Pensions, economics: Falling despite our heavy artillery

By Gandy Gandidzanwa and Itai Mukadira | Apr. 21, 2023

Recently commissioned Madokero mall built with Nssa funds.

MUCH discussion of pensions gets bogged down in arguments over what kinds of financial portfolios are safest or grow fastest, whether pension funds and their boards’ promise can be relied on, and to what extent inflation will continue to erode members’ retirement savings.

With the industry technocrats, and members alike, seemingly forever preoccupied with this, intellectual strife heightens, takes centre stage, and the economic powering force of pensions gets lost in the debates.

Granted, the primary objective of pensions is financial security in old age. And, no doubt, a spirited focus on the health of the pension system is extremely important to all those who rely on it for their retirement income.

This is even more so for most of the members for whom it is the only source of retirement income. Accordingly, pensions policy should be mostly focused on that.

However, pension funds policy should have too, as its secondary goals, economic development broadly, and economic growth specifically. A related objective is financial markets efficiency.

An efficient financial system is one that helps to allocate scarce economic resources to the most productive uses, in the most effective way. An efficient financial system reduces the misallocation or waste of economic resources.

This is important because, by making our financial system as efficient as possible, we maximise our chances of generating sustained economic growth and prosperity.

In most economies, pension funds have, over time, become the largest single institutional investor class and, inevitably, an anchor element in the national economics equations.

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Savings aggregation

In the context of the economic environment we find ourselves in, we need to think more about how our pensions system can contribute to, and propel, economic efficiency.

There is a need for long-term investment in critical infrastructural projects to support our production capacity. With the right combination of appropriate investments regulatory framework and incentives, the large pool of pension fund assets can be channeled to sectors of the economy where they can deliver the most impact.

Our policy system should be driven by the twin objectives of not only growing this pool of capital to maximise returns, but also to maximise the growth of our economy’s production capacity.

Pension funds, as aggregators of individual retirement savings, can be very effective at generating economic efficiencies. By transferring some risks from individuals to collectives, pension funds can help the economy achieve a more efficient allocation of savings.

The very large pension funds tend to also have large and sophisticated asset managers. Such funds have the incentive and the ability to invest pools of contributions across appropriately varied asset classes.

Furthermore, because pension funds invest over very long time horizons, they can provide the much-needed finance for the large investment projects – some of which have remained works-in-progress for years now, if not decades.

In so doing, they would also be rightly contributing to economic efficiency by transferring risk to those investors that are prepared for it and are able to bear it.

Pension expenditures are especially vital for our rural communities too where other steady sources of income are not readily found. Other than income from peasantry farming, monthly pensions, meagre as they might be, are what keeps most of our rural economies grinding.

No crowding out effect

Various research findings have asserted the power of pension fund assets for accelerating economic growth. Accumulation of pension fund assets has been confirmed to have a positive and significant impact on private savings. The effect is considered eight times larger for developing countries like ours than it is for developed countries. We thus have at our disposal a weapon that, if used well, can get us across mountains economically.

Those studies have also shown that countries in which pension funds are more prevalent are the ones that tend to have higher savings rates.

Since savings rate is important for the overall capital formation in an economy, hence, when pension funds increase the savings rate, they lead to an overall improvement in the economy.

The amount, which is invested in pension funds is locked in for decades. Consequently, pension funds can afford to undertake investments that will yield better in the long term irrespective of the short-term pressures. Projects related to renewable energy, water reticulation, power generation, waste management, highway construction, and many others of a similar nature, follow cash flow patterns that favour only long term investors.

Since pension funds can afford to fund these sectors, they not only increase the savings rate but also invest in the desirable sectors of society. The argument that growth in pension assets crowds out other forms of saving has not been proved, either in theory or empirically. This is especially more so in our situation where the savings level is so low that there is very little real reference anyway that can be made to the crowding out effect. Where we could even do better, taking advantage of our very low savings base, is in making pensions mandatory. For most people, this would be the only saving they would have with no crowding out of any prior savings at all. Furthermore, where the institutional investors actively participate in the corporate governance in their investee companies, their presence reduces the cost of capital for firms and also positively influences the stock market capitalisation.

The size and sophistication of some of our pension funds should naturally lead them to be more actively advocating for good corporate governance – thus contributing to market discipline and supporting overall market efficiency and economic growth.

One hopes we will start to see more of this as boards of trustees start to adopt the requirements of the recent regulatory framework on risk management and corporate governance. We know individuals, investing on their own and for their own accounts, tend to be risk-averse in terms of the assets they would hold. If left completely to themselves, individuals would prefer investing mostly in secure and risk-free investments like cash, cash-equivalents, and money market instruments.

Of course, we now know, with the two bouts of hyperinflation we have experienced in the recent past, that cash is not entirely risk free from a real terms’ perspective.

Despite all of that, natural human behaviour is that, individuals, even when saving for retirement purposes still tend to invest for much shorter periods – we guess driven by the knowledge that if it turns out to be such a bad investment then they will have an opportunity to correct it at the next reinvestment opportunity.

Thank goodness, individual member investment choice is not an issue here.

Labour market

While the impact of pension funds on employment requires a separate article altogether, we cannot miss the opportunity to correct a misapplication of a principle that we continue to witness in our market. Pension fund contributions are a form of a delayed salary, and thus wholly belong to the member on whose behalf the contributions have been made. This is especially so under the defined contribution arrangements and is regardless of whether they are labelled as employer or employee contributions.

In fact, pensions should be seen as an important part of basic compensation, and for employers, pensions are used for attracting, retaining, and motivating employees as part of the total compensation package, and none of that should be left behind when an employee resigns. To treat the allocation of employer contributions, when a member resigns, as conditional on certain terms, is misleading and a misapplication of a basic principle. That, together with a very high unemployment rate, is quite a discouragement to labour mobility, thus depriving the economy of the opportunity for human resources to move to the sectors where they know they are most productive.

A lack of a clear mechanism for pension portability when changing jobs also leads to inefficiencies in the labour market as workers are forced to stay in the same workplaces to safeguard their pension interests.

The government

We know we will be reminded, before we even pen-off, that as investors, pension funds can only be as successful as the economy they invest in. But this is exactly the narrative we are labouring to correct.

That, while there is truth in that notion, and in that the government must manage the economy effectively enough to provide adequate growth while establishing a strong regulatory environment if pension funds are to prosper, it is our firm view that there is a much higher-level strategic role that our pension funds need to be playing to help turn around the fortunes of our economy.

While evidence that pension funds help increase savings growth is clear, where critiques, citing economic environments similar to ours, could have legs to stand on would be on whether the accumulated assets necessarily translate to economic growth as the bulk of it is invested in secondary capital markets.

Unstoppably, critiques would insist that fiscal stability is essential to foster economic growth and to assure the viability of investments, and that it is also fundamental to the success of pension funds as their savings can be easily undermined by inflation – anticipated or otherwise.

Again, a case in point would be our own experience of getting beaten twice already by that in just this current young century.

It is not possible to get government out of the pensions business. Most fundamentally, considering that governments are usually the single largest player in any economy and must thus manage the economy so as to facilitate economic growth.

We must also not forget that, in giving tax exemptions to pension contributions and funds investment returns, governments are very intentional about supporting pension funds.

The government must sustain a regulatory framework that ensures high fiduciary standards and transparency in the capital markets. And that demands vigilance.

One would say the industry is getting enough of that from the current team at the regulator. True, a good balance needs to be struck that sees regulators devising feasible guidelines for investing pension funds money to benefit the economy, while also maintaining the safety of the invested assets so as not to risk the interests of pension fund members.

Of course, the regulator ought to be vigilant. What we have seen over the years is the dominance of financialisation — the reorganisation of ownership relations and economic activity in ways that serve the needs of institutional capital pools.

Emerging from this reorganisation is a financial sector whose primary function has shifted from financing investments to preserving wealth, along with a shift in institutional form from banks to asset managers. Under this “asset manager capitalism,” the dominant figures are no longer the traditional bank CEOs, but instead, asset manager CEOs. Asset managers’ power is most visible vis-à-vis listed corporations — that is, in corporate governance. But it reaches much further. Closely held companies, private property, infrastructure, land, agriculture, private equity — there is no sector that asset managers have not made accessible for financial capital and where they do not exercise substantial structural power.

Asset managers are thus a critical party in the transformation of the economy through the assets under their custodianship.

Our pension fund assets pool

As of December 31 2022, our pension fund assets, as a percentage of GDP was 10%. This is much lower than that of South Africa at 83,82% and the world average of 30,50%.

We are, of course, far behind the world number one, Canada, sitting at 180%, but well way ahead of Ukraine, anchoring the log at 0,1% — important to mention the stats are as at just before the war started, so the current Russian onslaught is not a factor here. Our neighbours, Namibia, at 100%, and on position seven are the only African country in the top 10, even ahead of pension powerhouses like Chile. A move to mandatory pension contributions would certainly see us move up the log.

Conclusion

While definitely not where we would want to be, we still have a relatively large enough pool of heavy artillery with which to power our economic development ambitions. Under the right socio-economic conditions, stable long-term investment environment, and with higher levels of investor confidence, these savings bastions with so much dry powder should be commanding significant economic growth.