Reforming Pension Funds in Sri Lanka: International Diversification and the Employees' Provident Fund

Abstract

The Employees' Provident Fund (EPF) of Sri Lanka is a defined-contribution pension fund whose pooled asset holdings consist mainly of local government bonds. Regulations prohibit international diversification, and this paper aims to quantify the extent of the potential harms, if any, caused by this constraint. To improve the robustness of the findings, we use two distinct methodologies. These include traditional mean-variance analysis from modern portfolio theory, and Monte Carlo simulations that estimate the distribution of wealth accumulated at retirement from the contributions of a hypothetical worker. Both methods produce qualitatively and quantitatively similar results: workers with risk aversion varying from aggressive to conservative will be better served by allowing international diversification. The results are particularly persuasive for the second approach. The EPF fund managers will likely behave fairly conservatively toward risk, which suggests that around half of the fund assets should be invested abroad.

Financial and Pension Literacy and Retirement Preparedness in Sri Lanka: Evidence from Employee Provident Fund Contributors

“…The EPF operates with employees contributing 8 percent after-tax and employers matching the contribution with 12 percent (alternatively, this could be 10% by the employee and 15% by the employer, whichever the company policy is). Notably, the EPF is the largest single-managed fund in Sri Lanka, managed by the Central bank, which is also entrusted with managing the government debt (Kumara & Pfau, 2012). Therefore, the Central bank invests over 90% of the funds in Government Treasury Bills and Bonds, earning a lower return than the market (Gamaniratne, 2007;Kumara & Pfau, 2012).…”

“…Notably, the EPF is the largest single-managed fund in Sri Lanka, managed by the Central bank, which is also entrusted with managing the government debt (Kumara & Pfau, 2012). Therefore, the Central bank invests over 90% of the funds in Government Treasury Bills and Bonds, earning a lower return than the market (Gamaniratne, 2007;Kumara & Pfau, 2012). Furthermore, this investment strategy puts EPF contributors at risk of facing old-age poverty due to a lack of retirement preparedness (De Mel, 2000).…”

Investment of Pension Funds in Different Streams: Evidence from Low vs. High Growth Oriented OECD Countries

“…Thus, the pension firms utilize their funds in corporate equities, real estate, government bonds, corporate debt (loans or bonds), securitized loans, money market instruments, foreign holdings instruments, and deposits in form of liquidity (Kumara, & Pfau, 2012). The perspective of pension funds cannot be ignored when viewing the OECD economies (Marcinkiewicz, & Chybalski, 2019).…”