Guideline 5. Projection model

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The projection model is built on actuarially sound principles. It is capable of assessing the material provisions of the social security scheme, projecting its cash flows over the relevant projection period, and evaluating the chosen sustainability and adequacy measures, if appropriate.

Guideline code

ACT_00600

Mechanism

In making the decision whether a projection model should be based on deterministic or stochastic methods, an actuary should assess the advantages and disadvantages of both methodologies. Social security systems are often complex arrangements that are very difficult to model using fully stochastic methods. However, it may be worth considering incorporating stochastic elements in the projection model as needed (e.g. in case it is necessary to measure distributional effects of benefits). In some cases several complementary models could be used.
In deciding whether the projection model should be developed internally, the social security institution should assess the number of schemes for which the institution is responsible, the current and future availability of technical expertise, human resources and technological resources within the institutions needed to develop and maintain the projection model.
Actuaries should develop detailed model requirements that will assist the social security institution in making decisions with respect to the choice of the model.
Model requirements include, but are not limited to the following:

The ability of the model to handle a sufficient number of transitional probabilities that are related to contingencies relevant to the social security scheme (e.g. mortality, disability, morbidity, etc.);
Specific requirements with respect to projections of all elements of the social security scheme revenues and expenditures;
Requirements with respect to the length of projection period;
The ability of the model to perform projections that consider new entrants to the social security system (open group projections);
The ability of the model to perform projections based on large groups such as the country’s population.

Where the social institution is responsible for using the model, the institution should provide appropriate training with respect to the projection model to ensure that the proper technical expertise is maintained within the institution.
In the case of the building and use of an internal model, this training should cover both design and operation of the model and the peer review of the results arising.
In the case of the use of an external model where the valuation is performed within the social security institution, since the design is usually the full responsibility of the outside provider the social security institution’s actuaries should take all necessary measures to ensure that they have a sufficient understanding of the model including methodology used and assumptions underlying its operation. Training should be provided in respect of the operation of the model and the peer review of the results arising.
When changing the model (for example moving from an external to an internal model) the actuary should reproduce with the new model the results produced with the old model and explain any significant differences.

Parent

A. Valuation of Social Security Schemes

Structure

Principles

The social security institution in consultation with the actuary should determine whether a deterministic, stochastic or hybrid (deterministic with some stochastic elements) projection model should be used to conduct the valuation of the social security scheme. In addition, it should be determined whether the model should be a macro factor-based model, a microsimulation model based on transition probabilities or a hybrid of these two. More than one model can be used.
The social security institution should determine whether an internally or externally developed projection model should be used. Such assessment should be undertaken at regular intervals and the result of the assessment should be documented.
In case of the use of an internal model, actuaries should be involved in development, validation and maintenance of the projection model. The social security institution should provide appropriate resources to actuaries within the institution for developing a model internally.
In case of the use of an external model which will be run by the social security institution staff, the selection process should be competitive and transparent. The model should be assessed for its appropriateness, as well as availability of training, documentation and ongoing technical support. Actuaries should be actively involved in the process. The social security institution should ensure that there is a full understanding of the model including the methodology used and the responsiveness of the model to different assumptions.
Where an external resource is undertaking the valuation using an external model, the social security institution should ensure that the model used is appropriate and that the external actuarial resource using the model to undertake the valuation does so appropriately. This includes the existence of proper peer review processes within the external actuarial resource (see Guideline 48) carrying out the valuation.
The social security institution and the actuary should establish proper model governance procedures. In particular, the projection model should be transparent and well documented.
In developing model governance procedures the actuary should comply with relevant national or international standards, including IAA ISAP 1A: “Governance of Models”.
The social security institution should allocate human and budget resources to maintain the model, and to provide ongoing training and technical support.

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