It sounded like a liberation when the cabinet under Chancellor Friedrich Merz (CDU). Draft pension reform presented to revitalize private provision in Germany. The clearly formulated goal is to turn away from expensive, low-yield guarantees of the old Riester world and instead to establish a new, return-oriented retirement provision portfolio that will also promote investments in stocks and ETFs in the future. However, a public hearing in the Bundestag’s finance committee on Monday revealed deep cracks in the concept.

At the center of the criticism is the planned standard product, which is intended to serve as a depot for the general public. In order to make these products suitable for the masses, the draft law imposes a cap of 1.5 percent on the effective costs.

This means that financial institutions are allowed to withhold a maximum of 1.5 percent of the assets saved as a fee each year for administration purposes – an immense sum when extrapolated. What sounds like a manageable fee turns out to be a massive return killer over decades of life.

The renowned Prof. Dr. Ulrike Malmendier, who teaches at the University of California in Berkeley and advised the Council of Experts on the assessment of overall economic development until the beginning of March, found drastic words in the hearing. She called the cost cap of 1.5 percent absolutely unacceptable.

“Especially households with a lack of education will not be reached due to the lack of automation; but it is precisely these households who have a provision gap and do not participate in the capital market,” said the economist. “It must be made much easier for these households to pay into the standard depository.”

In the Bundestag’s summary, their classification is described as “downright embarrassing” in international comparison, while their written statement in this context spoke of “downright shameful” because: “A wide range of standard products are available for a tenth of the cost.”

Expensive fees eat into revenue

The Federal Association of Consumer Organizations (vzbv) clearly calculated how painful these fees are: Assuming a monthly deposit of 130 euros over 40 years and a high share quota of 90 percent, a private standard portfolio with a 1.5 percent cost structure would result in an increase in assets of almost 79,800 euros.

However, a state-organized or public standard product with costs of 0.2 percent would generate around 179,800 euros under the same conditions. In the model case, the planned cost cap costs pension savers a good 100,000 euros in potential returns.

The Baden-Württemberg consumer advice center warned that with a cost rate of 1.5 percent, only 53 percent of the real capital market returns actually reach people.

The focus is often on Sweden, where people end up in the state AP7 Såfa fund without making an active decision. This shows a management fee of just 0.05 percent for savers up to 55 years of age.

The federal government continues to rely on private sector sales. The German banking industry argues that competition will push prices down anyway, which is why the cost cap should be removed anyway. However, the Federal Ministry of Finance also defends the 1.5 percent limit with the argument that such a wide range of providers, including advice-intensive models, can remain in the market.

The term standardization is therefore misleading because it does not describe a uniform, easily comparable mass product. Rather, it is a legal framework within which banks and insurers can continue to offer countless and sometimes confusing fund combinations.

The losers are left out

The problem with the reform lies not only with the people who pay into a retirement savings account, but above all with those who do not. According to the Organization for Economic Cooperation and Development (OECD), the future net replacement rate of the mandatory German pension for average earners is a meager 53.3 percent, while the OECD average is 63.2 percent.

For many people, additional private provision is absolutely necessary in order to avoid poverty in old age. Nevertheless, according to a working paper from the Council of Experts, 38 percent of employees subject to social insurance contributions have neither a Riester contract nor a company pension.

It is precisely this provision gap that the draft law does not close from a behavioral economics perspective. Professor Malmendier complains that the model falls far short of its potential to improve the population’s investment behavior in their own interest.

Without automatic inclusion in a retirement savings account, the construct remains an offer to those who already have financial education and take action on their own.

In addition, annoying access gaps remain. According to the current interpretation, many self-employed people who are not subject to pension insurance are not directly eligible for funding. Interestingly, the banking industry and the BVI fund association also sharply criticized this fact at the hearing.

Subsidy reform without system reform

In the future, there will be more generous allowances in the form of a basic allowance of 30 cents for every euro saved up to 1,200 euros, which is set to increase to 35 cents from 2029. However, more government subsidies do not solve the structural problem if high product costs directly eat up the returns in the retirement portfolio and the actual target group does not participate in the market.

The government has accurately analyzed the failure of the Riester pension in justifying its draft due to complexity, excessive costs and a lack of transparency. The fact that a concept is now being debated that is torn apart by experts on exactly these points shows the difficulty of breaking old habits.

After massive criticism from science and the Federal Council, the government has signaled that it wants to re-examine the cost cap and the funding group in the ongoing legislative process.

Sources: German Bundestag; O’Donnell Center for Behavioral Economics; Federal Association of Consumer Organizations; The German banking industry; Organization for Economic Co-operation and Development