In the world of private sector pensions, how often have you heard that defined benefit (DB) plans are different from defined contribution (DC) plans? How often is the difference explained by risk acceptance: in a DB scheme the employer bears the risk (of investment losses, mortality improvements etc) and in a DC scheme the employee bears the risk?

In fact, Enron in the US, Maxwell in the UK and Ansett in Australia show that even in DB plans, the employees bear the extreme event risk. If the money is not there, the money is not there and the rules of the pension plan do not change that.

All pension plans, DB and DC, operate in the same fundamental way: money in, plus investment returns, less expenses and taxes, pays the benefits. In an on-going business that remains solvent, the employees all receive their benefit as prescribed by the rules. But, if less money is put in, less money will come out at the other end. The shift from DB to DC plans underway around the world has coincided with a reduction in the amount of money contributed to plans (refer “The trouble with pensions”, The Economist, 12 June 2008). This will reduce the benefits and possibly impoverish the retirees.

This is the real difference between DB and DC plans.

Since the average employee is not well equipped to see the impending problem, what should the actuarial profession be doing to help?