Gandy Gandidzanwa & Itai Mukadira
If there is one thing that two decades of economic hardship has taught us, it is that we are, ultimately, our own saviours. We have also learnt that, while in business “cash is king”, in economics, for a net importer, it matters which cash you have. There, “hard currency is king” instead.
To overcome the current scourge of poverty, unemployment, and hyper-inflation, it is imperative that we fight this war on two fronts – increase exports on the one end, and reduce imports on the other. The prize goes, of course, to interventions that can achieve both simultaneously.
To achieve that, all we need is a well-oiled hard currency-generation ecosystem. One where all the participants and stakeholders are intentional about accomplishing the assignment at hand. Pension funds, as providers of patient capital, are natural key partners and need to demonstrate leadership by inviting themselves into the ecosystem. Sitting on the sidelines, as spectators, on terraces built on mounds of cash, while somehow anticipating a miraculous economic turnaround can no longer be ideal.
Transformative Potential
The role of pension funds in economic development has long been well documented. Recently, at the time when paucity of funds became a major impediment to economic growth, and panic exit of foreign direct investments left many developing economies’ financial markets in turbulence, advocacy for developing locally sourced capital such as pension fund monies for national development became a popular strategy discussed at many a gathering of economic thinktanks.
Pension funds represent an instrument of long-term savings, intermediating between members and their retirement benefits. Global experience indicates that a vibrant pension fund sector has the potential to play a significant role in the growth and development of the economy, enhancing the efficiency of the capital market in mobilising resources, and creating opportunities for enfranchisement of different economic agents, including export goods producers.
Our pension funds carry with them the transformative potential for the much sought-after hard currency-driven turnaround strategy for the economy. To be effective, and maximise the impact of that potential, pension funds need to realise the weight and importance of their vantage position in fueling the engines that will drive the economy out of the muddy waters of foreign currency shortages we currently find ourselves in.
The impact of pension fund assets on economic development is both quantitative and qualitative. On the quantitative dimension, pension funds increase capital supply to financial market. On the qualitative one, pension funds, as institutional investors, can promote good corporate governance, information disclosure, and transaction efficiency.
Prudent Person Rule?
Some would seek to argue that pension funds have no business in trying to actively develop economies as their only primary role is to advance members’ interests by protecting and growing their retirement savings. Nothing could be further from the truth.
It is now common knowledge that the development of long-term security markets is jeopardized by macroeconomic instability – especially if the instability reduces the real returns on real assets or increases the volatility of such asset prices.
In turn, the underdevelopment of long-term security markets leads to a problem of hysteresis – that is, the tendency of shallow asset markets to be highly responsive to abrupt changes in financial flows, which increases their volatility and enhance the short-termist drive of those that participate in them. Well, we need no lectures on this in our case – we have witnessed it happen over and over again in the last two decades.
Also, on a different point, the tax incentives that pension funds enjoy are partly in recognition of their ability to enhance the capital mobilisation function of the financial markets, increasing the overall investment level in the economy, and consequently, triggering and enhancing economic growth. Pension fund assets are long-term in nature, hence are very effective as pillars for producing enduring economic, financial, and forex generation stimuli.
Even in the face of overwhelming evidence to the contrary, others would still be ready to quote the “prudent person rule” for us – the rule that pension fund investments have to be made for the exclusive benefit of their members and that the only criteria that should be considered by trustees in seeking the appropriate investments is financial — and not other objectives that might be in the broader interest of beneficiaries, such as the investment’s impact on the economy or the environment.
This is not quite true. We now know that trustees can seek the triple objective of earning market-related returns, within acceptable levels of risk, while positively impacting the economy and society at the same time. We also know that the first two objectives are not mutually exclusive with the third one. In fact, we are more informed than that – we know too that healthy economies breed healthy investments.
Productive Investment
Pension funds are important potential suppliers of long-term non-inflationary financing to productive investment. Low inflation and sustained macroeconomic stability are of course important for the enhancement of this.
However, they do not necessarily seem to always be a sufficient condition on their own. In economies such as ours, where capital markets are shallow or inherently volatile, additional institutional and regulatory provisions need be created in order to stimulate the channeling of long-term funds towards the acquisition of newly issued corporate securities – such as those that private equity markets seek to finance.
In the developed economies, pension funds continue to play a significant role in the provision of long-term funds to the alternatives sector. While the mechanisms through which this intermediation takes place vary, the objective remains the same and is being achieved.
In those economies where capital markets are robust and large, pension funds acquire, directly or indirectly, long-term securities, stimulating simultaneously the primary and secondary capital markets. This has not been the reality in most developing countries – our own motherland included.
Here, pension funds have only played a minor role as providers of long-term funds to productive private investors. Instead, most of their resources have remained being directed to the acquisition of real estate, listed equities, money market, and financing of public debt in some instances.
Our capital markets are highly concentrated with only a few securities issued by a handful of large public companies. Thus, by limiting their allocations mostly to only the listed equities and real estate sectors, pension funds have indirectly promoted rapid increases of the prices of these securities.
In contrast to what happens in some developed economies with large and robust security markets, our price hikes tend to generate self-fulfilling speculative bubbles, which eventually burst, causing long-term damages to capital markets and immense losses to members.
Ecosystem is Key
The challenge is on the industry to build an ecosystem that facilitates smooth, secure, and coordinated investing of pension fund assets to significantly benefit the export-producing, and import-substituting, economies.
Why then are pension funds struggling or reluctant to channel funds into export-enhancing investments. As if that is not bad enough a situation, those seeking funds, the private equity fund managers, argue they have viable greenfield projects just requiring patient capital injection to propel them to their next phases of growth.
The answer is two-fold. On the one hand, those seeking funding are going directly to pension funds. Why they fail in their tracks is because they have a limited understanding of the requirements of pension funds.
On the other hand, pension funds are failing to identify the ideal opportunities because they are directly assessing the projects being presented to them on their own. We continue to speak strongly against this. Not only are trustees being overwhelmed by the level of detail and complexity of evaluating such projects, they, by training, are not empowered well enough to be able to carry out proper and comprehensive due diligence analyses on any such projects.
A well-structured private equity market needs to be developed if the required well-functioning ecosystem is to be built. A starting point would be for pension funds to recognise and acknowledge the fundamental role that private equity fund managers play in any economy. More importantly, trustees need to intentionally seek to tap into the benefits that exposure to alternative asset classes brings to their portfolios.
No doubt, different pension systems have different levels of impact on economic development. Few, but large, pension funds can bring about a greater positive influence on the financial and economic development of their jurisdictions than many very small ones. More developed financial markets tend to experience faster economic growth.
A fully functional ecosystem of economic, financial, investments, and capital markets actors is positively associated with economic development. It can never be disputed that the development of financial sectors induces the development of economic sectors, and that properly planned financial development is a predictor of economic development. It is in this acknowledgement that pension funds must realise their strategic importance in lifting the economy out of where it is currently stuck. Lack of foreign currency continues to suffocate the economy.
At a time when it has become accepted that banks are just way too risk averse to provide the kind of capital that export-oriented companies require, it is time to direct our focus to how pension funds can come to the rescue.
In fact, very few economies have been turned-around by bank-financing in the absence of more risk-tolerant participants like pension, endowment, and sovereign wealth funds. Banks, by nature, are risk averse, too risk averse at times for what society wants. In our case, with no well-established sovereign wealth and endowment funds, that leaves us with pension funds as the only available potential triggers of the much-needed economic growth jump-start.
Being a resource-endowed country that we are, we ought to take advantage of that to claim a spot on the key suppliers of the world consumption list. Our agricultural, mining, and tourism sectors are well known export-producing and foreign currency-generating sectors.
An ecosystem that harnesses pension fund assets, private equity fund manager expertise, and export-oriented drivers of economic growth is what we desperately need right now. All of that will be built within the pillars of an economic policy framework that is supportive of Export Processing Zones, Free Trade Zones, and other forms of Special Economic Zones that are foreign currency generation driven.
That policy framework would be very deliberate about fostering production and employment in exporting industries, enhancing beneficiation and foreign exchange profitability of exporting producers, and stimulating foreign direct investments through partnerships to increase the likelihood of success of the drive.
Ministry of Pensions?
While the space left is not big enough to clearly spell out the arguments and justifications for the consideration of the creation of a Ministry of Pensions, we will just raise the point that for way too long our people have not felt that they are getting the best deal from their pension funds. This is an issue of national interest. Doing more of what we have been doing, with the same structures and organs, and expecting different results, is certainly not the solution.
Some of the failures of the industry are of a strategic nature and may not necessarily be solved by regulation alone. On the other hand, individual players and companies in the industry, acting in pursuit of their own individual financial interests may not, by design, be the most likely architects of the required transformation.
Of course, the first thing that comes to anyone’s mind on this is, “we are already struggling with a huge civil service salary bill, why should we be entertaining the idea of yet another whole ministry?”. We are not oblivious to that. The point though remains, the strategic and fundamental repositioning of the industry required, if it is to serve a much larger purpose, warrants a serious consideration of what the benefits could be if a contingent of pension fund technocrats were to be brought together to serve under a dedicated Ministry of Pensions.
In one of our future pieces, we will come back to this point and unpack it further and share what some of the latest thinking around it is. Of course, it is a structure that exists in other jurisdictions where it has proven to be effective in addressing the issues for which it was set up. The UK, Canada, and France are just but some of the immediate examples that come to mind. The fact that, in our case, retirees’ welfare, pension fund provisions in employment contracts, and pension fund regulations are all housed under different ministries does not seem to have helped the situation in any way.
Conclusion
Pension funds need to come out of the woods and start to assume a more prominent and commanding role in the foreign currency-generation ecosystem. They have the size, the economy is in need, and enabling systems can be built. The time is now!