The rationale and performance of personal pension plans in Chile

Abstract

Many developing countries, especially in Latin America and Eastern Europe, have unfunded pay-as-you-go public pension systems that face growing financial pressures. These emanate from a weak link between contributions and benefits, from widespread evasion, and from an aging population. Chile successfully reformed its public pension system in 1981 when it introduced a government mandated and regulated, but privately managed system. Based on individual capitalization accounts operated by specialized financial institutions, known as, Administradoras de Fondos de Pensiones (AFPs), the system has provided a considerable scope for competition and efficiency within a well-regulated environment. The authors analyze the rationale of the Chilean pension system and examine in detail the rules and provisions regarding coverage, contribution rates, pension benefits, and investment regulations. They also provide a detailed assessment of the structure and performance of the system, its impact on financial sector development, and the role of regulation and supervision. The Chilean experience shows that there is a positive dynamic interaction between pension funds and securities markets so long as a strong regulatory and supervisory mechanism is in place. It has also shown that it is feasible to finance the costs of transition from an unfunded to a funded system.

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