Swedish pension system

AP4 constitutes part of the Swedish income pension system. The Fund's brief is to support the stability of the national pension system by managing Fund capital with the aim of generating the best possible return over time.

Together with AP1, AP2 and AP3, AP4 has two important roles in the national pension system. The four Funds work partly as a buffer, with the purpose of covering future pension disbursements, and their returns partly contribute to the long-term financing of the pension system. AP6 is also a buffer fund, but is not part of the regular flows of the pension system.

The national pension system

The national pension system consists of the income pension and the premium pension. The income and premium pensions are completely independent of the national budget, and financing is linked to the contributions paid in by employers each month as part of the pension income of employees.

There is a safety net for people who are entitled to a pension but who do not have sufficient income - the guarantee pension. This is financed through the national budget and is independent of the income and premium pension system.

In addition to this are occupational pensions or contractual pensions, arranged for employees by employers, often through a collective agreement, as well as voluntary pensions, which are pension schemes entered on a voluntary basis.

The income pension is a distribution system in which pension contributions paid in by the gainfully employed during the year are used to pay out pensions to pensioners the same year. The premium pension is the part of the national pension that individuals can themselves influence through investment choices. Each month, employers pay in 18.5% of the pensionable income of employees to income pension (16 percentage points) and to premium pension (2.5 percentage points). The size of the income pension depends on the income of the individual throughout their entire working life, in other words how many pension rights have been accumulated during gainful employment. The size of the premium pension depends on the performance of the securities funds containing the invested capital until the individual retires.

Because the income pension is constructed as a distribution system, this means that assets must be as large as liabilities. In other words, the funds that are to suffice for pensions to be disbursed must be as large as the pensions to which pensioners are entitled. This must be ensured in order for the income pension system to work in a stable manner over several generations.

AP4's role in the income pension system

Assets in the income pension system consist of two parts. In simple terms, close to nine tenths consist of what is known as the contribution value, which is the value of future contributions to the income pension system; in other words, the funds that are to account for pension disbursements. The contribution value is affected mainly by salaries, the rate of employment in the economy and retirement age. The remaining portion of just over one tenth consists of the AP Funds' assets including AP6, and comprises the buffer that is to ensure that the income pension system is in balance across the generations. The total assets of an individual AP Fund of around SEK 200 million thus constitute around 2.5% of all assets in the pension system.

Income pension disbursements are increased annually, taking the average wage trend into consideration. For maximum indexing of the pensions, the income pension system must be in balance. In other words, the assets must be as large as, or larger than, the liabilities. The value contribution and the AP Funds' assets should therefore always correspond to the pension liability created.

The income pension system therefore has a built-in mechanism to ensure the financial stability of the system. The mechanism is called automatic balancing (or "the brake") and is to prevent disbursements in the system being higher than what it can cope with in the long term. This is achieved by slowing down indexing of the value of the pensions, with this process continuing until the system regains balance. This means that the income pension system is self-financing and that the Government therefore does not need to increase pension contributions or borrow money to disburse pensions.

The AP Funds and "the brake"

Automatic balancing has come close to being triggered on two occasions in the 2000s, in 2004 and 2007. This was avoided because the AP Funds' capital has grown, thus balancing the system.

After 2008, automatic balancing was activated for the first time, which had the effect of pensions not being increased to the maximum during 2010. Also in the following year, 2009, the balance ratio was still below one, which meant that balancing was also activated in 2011.

Buffer necessary

There is currently a net outflow from the AP Funds to pensioners. Since 2009, disbursements to current pensioners have been larger than contributions to the pension system from current wage earners.

According to forecasts by the Swedish Pensions Agency, disbursements to pensioners will be higher than contributions until the mid-2040s. One important reason for this is that the post-war generation born in the 1940s is now approaching retirement age. When these "boomers" leave gainful employment, they will stop paying income pension contributions and start drawing their pensions instead.

A stable pension system

The composition of the Swedish pension system was one of the first of its kind when it emerged at the end of the 1990s, and is, from a financial point of view, deemed stable. As the challenge of a growing ageing population is similar in all parts of the world, many countries have taken an interest in the Swedish income pension system and the brief of the AP Funds.