The next ten years of the defined contribution system are set to be more interesting than the last ten

A newly-released report from the Thinking Ahead Institute paints a picture of the changing face of defined contribution (DC) around the world.

The global DC system is a $20trillion+ system. It takes a lot of momentum to change something that big, and the pace of change in DC has been correspondingly slow over the past few years. We’re likely to see things move more quickly in future, though.

Momentum for change has built in the past decade, largely around the transformation of the system from an accumulation-focused mindset (which we’ve labelled version 1.0) to one that is built around the provision of post-retirement income (version 2.0). That this transformation was happening has been clear for a long time. But it’s only in the past year or so that retirement income has really moved to the top of the industry’s agenda.

The pace of change is likely to accelerate. As DC has become the primary source of retirement provision for more and more workers, the effectiveness of the system has come increasingly under scrutiny. It’s not just that the system needs to move beyond its role as a tax-effective savings vehicle, it also needs to become more customized to individuals’ circumstances, more cost-effective, better governed and more tech-savvy. Even though version 2.0 is still being rolled out, version 3.0 is taking shape.

The new report is based on a survey and interviews with ten leading organizations, from four different continents, each chosen because they represent a leading-edge perspective in some aspect of DC.

Although it is possible for a pension system to be built according to a master design, that’s not how the world’s biggest DC systems – those of the US, Australia and the UK – emerged in practice. Instead, each of these emerged to some extent as the product of evolutionary happenstance. Consider, for example, the most common DC arrangement in the world: the 401(k) plan. The name refers to a section of the US tax code that was not even originally meant to be about retirement at all, but rather about the deferral of bonuses. The current legislative framework, governing trillions of dollars, has in effect been retrofitted onto that unintended beginning.

So today’s focus on retirement income is simply one aspect of the reinvention of defined contribution. The shift that is underway has fundamental implications for all the players in the system: individuals, employers, plans, regulators and providers. The report explores these implications in several areas: what it means for the role of the organisation and the evolving industry structure; best practice governance; new rules of member engagement; the place of sustainability.

Of particular interest is the global emergence of multiple employer platforms. Australia led the way here, and today few Australian employers sponsor their own pension arrangement. Master trusts are growing in the UK, and open MEPs (multiple employer plans) show signs of establishing a foothold in the US. Unlike single-employer plans, platforms have an incentive to compete and to innovate.

DC is now the world’s dominant form of pension provision and momentum for change has been building for some time. Change doesn’t happen overnight, but as Bill Gates wrote: “We always overestimate the change that will occur in the next two years and underestimate the change that will occur in the next ten.” That’s likely to be true for the defined contribution system.