4 September 2013 might go down in the history as the day when privatisation of social security management was effectively dismantled…
Last Wednesday the government unveiled a draft of proposed changes in the pension system. The proposal is a combinations of two out of three variants presented to the public in late June. In brief, the fundamental changes are:
- 51.5% of assets amassed in pension funds will be transferred to state-run social security fund – this portion represents treasury securities currently held by the pension funds, which will be cancelled upon the transfer; thus the borrowing needs of the government and “overt” public debt will decrease and its contingent liabilities towards future pensioners will increase, on the other hard, the government will lose a strategic creditor, who could step in when other institutions were reluctant to buy new issues of government debt,
- private-run pension funds will be prohibited from buying securities bearing sovereign credit risk of Poland, i.e. treasury bonds and debt securities guaranteed by the government – this move increases risk profile of the pension funds,
- other assets amassed in the pension funds will stay intact (for the time being…),
- Poles will have three months from the date the new pension law comes into effect, to decide, whether to transfer 2.92% out of 19.52% of gross salary to private-run pension funds, or to transfer the whole pension contribution to the state-run social security system; those who do not bother to submit the declaration, will have the whole contribution automatically transferred to state-run pillar of the system; the decision will be irrevocable,
- assets from pension funds will be moved in ten tranches to the state-run fund over ten years prior to retirement,
- internal benchmark (setting minimum required rate of return) and investment limits are to be lifted,
- fees charged by the pension fund managers are to be slashed by 50% and capped on such level.
Markets’ reaction was predictably revengeful – on Wednesday and Thursday:
- share prices on Warsaw Stock Exchange plummeted – on Wednesday WIG20, index constituting of 20 blue chips, dropped by 2.5%, on Thursday it closed over 4.5% below Wednesday’s close, hitting intra-day low of over –6.0%, on Friday it rebounded by over 2.5%,
- zloty depreciated slightly against major currencies,
- yields on Polish government bonds rose sharply, with yields on 10Y securities reaching 5.0%, much more than 3.6% at the peak of bygone rally on Polish treasury securities…
The government’s representatives said they had predicted the turmoil and Poland would not lose on the rise of debt service costs, as 85% of borrowing needs for 2013 had already been financed at much lower cost.
I personally can also boast about predicting the little market crash. Unlike in 2011, when the crash after US sovereign rating downgrade was more severe, I sold out of almost all of my stock holdings and bought back much of them at almost 10% lower prices, when panic on the market was reaching its height. The stock market might stay volatile, but given the current economic recovery, if stock prices keep going down, this will only create an even bigger ‘buy’ opportunity. In the mid-term I believe I will personally benefit from the impact of the reform on the stock market. Fundamental value of a company does not depend on obligatory participation in private-run pension funds. Market pundits might tell you pension funds will not generate additional demand that used to drive stock prices up, but it is no reason to worry. From now they will stop inflating valuations of companies artificially and I find it a favourable change for the capital market. Remember, every bubble has to burst sooner or later. It has not swollen yet, however, if status quo was retained, demographic changes (increasing outflows from and decreasing inflows to pension funds) would exert downward pressure on stock prices anyway. So that unpleasant moment has been brought forward and its magnitude lessened.
Actors on the political arena in unison hold the view pension system needs a reform, but their assessment of government’s plan vary:
- Leszek Miller, president of SLD pledged to support the government in winding down the reform engineered by Mr. Buzek and Mr. Balcerowicz, therefore the ruling coalition faces no risk of the new law being voted down in the parliament, even though it cannot reckon on support from Civic Platform’s conservative flank – the key outsider / dissenter, not yet ousted from the party, Jarosław Gowin announced he would not cast a vote in favour of the reform,
- PiS politicians, who for a long time have called for freedom to choose whether to participate in private-run part of social security system, when the government pursues the project they have long advocated, refer to a (true) reasoning the government pursues the reform only to loosen the tightness on public finances, not out of care for future pensioners – the matter of the foremost rationale is clear, but if the government implements the vital part of their agenda and they try to oppose it, it means pursuit of power and making politics in more important for them than welfare of Poland,
- Janusz Palikot called for deeming the assets in pension funds owned by Poles and giving them the right to handle them at their discretion…
Media coverage was somewhat biased. Key headline were crying out “SKOK NA KASĘ” (literally: “gripping / seizing the money”), so audience of such news could have been convinced the government is about to steal their savings, while from the legal point of view the government is just relocating means within public finance system and takes them over not from private owner, but from private manager. Imagine a state-owned motorway which until now has been administered by a private manager and paid an administration fee for road maintenance. Is moving the motorway under government’s administration and depriving the private company of its fee a nationalisation? Oddly enough, there are economists, including a renowned chief economist of Credit Agricole Polska, who say the change is neutral for future pensioners. And Moody’s rating agency in its comment issued on Friday also presents a balanced picture of the reform. I must say pension funds managers’ lobby is powerful and effective in crying out its outrage at depriving them of state-secured huge revenues. May it exercise its right to run an informational campaign encouraging citizens to stay in pension funds and showing benefits of such decision. If it happens, do expect to have it dissected on this blog.
Now baffled citizens have a dilemma what to do with their future pension contributions. I do not feel entitled to advise to what to do. If you favour interest of your state (i.e. fellow taxpayers) and following ethical principles in business (the government should not guarantee income to privileged companies), you probably should have your whole pension contribution transferred to state-run social security system. If you believe in superiority of private management (that should have its investment restrictions and government guarantees for minimum pension benefit lifted) and discern pension funds keep assets, not just book records, you should have part of your contribution transferred to private-run pension funds.
To be sincere with you, I have not taken the decision yet. What the government presented recently is just a draft of proposed reform, lacking important details that can impact my decision. Only after I read the new law, I will be properly informed to make any judgement. The key issue for me will be probably the level of fees pension fund managers would be allowed charge. I recently took the opportunity to summarise the pension account allocated to me and learnt on 19 July 2013 (date is not incidental, as I used to be a “member” of Polsat OFE, taken over by PKO Bankowy OFE and 19 July was a merger completion date), after 3 years of paying contributions, market value of settlement units allocated to me was 104.10 PLN (or some 2%) higher than sum of my contributions (now, after yield on Polish government bonds have gone up and stocks lost a few percent of their value I fear the balance of this account dropped below the amount of contributions paid). The worst savings account in the worst bank would fetch a higher return, even after taxes! In the meantime, sum of load fees only was 175.71 PLN. I cannot count in management fee, as it is included in settlement unit valuation, but it seems gain for my future pension would have been at least three times higher, had it not been for the exorbitant fees… The far too high fees are the key factor contributing to built-in efficiency of pension funds. Even if underlying assets bring the desired rate of return, in the long-run exceeding pace of economic growth, management costs will eat up the excess return, making the whole fuss not worthwhile…