transparency, said Mr. Granville.
There has been little transparency in corporate accounts, and a large number of Russian companies have understated payrolls to reduce their tax bills. Companies are likely to begin declaring their full payroll to take advantage of the tax benefits of pension contributions to both the state and corporate pension plans, he said.
$1.5 billion invested
According to year-old statistics from the Russian government, around $1.5 billion is invested in company-sponsored pension funds, which are largely sponsored by the country's biggest companies such as OAO Gazprom and OAO Lukoil, both of Moscow.
Assets in these plans could grow by 50% a year over the next five years if more generous tax breaks on contributions are approved, said Ms. Hebert.