A Discussion of a Risk-Sharing Pension Plan

I show that risk-sharing pension plans can reduce some of the shortcomings of defined benefit and defined contributions plans. The risk-sharing pension plan presented aims to improve the stability of benefits paid to generations of members, while allowing them to enjoy the expected advantages of a risky investment strategy. The plan does this by adjusting the investment strategy and benefits in response to a changing funding level, motivated by the with-profits contract proposed by Goecke (2013). He suggests a mean-reverting log reserve (or funding) ratio, where mean reversion occurs through adjustments to the investment strategy and declared bonuses. To measure the robustness of the plan to human factors, I introduce a measurement of disappointment, where disappointment is high when there are many consecutive years over which benefit payments are declining. Another measure introduced is devastation, where devastation occurs when benefit payments are zero. The motivation is that members of a pension plan who are easily disappointed or likely to get no benefit, are more likely to exit the plan. I find that the risk-sharing plan offers more disappointment than a defined contribution plan, but it eliminates the devastation possible in a plan that tries to accumulate contributions at a steadily increasing rate. The proposed risk-sharing plan can give a narrower range of benefits than in a defined contribution plan. Thus it can offer a stable benefit to members without the risk of running out of money.