I’m quite sure readers of this blog already know that Ireland has decided to tap the National Pension Reserve Fund for the country’s recently announced bailout — $16.6 billion in assets from the Irish SWF (roughly one half of the fund’s total AUM) will be added to the $96 billion coming from the EU and the IMF. All this money will help the government meet its financial obligations and recapitalize the country’s ailing banking sector (again). Obviously, it’s frustrating news for the country’s pensioners. But, it should be said, Ireland was darn lucky to have a SWF; without it the very autonomy of the country might have been in jeopardy.
There has been a lot written on this topic (for more details on the NPRF and the Irish bailout, go see this good stuff), so I’d like to talk about a tangentially related topic: the shrinking time horizon of governments. Why? Because Ireland is not alone in using its here-to-fore long-term pension assets for short-term spending needs. For example, there is news out this morning that France is ‘seizing €36 billion in pension assets‘ from the Fonds de Réserve pour les Retraites (FRR). As they say, misery loves company.
To give you a bit of background, the FRR was set up in 2001 to prefund public pensions (much the same way the NPRF was in Ireland):
In fact, the FRR likens itself to the NPRF:
“Many aging developed nations have set up reserve funds, including social democracies in Northern Europe (Sweden, Norway), traditionally liberal States (Ireland, New Zealand), Southern European countries (Spain, Portugal) and Japan. Certain emerging countries undergoing rapid demographic change – such as Korea or China – have followed in their footsteps. These funds have a shared mission: to help PAYGO systems meet the aging challenge more rapidly and smoothly.” (emphasis added)
Anyway, according to George Coates in Financial News, France’s parliament passed a law last week that will allow the country to use the reserve fund’s long-term assets to pay off the country’s short-term welfare debts. (Though, it should be noted, the original decision to tap the FRR was included in the pension reform package earlier in the year). As Coates points out, this is a similar move to that of Ireland’s (and others).
So, why is the French government doing this? Here’s the FRR’s explanation for what’s going on:
“The French government decided on the 16th of June to propose to parliament the mobilisation of the assets and resources of the FRR in order that they contribute towards the financing of the deficits of the general pension scheme during the ramp up of the pension reform. This will be achieved by the transfer from 2011 onwards of the income received by the FRR to the Caisse d’Amortissement de la Dette Sociale (CADES) and the Fonds de Solidarité Vieillesse (FSV). Furthermore, following the declarations by the government before the parliamentary committees, each year until 2024 the FRR will pay a sum, the amount of which will be established by the next law concerning social security financing, to the CADES”
I can’t really fault France for spending pension assets on…well…pensions. Still, there are some serious implications.
In short, this will require a “radical restructuring” of the FRR’s investments. For example, the allocation to equities (currently pegged at 40%) will be scaled back dramatically in favor of cash and short-term government bonds, which will provide the liquidity the FRR needs to pay short-term liabilities. Only one-third of existing assets will remain “long-term”. The elimination of these long-term assets will have knock-on effects in France and beyond. Let’s turn back to George Coates:
“…the FRR had been an innovative force in the relatively conservative French asset management world. It had pioneered a shift in the style of managing money in France, from balanced mandates, where a single fund manager invested its client’s money in many different asset classes, to specialist mandates, involving many fund managers focusing on particular areas of expertise…The FRR promoted socially responsible investment, increased the use of investment consultants and encouraged objectivity in assessing performance.”
In effect, the FRR was promoting, by example, good investment governance and sophisticated asset management in a country that has typically been too conservative. Indeed, the FRR had adopted a new strategic asset allocation policy as of June 2009 that resembled (albeit slightly) a factor based approach (see chart below). That’s pretty amazing.
Let me sum up before this post gets ridiculously long: In both the Irish and the French cases, the asset management industry and financial markets more generally will lose tens of billions of dollars of supply of sophisticated, long-term capital. In my view, that’s a real shame! This long-term capital tends to generate higher returns and, to be a bit simplistic, do cooler stuff (such as build infrastructure, finance new technologies or encourage good corporate governance). The same cannot be said for short-term capital.
This post originally appeared on the Oxford SWF Project website.
