OFE – the epilogue

A meaningful event of the passing week (incidentally noticed by me with a two-day delay) was the ruling of the Constitutional Tribunal that cancellation of government bonds held by public pension funds run by private asset managers and subsequent choice between state-run pay-as-you-go and private-run pension systems were both no violation of law.

The ruling is anything but a bolt from the blue, if sound judgement and common sense are in use. Public character of assets accumulated by the pension fund has been reiterated many times (including Supreme Court ruling in 2008), moreover a simple logic leads to you the conclusion that by no means Poles’ “savings” in individual accounts allocated to their names have never belonged to them.

Experts point at potential consequences of the verdict. Firstly, it given green light to reckless politicians to reach out for the assets remaining in pension funds to finance their otherwise undeliverable promises. When government bonds were cancelled, I did support the move of PO government which finally eliminated hollow circulation of money, but this time other assets are at stake. Pension funds hold now nearly only shares of Polish public companies, in many of them are an important shareholder. Grabbing those assets and attempting to dispose of them, or just taking them over by the government could have disastrous effects (especially in terms of corporate governance). Regardless of my scepticism towards OFE, I am wary of silly attempt to scrap the remnants of the system. And if it is to be wound down, it needs to be carried through slowly and with care.

I doubt PiS will aim at full liquidation of private-run pension funds, as Mr Orban did in Hungary, but pursuit of the party’s economic agenda remains in the realm of the unknown. Shortly after the ruling Nowoczesna.pl declared it would submit a draft of a decree stating assets in pension funds are private property of pension fund participants. Such new law, in order to make any sense, would need to empower citizens whose pension contributions were paid into pension funds, to have discretion over their assets. Sell-off on the Warsaw Stock Exchange would be in the cards then, I suppose. I voted for Nowoczesna.pl, yet it does not mean their agenda is fully in line with my views. Defence of OFE by Mr Petru and his henchmen is not what I would have ever put up with.

Two weeks since the memorable have gone by and speculations over the line-up of the would-be PiS government are to be cut off tomorrow, when names of particular ministers are to be unveiled. Just like some prominent politicians of PiS were locked away during the campaign, after the voting day Mrs Szydło has enjoyed the well deserved rest. She confirmed in social media she was doing well, but did not seem to be involved in designating new government members. The more nasty commentators imply it is the Mr Kaczynski who is actually dealing out cards.

The inaugural session of the new parliament is scheduled for 12 November. By coincidence, an informal EU summit on migration problems is held on the same day. The collision between the two days is now a matter of squabbling between PiS and PO and bears a very poor testimony of Mr Duda’s stance towards importance of foreign policy. The topic of the summit is too significant to shrug it off and let Poland lack its representation. I confess not to know who (president or prime minister or any of the two) has the right to represent Poland, but in my view, if allowed by law and diplomatic protocol, the one who has stronger mandate (not the outgoing prime minister) should show up there and the inaugural session should have been planned for earlier or later date.

Could have done with a longer commentary, but spent most of this weekend catching up with overdue work. There have been some staff redeployments within the New Factory and my scope of duties has increased well beyond what can be handled within 40 – 45 hours a week. Hope things shape up within a few weeks.

Katastrofa prywatyzacji emerytur w Polsce - book review

Sixteen million Poles being contributors to the social security system have four working days left to choose, whether a fraction (roughly one-seventh) of their contribution will stay in the state-run pay-as-you-go (PAYG) social security fund (requires no action) or be diverted into private-run pension funds (requires submission of declaration), participation to which will be since now discretionary (couldn’t I have stretched the sentence out even more?). So far less than one million Poles declared the will to have 2.92% of their before-tax salaries to be transferred to private-run pension funds under the public social security system. The interest in the last days when the choice is possible has been growing exponentially and it is estimated the number of participants of the second pillar of the pension system will exceed one million, still far cry from government’s estimations from 2013 which assumed almost twenty percent (or three million people) would plump for pension funds.

I have already made a choice and anyone who has been carefully reading this blog would easily guess what my decision has been. In discussions with my friends and colleagues I have openly admitted which option I had chosen, elucidated reasons and have not encouraged anyone to change their mind. I actually favour the government’s idea to let people decide what the uses to their contributions to the system will be. To a few persons I mentioned the book I had recently read. Some of them, mindful of my general free-market and liberal orientation, were kind of perplexed to hear me speaking highly about the book written by a leftist economist, the most avid critic of pension reform in Poland, professor Leokadia Oręziak.

The situation with a man whose opinions are well-shaped is that in 99% of cases you cannot easily categorise them as 100% liberal or 100% socialist (simplifying the issue to distinction between two main undercurrents). I cannot claim to be a pure liberal, nor to be a pure socialist, I simply lean towards common sense and put faith in ideas that stand to reason. Sometimes ideas which might appear liberal in fact are not. The concept is brilliantly illustrated in the book by highlighting the paradox of neo-liberal doctrine backing the power of unregulated market and positing cutting back on inefficient and evil government. The same doctrine when it comes to private-run pension funds does not hold back from asking the evil government for ensuring participation in private-run pension funds would be mandatory, i.e. the bad state must coerce the citizens to pay financial institutions for managing their pension accounts. I learnt many times liberal doctrine assumes a man should be responsible for their deeds and should be given autonomy to decide about themselves, while the socialist doctrine assumes people not necessarily know what is best for them, therefore the government should take care of them and decide what is good for citizens and for this purpose seize more of their income in form of taxes. The outcome of the reasoning is that obligatory payments to private-run pension funds under the public pension system is a manifestation of socialism. This has been long ago said by independent liberals from Centrum im. Adama Smitha.

“Who benefits from this [existence of pension funds]?” (Komu to służy?) is a tad populist question frequently posed by the opponents of pension funds. The book casts a new light on that matter. It does not take a genius to discover none of the developed countries coerced their citizens to pay pension contributions to private-run pension funds being a part of public social security system. Of course saving for pension is wide-spread there, but is not compulsory. People look after their future pension on their own or via employer-run pension plans. Almost all countries which implemented obligatory pension funds have in common that they went through a debt crisis and were relieved of some of their sovereign debts. Such was also the case with Poland. One other common feature is that the debt relief was combined with assistance of the IMF and the World Bank and was subject to following requirements imposed by these institutions. For me, from the perspective of financial services sector, it is quite natural a creditor has a distressed creditor on a string. Now the last question to ask is whether the IMF and the World Bank are doing a huge bail-out job disinterestedly. If you believe when zillions are at stake any action can be disinterested, then the fact the list of developing economies which struggled debt crisis and were aided by the IMF and the World Bank and the list of countries which adopted the pension system in shape similar to that implemented in Poland in 1999 is just a coincidence!

Mrs Oręziak in the second part of her book cracks down on common myths on private-run pension funds advocates of pension funds spread to persuade people to superiority of capital pillar over state-run PAYG system. She debunks these myths (I also dissected most of them along the way) in a way intelligible for an ordinary reader. This part of the book is particularly worthwhile, albeit personally I would rearrange some passages from the argumentation and leave out others.

Although our views on the flop of the public pension system managed by private entities generally concur, I disagree with some of the notions Mrs Oręziak points out.

I personally doubt the government is a good guarantor of future retirement benefits. It only has different tools to dupe citizens, if in need, and by nature is less greedy and less costly. Besides, you cannot compare a pay-as-you-go system in which money collected in form of contributions from the employed flows to retirees as their benefits to a system in which payments are invested in financial assets, as returns on each of them depend on different factors.

I cannot agree if Poland had held on to defined benefit system, instead of shifting to defined contribution system, future pensions would have been higher. You cannot circumvent the proportion between the employed and retirees; you can only change the apportionment of income between the two groups. Poland needed the pension reform in 1990s, but it would have been sufficient to deeply reform state-run social security system to ensure it is balanced in the horizon of many decades but inclusion of private fund managers to the system was needed like a hole in the head.

It should not be taken for granted that the government will bring citizens a higher pension than risky financial market. The amount of pension in the perspective of decades will be the same from either source, because both financial markets and public finances are tightly tied to a country’s economy and pace of its growth. The only difference is that returns of pension funds are more volatile than increment of benefit from the social security – somebody who relies on pension funds is exposed to a timing risk (i.e. the risk that prices of assets in which a pension fund invested drop shortly before someone pensions off).

I also do not share the view the discretionary participation to pension funds, to which the government encourages, through system of tax deductions, is detrimental. The governments of almost all countries are not capable of providing their citizens with high pension benefits and it does not hurt to put in incentives for employees to save on their own. The different story is that the institutions which offer such financial services are usually far too costly and inefficient, so faced with a choice, I would never sign up for such plan. I am in the luck to have sufficient financial knowledge to look after my finances on my own.

To recap, the book, although I would not praise it without reservations, deserves two merits. Firstly, it is written in a simple, clear language, which is of paramount importance if laymen are to make up readership. It clearly presents causations in economic reasoning, therefore a reader finds it easy to follow and comprehend why something works or does not work. Secondly, the book is very factual. It contains more footnotes than pages so that reader can easily verify accuracy and integrity of the book’s content, which given the scale of controversies surrounding the topic, add a lot of value to the publication.

Pension law - draft released

Five weeks after the general shape of the pension reform was unveiled, the government made public the document which might become the new legal act governing the pension system in Poland. The document is available here, is 47 pages long and… I have taken the trouble to read through it quite carefully.

The text is a compilation of amendments into several other legal acts regulating workings of pension funds, social security system and public finances. For this very reason is it absolutely unreadable for an average reader. In other words, just like most official documents in Poland, the document is a piece of anything, but informative twaddle, whose authors probably have not intended to confuse recipients, but have done so…

May the first article of the draft law give you the flavour of how reader-unfriendly it is:

Art. 1. W ustawie z dnia 26 lipca 1991 r. o podatku dochodowym od osób fizycznych (Dz. U.

z 2012 r. poz.361, z późn. zm. 2)) wprowadza się następujące zmiany:

1) w art. 30:

a) w ust. 1 dodaje się pkt 14 w brzmieniu:

„14) od kwoty wypłat...

Okay, I concede this incongruous form has to be retained for legislative purposes, but a reader who comes across such stipulations, unless equipped with several other acts, has no idea what the paragraph is referring to. My proposal of best practices in such instances is to attach to a draft of new law all other legal acts it changes in “track changes” version. For those unfamiliar with such methods – a “track changes” document marks what has been added, removed and changed – very convenient for readers who need to opine changes or simply quickly find out what has been amended.

The other thing I noticed (not necessarily rightly, as at second glance, I spotted a paragraph setting forth framework for settlements between pillars of the pension system, to be governed by a separate decree) is a potential cock-up regarding the 10-year period before retirement when “money” should gradually flow between pension funds and state-run social security fund. The law states 10 years before planned retirement the social security fund informs a pension fund (to be precise a company which manages it, on its behalf) about the obligation to redeem settlement units amassed by a pension fund participant and transfer money to the social security fund. The capital assigned to a fund participant is divided into 120 equal parts, then 1/120 of all settlement units a pension fund participant has is transferred each month. Amounts of transfer will vary depending on current market valuation of settlement units (i.e. underlying assets). For the whole operation to hold water mathematically, new contributions must not be transferred to pension funds over 10 last years before retirement. Otherwise the moment an employee retires, they would still hold in the pension fund account assigned to them all contributions transferred there over last 10 years, while the government’s intent was to bring the balance of pension fund account to zero.

Contrary to original plans, the choice between private- and state-run parts of the system will not be irrevocable. The decision taken in 2Q2014 might be changed in 2016 and then in 4-year intervals. On one hand this offers additional choice to future pensioners, which is an upside, on the other I fear this option will not work for the benefit of the would-be retirees. 4-year period does not offer enough flexibility for those who would like to benefit from long-term trends on stock market (75% of assets will have to be invested in shares of publicly traded companies), while given the retrospective approach to results of pension funds, many people might choose to transfer their contribution there after a period of substantial rallies (seeing high past returns), just before the oncoming bear market. In the long run this solution is quite likely to incur losses to future pensioners and discourage them from participating in private-managed pillar of the pension system. Maybe the ‘revocable freedom to choose’ has been a deliberate step towards scrapping private-run pension funds at all?

                       

When laying out the blueprint of the reform, government had declared in case of moving government bonds from pension funds to social security fund and writing them off, debt-to-GDP safety levels would be decreased accordingly to reflect drop in official government debt (not to give room for extra indebtedness). As the draft law shows, this avowal has vanished into their air. The law brings forth only amendments to so-called ‘expenditure rule’ which would now be more restrictive in containing unfettered growth of government spending, but 50% and 55% debt-to-GDP levels, serving as a safety valve against reckless politicians, will, unfortunately, be intact.

One of more meaningful changes for future pensioners who will decide to have part of their contribution transferred to pension funds is a decrease of load fee from 3.50% to 1.75%. Slashing the commission charged at each paid zloty means higher pension benefits for system participants and undermines risk-free business of fund managers. Noteworthy is to observe pension fund defenders stance on the reduction. When interviewed, they assert this is a fine move, long overdue and then deftly sidetrack into other aspects of the reform that as a whole are, according to them, likely to decrease overall potential return beyond gains from load fee savings. Actually such stance has been quite common whenever topic of exorbitant fees was brought up – each time there came an ‘expert’ who would claim the government should focus on initiatives that could increase potential returns fetched by pension funds, rather than confining to taking the easiest way out, i.e. regulatory decreasing fees; thus denigrating the importance of low cost of the pension system for its participants.

On Friday I took a day off to make use of the great weather and catch up with some gardening. In the late afternoon I sat back in front of TV, turned over to TVP Info and watched a TV programme dedicated to the pension reform in which the audience were free to call and ask questions representatives of the ministry and pension fund managers, send text messages and write e-mails. The show contained also some footages recorded on the streets of Warsaw with people having their say on the reform and sharing the ideas on how to secure their pension. The picture that emerged from the programme was horrific. The economic ignorance in the Polish society is a crying shame. Most people do not understand how the pension system works and therefore can believe in every lie / misrepresentation / distortion they told about it. Given the level and bias of public discourse, an average Pole who lacks basic understanding of economics is meant to end up confused. Once they hear minister Rostowski saying the government is the best guarantor of pension payouts – this holds water, so why not trusting him? Then they see dr hab. Balcerowicz shouting the government is brazenly seizing citizens’ money to pay benefits to current pensioners at the expense of future pensioners whose savings are depleted – at first sight this also hangs together so they feel like a theft victim. Then they listed to prof. Oręziak who says due to existence of pension funds the public debt of Poland has risen by additional 300 billion zloty and pension funds are a huge burden for public finances that is a ball and chain – so again they think from the taxpayers’ perspective this must be a praiseworthy reform. Then comes up dr Petru who pronounces the government is taking the path of least resistance and instead of seeking savings somewhere else, destroys a good pension system and destabilises it.

Same issues, different opinions. If you are familiar with economics, you can critically assess utterance on the pension system. If you are not, clashing opponents make you even more lost and more indifferent about what is going to happen…

Meanwhile in the capital – soon comes the verdict…

Pension reform takes shape

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…

"Katastrofa emerytalna..." - book review

Imagine an economic system 18^th-century liberal economist Adam Smith called for. Imagine a state which serves only as a night watchman, i.e. secures law and order, sets regulations and enforces observances of law and leaves all other aspects of social and economic life in hands of citizens and the invisible hand of free market. A mind-bending picture? No wonder, post-WW2 societies have become so accustomed to governments’ interferences into social and economic interactions that any attempt to whittle down the scope of government’s tasks would trigger hue and cry among spoilt populace…

Despite this, still there are niche associations that advocate idea of lean state and returning to traditions of classical economics. The most important such organisation in Poland is Centrum im. Adama Smitha, headed currently by Mr Robert Gwiazdowski. This ultra-liberal think tank which espouses ideas of lean state, low taxes and deregulation, from the very beginning of the pension reform in late 1990s was against compulsory participation in private-run pension funds… The profound justification of the think-tank’s stance is comprehensively explicated in a book released last year, titled “Katastrofa emerytalna i jak się chronić się przed jej skutkami”, literally: “The pension calamity and how to shun its aftermaths”.

Bemused? You thought if the free-market campaigner, Mr Balcerowicz fiercely defends private entities facilitating the pension reform, each free market believer should support private-run pension funds? Well, life’s a bit more complicated. And Mr Gwiazdowski can tell you why!

What’s your first association when you think of free market and capitalism. Words that come first to my mind are freedom and responsibility, but because those two rarely go together these days, Mr Gwiazdowski claims an average citizen when he thinks of capitalism has in mind huge investment banks, too big to fail, bailed out by governments in 2008 and free market is for him a game similar to tossing a coin: head – I win, tails – you lose. In fact this is how the economies work now and, as Mr Gwiazdowski rightly notices, those to blame are politicians, who have given financial sector freedom, but have failed to require responsibility in return. The current economic system is a blend of free market mechanisms and socialism, an upshot of decades of attempts of combining security citizens want from the government with market mechanisms which in economic theory should allocates resources most efficiently. Mr Gwiazdowski claims as you cannot mix up water and fire, there is no point in building in market mechanisms to socialist solutions. Such actions only lead to expansion of socialism and its further distortions… Conclusion? If a society requires a certain level of security from the state, the state should provide them with such “bare minimum” in the most simple way and refrain from improving anything by harnessing free market mechanisms or private sector.

At least for this very reason privatisation part of pension system in Poland was doomed to fail from the very beginning. If at the end of the day how high the pensions will be depend, apart from demographic trends and labour ratio, on general performance of the Polish economy as it underlies both stock market performance and solvency of government as sovereign debt issuer, does it make sense to put in private sector entities and entrust (and pay) them managing assets whose value in the long term will not rise much above GDP growth rate? And after all, is it possible and fair to encumber one generation with a burden of paying for current pensioners’ benefits and at the same time saving for their own pensions, if the only beneficiary of such shift would be the last generation living on earth and knowing about the oncoming doomsday?

For all those less familiar with pension system and its origins, Mr Gwiazdowski delineates a chronicle of insurance and social security schemes. This introduction helps a reader realise the pension system has a form of insurance protecting from the risk of old age and disability to work. Shift towards obligatory pension savings is an experiment then…

Mr Gwiazdowski points out the Polish pension system is full of absurdities and generally has a built-in inability to generate decent pension benefits. Ludicrous are the workings of state-run ZUS, that costs each year taxpayers over three billion zlotys, or 3 percent of paid contributions (compared to 3.5% charged by private pension funds). If you are curious what the load of money is spent on, Mr Gwiazdowski quotes a list of tasks of the ZUS that occupies several pages of the book – the purpose of author was not to bore a reader to death by enumerating what the social security system administrator has to do, but to give the feeling of how bloated the state sector is. Given the multitude of tasks ZUS must carry out, hundreds of clerks the institutions employs should not sit on their hands! Some of the tasks are truly ridiculous and expenses incurred for them totalled to billions of zlotys, such as the system for administering the pension reform which inter alia serviced transfers to pension funds and calculated so called kapitał początkowy (starter capital), an imaginary amount of paid contributions which then influenced pension amount.

Pension funds and their defenders are given a proper belting. Stability of safety of the private-run part of the pension system is called into question. Look just at the numbers, more up-to-date, from the government’s recent review. If assets under management totalled to 270 billion zloty at the end of 2012, and aggregate equity + guarantee fund totalled to 4.5 billion zloty, it means on average the safety valve covers 1.7% of assets amassed in pension funds. Lehman Brothers just ahead of its collapse had lower leverage! In the meantime owners of pension fund management companies paid out 4.2 billion zloty in dividends. In fact profits have been sucked out of Poland and in case something goes wrong, the private pension fund manager loses its equity (3.4 billion zloty, the rest is in the guarantee fund), liquidates the profit-making business and its responsibility ends. Responsibility for benefit payments rests then with the state or, let’s face it, taxpayers. Profits – privatised, losses – socialised! Please note with time the ratio of pension fund managers’ equity to assets under management will only rise, as assets will grow faster than equity, each year depleted by generous dividend payouts.

Pension fund supporters have a separate chapter dedicated to them (“Wojna o OFE…”). Their ferocity is best described by sentence “Profesor Balcerowicz zachowywał się, jakby OFE były najważniejszą rzeczą na świecie, a poza OFE życie na istniało w ogóle” (Professor Balcerowicz acted, as if pension funds were the most important thing in the universe and life without them did not exist). In all developed countries private institutions do not run obligatory pension schemes and life goes on despite this, but this is not the case. I recommend reading of this chapter, as Mr Gwiazdowski does in it what I called for – quotes specific statements of OFE defenders and then disproves them. Instead of shouting with angry face and talking of distortions and manipulations just like Mr Balcerowicz does, Mr Gwiazdowski puts under microscope each single myth on pension system and debunks it. You an argue with his reasoning, but can’t deny him precision and clarity.

The final question Mr Gwiazdowski asks is – if pension funds are as good as their defenders assert, why is participation to them obligatory? The true virtue will always defend itself! In fact Mr Balcerowicz, who refuses to give people freedom whether to choose to rely on state-run social security system, or to trust private sector asset managers, treats people like idiots (barany), not the government.

In the last chapters the author lays out the concept of the ‘civic pension’, a pension scheme similar to the one in Canada. The ideal pension system in Mr Gwiazdowski’s opinion should be as simple as possible – not to generate unnecessary costs for taxpayers, guarantee subsistence allowance, leaving any initiative to save for or insure against pension in citizens’ hands, and… be funded directly from taxes… Then he casually muses about workings of the state and advises how to save for pension on our own.

For my part, the book is:

- deftly and brightly written (I noticed some complication of Mr Gwiazdowski’s blog posts),
- could do with some more thorough editing, as spelling and other minor, easily discernible errors have not been eliminated,
- biased, but this not an academic publication, but expresses private judgments of its author (probably therefore strikes a chord with me),
- thought-provoking and compels a reader to think over how a variety of pension system solutions work, what their advantages and drawbacks are and which of them can be eliminated.

All in all – a recommended read, particularly less than a month before final settlement on the shape of pension system in Poland.

Pension funds – awaiting the resolution

Low season is reaching its nadir. Summer, that according to long-term forecasts issued in May was supposed to end in June, brings weather ideal for those holidaying and not enviable for those having to work. In the meantime, far in the background, the government runs consultancies on the future of pension system in Poland. The temperature of public discourse is not as hot as in the last days of June, when variants of pension system turnaround were unveiled, yet at some moments emotions are running high.

Last Tuesday Jacek Żakowski invited for his radio interview in TOK FM prof. Leokadia Oręziak – probably the most avid academic critic of private-run pension funds. Her view of the issue is more or less the total contradiction of what Mr Balcerowicz advocates. Whoever wants to acquaint with the problem, can read the transcript, I will only take the liberty of pointing your attention to comment thread. In the last weeks I began to observe a shift in Poles’ view of pension system reform. In brief – Poles badly assess performance of private-run pension funds and costs (including charged fees) they generate, but discern superiority of pension funds over state-run social security fund (the lesser of two evils). The superiority consist in the fact pension funds are a pool of real assets, while the social security fund has no money, just a book record. Commentators frequently argue whether the assets in pension funds belong to them or not, quoting manifold arguments to underpin their assertions, some resort to insults to prove their supremacy :)

I particularly liked one comment (not remember where I read it) in which someone aptly noticed those who now are trying to capitalise on demonising pension funds and urge on scrapping them might in a few months end up is management or supervisory boards of newly created state-run institutions managing assets taken over from pension funds…

Some time ago I mentioned my futile attempt to check correctness of calculation of returns fetched by two pillars of the pension system. Last week the ministry of finance responded to accusations of Komitet Obywatelski Bezpieczeństwa Emerytalnego (literally: Civic Committee of Pension Security, abbr. KOBE) regarding wrong methodology in government’s calculations. The whole, 35-page-long response is available here. Whoever wishes to drill down into its, good luck, I see some more productive activities for Sunday summer afternoon, but one day I will probably revert to that document. So far the Civic Committee has not issued any announcement after the government’s counter-report. I leave the assessment up to you and can only bring two statements to your attention:

1) “prof. Marek Góra (...) Pytany, czy weryfikował obliczenia rządu i obrońców OFE, odpowiada, że nie. - Wyliczenia przygotowali znakomici ekonomiści, którzy nie mogą się mylić. Ministerstwo Finansów nie ma takich ekspertów” – these words have wound me up. There are no infallible people, even the most outstanding economists can be wrong and blindly trusting somebody on account of their impeccable academic credentials is appalling!

2) “Wyniki przedstawione w opracowaniu pokazują jak wrażliwe są one na przyjęty zestaw założeń „upraszczających"; w szczególności dowodzą, że w zależności od formułowanej hipotezy możliwy jest taki dobór mierników efektywności, aby wnioski z ich zastosowania przemawiały na korzyść OFE lub I filaru w ZUS” – this is what the whole dispute is all about and why it might never cease. Given multitude of variables and simplifying assumptions one has to make, there is plenty of room for manipulation. Tack on the pressure for reaching a specific outcome (the government wants to prove superiority of ZUS, while pension fund defenders will seek to prove superiority of OFE – look at KOBE’s webpage – am I only one who has impression their goal is to save pension funds, not the benefit of future pensioners?) and you will realise dashed are the hopes for finding impartial calculations…

Pension system overhaul - follow-up

The topic of pension system reform, my hobby horse, will be keeping us company in the coming weeks. The final decision on the future shape of the pension system in Poland is bound to be taken and announced around the end of summer holidays. Until then several consultations will be run in order to work out compromise on the variant which will be chosen and pursued. Meetings have kicked off and judging by what politicians and government-related economists declare, we are drifting towards the second option, i.e. freedom to choose whether to still transfer part of pension contribution which now goes to private-run pension funds there or to move it to state-run social security fund.

A week ago I mentioned the calculations presented in the government report, whose accuracy has been called into question by independent (?) economists. I took the trouble to download calculations presented by independent economists (in a spreadsheet) and set about analysing them. I can only agree with independent economists that money-weighted rate of return (actually in essence internal rate of return) is a proper and more accurate tool for assessing investment performance that geometric mean. I spent some half an hour poring over the complicated spreadsheet to work out why specific formulas are in specific cells and find causations between them. Then I began to verify assumptions on which calculation had been made. I found a factual error in decreasing fees charged by pension fund managers (not impacting substantially the upshots), but then gave up on further exploration as it was before eleven, it was dark and my mind simply began to drift away. Had I spent one more evening doing all the stuff, I would have probably been able to tell whether the independent economists’ calculations were correct. Third evening for verification of government’s calculations and I would have been home. But in the first week of July when weather is perfect, there are much more interesting things to do than taking apart the report, if it is not going to change anything…

The silver-mouthed politician of the week award goes to Leszek Miller, chief(tain) of SLD. On Tuesday in the public radio he put forward calling parliamentary investigating committee to track and bring to the light irregularities in setting up and running pension funds. Having read the transcript of the interview I can say that:

1) There is no need to call any committee to find out pension fund managing companies charged over 17 billion PLN in fees from contributions paid by future pensioners. They did it within the letter of law (because politicians allowed them to do so), extensive reports on profitability and solvency of pension fund industry are available on Polish Financial Services Authority’s website and everyone (computer-literate) can easily find the numbers,

2) Personal tie-ups of reform-authors with beneficiaries of the reform are disclosed to the public. You may speak here about arrogance, lack of integrity, but not of withheld tie-ups.

3) If indeed it is true that powerful financial corporations lobbied for the reform to secure for themselves risk-free business, they surely did not spare efforts to efface all the traces of what could be found illegal and the committee would not be able to track it.

4) If Leszek Miller suggests pension fund managers were “pumping up” prices of some shares and there were investors in the know of it and benefited from this and he has evidence of such incidents, may he go to relevant supervision authorities. What Mr Miller speaks of is an example of insider trading, which is a (n easy to detect, difficult to prove) crime. Bodies which deal with such form if criminality in Poland are Financial Services Authority (KNF) and Prosecutor’s Office.

On Friday Mr Miller announced his grouping would pass a resolution condemning bygone prime minister Jerzy Buzek and bygone finance minister Leszek Balcerowicz for the pension reform. I know there are thousands or even millions of people in this country deeply convinced pension system reform, in particular creating pension funds, was the biggest scam made in Poland after 1989. Mr Miller also knows it (just as he knows there are millions of Poles hankering after Gierek’s decade) and in his cynical game wants to score a point by speaking out what those people have in minds. I shall refrain from explicit comments, this is pure politics, not policy, something that adds no value to moving Poland forward.

On Tuesday the runner-up, Jarosław Gowin reasserted he thinks “in pension funds there are Poles’ private monies” and insisted in case pension funds are scrapped, it would be best to give that money back to Poles (incidentally Mr Gowin failed to pin down what he actually meant). Last week I outlined a scenario of freeing the assets accumulated in pension funds, this week I will just paste a fictitious news item, thought out by me and posted on my wall on facebook – dedicated to philosopher Gowin.

It does not take a lawyer, nor the Supreme Court ruling, to come to the conclusion public pension fund assets are not private savings, it is a matter of logic, you just need to use your brains.

The conclusions I reached after the last week are depressing. An average Pole knows little of economics. Loads of useless stuff are taught at schools and except for short course of “entrepreneurship” run in high schools, youngsters in Poland are not educated in the workings of economy. I estimate 80% of Poles do not understand what the whose fuss about OFE is about and hence are pliable - one day can believe the government, the other they will believe Mr Balcerowicz is right. Due to lack of education they have to take what they are told on trust. Imagine how much room for misrepresentations, manipulations, populism and propaganda it leaves.

Politicians and journalists also lack proper knowledge and understanding of the topic. Let’s take the example of a sentence “oszczędzać na emeryturę w ZUS-ie”, in English ‘to save for pension in [state-run] Social Security Fund’, literally in “Social Insurance Company”. Stare-run pillar of the pension system is an insurance scheme. When you work you pay contributions and in fact take out insurance from not having subsistence when you retire. It is an example of endowment insurance policy with no payout before maturity. Get it? If not imagine you take out non-compulsory car insurance. If your car is not damaged, nor stolen, has the insurance stolen your premium. In state-run pension system you buy protection, not benefit. Had it been the other way round, the system would have collapsed, or contributions would have been raised.

The other story is poor informational quality lack of clarity in public speaking. This drawback of Polish public discourse is partly the effect of poor understanding of complicated issues. The other, very rare ability most public figures lack, is the aptitude to explain complex issue in simple words, intelligible for an ordinary recipient. Even if somebody has knowledge, difficulties in putting it across make it useless for the society!

Now let’s move a level higher. Imagine the recipient is an educated graduate of economics, who not just holds a diploma, but is familiar with the stuff and avidly interested in it. If such person needs some six hours (maybe it is little) to determine whether rates of return in the report were correctly calculated, does the whole debate not move to another universe, completely out of reach for ordinary people? Should an average citizen know whether geometric mean, or money-weighted rate of return is apposite for comparing investment results? Does this give politicians and economists right to deprive benighted people of the right to decide how to secure their retirement? Thus I moved to the realm of questions doomed to be unanswered which reminds me today’s writing has come to an end.

Nie będę płakać po OFE - pension system overhaul

With some considerable delay, the Polish government unveiled this week the long-awaited report containing a comprehensive analysis of the Polish pension system and recommendations for coming changes into its workings. Regular readers of this blog probably know the topic and my opinion on it inside out, yet if somebody has to catch up, follow these posts. The report, in Polish, can be found here. I have not found any English-language summary of it, yet for the sake of brevity, I will not summarise it, nor repeat anything I have written before as there have been no fundamental changes that need to be underlined.

Defenders of private-run pension funds being a part of public social security system have, predictably, torn a strip off its authors, accusing government-linked experts of manipulations, lies and use of propaganda, funnily enough without pointing at any specific example. The critics also say calculations presented in the report are distorted. Due to shortage of time and data, I cannot check accuracy of calculations presented in the report, yet if the only accusation is that the government presented investment results of pension funds net-of-fees, rather than gross-of-fees, then jaw drops open helplessly. For my part, I have found the report surprisingly substantive and unbiased and see in it one of few commendable recent attainments of PO-led government.

Albeit, let’s face the truth, this overhaul is carried out not because minister Rostowski cares so much about future benefits of the Polish pensioners, but the key incentive for pursuing it is the tightness of public finances.

The report analyses inter alia the impact of private-run pension funds on capital markets. As an analyst I have seen a few examples of stock-listed companies in which pension funds were major investors and those companies, actively managed by key shareholders, have been well-run. For many companies capital provided by pension funds was indispensable for development and proved a successful investment. Pension funds also contributed to development of Warsaw Stock Exchange and helped it grow to be the biggest such institution in CEE. But there is also the other side of the coin. The processes which have had favourable impact on Polish capital market will one day, due to changes in demographic trends, reverse. Today pension funds are net buyer of securities, but in a few decades outflows from pension funds will surpass inflows, as fewer people will work and pay contributions and more will be paid benefits. Then pension funds will be putting a downward pressure on stock prices and will have to dispose of some of its assets… Due to active ownership of shares in stock-listed companies, the recklessly made decision to nationalise the pool of assets in pension funds invested in stocks as it would have detrimental impact on Polish stock market and economy.

Pension fund defenders convince pension funds have contributed to higher GDP growth rate, while the government claims the effect on economic growth has been negative. The former back their assertion by arguments I mentioned in the paragraph above, the latter point out transfers of part of pension contributions transferred to private-run pension funds, which had to be replenished by subsidies from state budget, increased government’s borrowing needs, debt-to-GDP ratio and thus debt service costs. However, the same debt was later purchased by pension funds, hence increased demand for borrowing from the government was balanced by increased demand from pension funds – those two have cancelled each other out, leaving yields on government bonds roughly unchanged, with some intermediaries (private companies managing pension funds) charging a considerable percentage of that “hollow circulation of funds” as fee for facilitating the process. Their revenues, from standpoint of future pensioners generated a loss.

The report highlights the problem of “double-tax generation”. One of the goals of the pension reform in Poland was a shift from pay-as-you-go to capital system. Under such move, one working generation had to pay contributions for benefits of current retirees and, at the same time, “save” for their own pensions. Is such burden not to heavy to carry? Authors of the reformed wanted to fill the gap by proceeds from privatisation, as the generation of current retirees, working in socialist Poland, had built many of the big state-controlled companies. Privatisation itself should be a goal, but not at any price and not to, let’s face it, meet current government expenses. The whole concept of privatisation as source of funding for the reform, resembles me a granny who sells her unnecessary jewellery to make ends meet. Whether it is wise – I am not the one to judge it…

The issue hardly anyone broaches is conditionality of state’s liabilities towards pensioners. In the Social Security Fund you have book records, while in pension funds you have government securities. Both are the government’s promise to pay, either directly a pension, either to repay bondholders. However, due to form of insurance, book records in Social Security Fund are conditional – these liabilities turn partly unconditional, when a Fund member retires; in pension funds, where assets can be inherited, the liability is conditional as long as a member does not retire. Minister Rostowski declared the part of assets transferred from pension funds to Social Security Fund will also be inheritable, hence in such way state budget would not be better off.

And the last problem, with which I have not come up – frankly speaking I hatched the idea on one of Internet forums – is the functioning of pension funds in the light of MIFID. Under investor protection regulations, if I was to pay my money into investment fund with exactly the same investment policy as a strictly regulated pension fund, I would be obliged to fill in a survey to check suitability of such investment for me, and in case of unsuitability, I would be warned against it and would have to sign a statement despite the warning I want to invest in a risky product. In the case of pension funds, nobody bothers to follow such procedure, which disproves the untrue claim that “in pension funds there are people’s money”.

The government presented for further discussion 3 variants:

1. The pool of assets in pension funds comprising of government securities is transferred to Social Security Fund and booked on accounts allocated to future pensioners. Other assets in pension funds remain intact, 2.92% out of 19.52% pension contribution goes to private-run pension funds which are not allowed to invest in government-issued securities, the rest goes to Social Security Fund. Furthermore, internal benchmark mechanism (pathological) is scrapped, but indebtedness ceiling level (currently 50%, 55%, 60% of debt-to-GDP) are accordingly decreased to prevent rise in public debt.

2. Citizens are free to choose, whether to participate in private-run pension funds, or to rely only on state-run Social Security System. The proposal, as I far as I could notice, does not pin down the split of contribution between state- and private-run parts of the system. This option is more controversial, as system participants would have to submit declarations they want to stay in a specific pension fund; not submitting a declaration would mean silent assent for transfer of assets to Social Security Fund, plus such decision would be irrevocable, while the decision to stay in a pension fund could be revoked any time in the future). Moreover, there is a problem what to do with shares of companies transferred to Social Security – this would be hard nut to crack, yet feasible, the report contains some recommendations with feasibility and drawback analyses. The idea to “write off” government bonds transferred to Social Security Fund would have to be thoroughly analysed by lawyers, as this smacks of sovereign default!

3. Extended freedom to choose – if someone chooses to stay with a pension funds, pension contribution to private-run funds would be 2 percentage points (in relation to pre-tax salary) higher. If you read between the lines, the message is “if you think private-run pension funds are so good, why not pay them more?)

The government also resolved that state-run Social Security System will be responsible for all benefit payments and assets from pension funds will be gradually transferred to Social Security Fund over last 10 years before retirement, to minimise risk of lower pension due to downturn on financial markets.

As commentators say, variant 3 is least likely to go through, while oppositional parties lean towards variant 2. I also hold the view that, despite some of its drawbacks, would be the lesser of all evils and, if amended properly (I put forward a citizen has to submit a declaration if they want to have assets allocated to them transferred to Social Security Fund and shifts between state-run and private-run funds could be done many times and in both way, of course in minimum intervals of let’s say 6 months), should be implemented.

What I did not like about the report is that private-run pension funds and their managers who have ripped over 17 billion PLN off future pensioners are presented as scapegoats. They are only a beneficiaries of legal framework created by politicians and if somebody is to blame, these are politicians, who passed such law, thanks to social support achieved thanks to several misrepresentations. Imagine you are a wife and your husband asks in his buddies to your house and lets them eat the whole content of your fridge, piss in your garden and demolish your furniture – your husband is to blame, not the buddies who were allowed to do damages.

One of my colleagues from work told me pension funds from the beginning were meant to be the scapegoat (not only the best, for reasons below, business on earth). In fact, to tackle demographic problems you only had to shift from benefit-defined to contribution-defined system, raise retirement age, scrap some privileges and create legal framework for voluntary private-run system of pension saving or insurance. At the end of the day, how high pension benefits will be depends only on standing of the economy, as investment results of pension fund in the long run depend on them. This means obligatory pension funds create little value added, and, provided calculations in the report are accurate, costs they generate are higher than value added they generate.

Now comes the time for consultancies. The debate will be fierce, as the prime minister said, big money is at stake – but for both sides of the argument. Minister Rostowski will play for more balanced budget, pension funds and its defenders will play for state-guaranteed source of profits on risk- and responsibility-free business. And I believe interests of the future pensioners are somewhere near the bottom of the list of priorities defenders are opponents of pension funds have.

I only fear the pension funds will draw another divide line in the Polish society. We have Poles who believe Martial Law in 1981 prevented a disaster and Poles who believes general Jaruzelski (turning 90 next Saturday) declared it despite there was no threat of Soviet intervention only to nip in the bud growing social movement. We have Poles who believe Smolensk crash was a tragic accident being aftermath of human errors and Poles who believe it was an assassination. From now we will have Poles praising government for dismantling the biggest scam in over 20 years of Third Republic of Poland and Poles believing the government wants to take over their money.

For the very end, I was deeply astonished by press conference on Friday by Mr. Balcerowicz, one of leading defenders of pension funds. When I looked at his wrathful face when he avidly spoke of “lies, misrepresentations and propaganda” I feared he would kick the bucket. He did not, but I am curious to find out why he failed to mention a single, specific lie and disprove it. Is it so difficult to say “the statement you can find on page X, paragraph X of the report, i.e. “quote” is untrue, because this and that”? Why has he not done it?

The release of the report coincides also with congress of the Civic Platform, held this weekend. It made me realise if I were to choose, I would opt for Donald Tusk’s platform, not Jarosław Gowin’s one. I opt for moderate economic and social liberalism, not conservatism. But above all, I opt for sound mind and common sense!

Pension system in Poland – pending overhaul…

The topic of private-run pension funds in Poland (the biggest scam in the history of Poland after 1989 IMHO) has been shelved on this blog over two years ago. Back then I outlined a relatively decent (how modest of me) summary of its workings and the government’s plans at that time. As I see no point in flogging the dead horse, if you need to catch up, please revert to ample previous posts where you can find both my private opinion on the workings (and pathologies) of second pillar of Polish social security system, as well as an unbiased description of it.

By the end of first half of 2013 the government plans to carry out a long-awaited comprehensive review of the whole pension system in Poland, the review is bound to cover not only the private-run pension funds, but also other contemptible features of it, such as privileges for many groups of professionals that need to be funded from taxpayers’ purse.

As the results of the review have not come to the light, there have been speculations regarding what the government might do to enhance workings of the private-run pension funds. As some of the government-liked economists claimed, any outcome was conceivable, including fully scrapping the pension funds and moving assets from there to state-run social security fund (running deficit for years), if their existence was deemed detrimental to future pensioners and public finances. This most abject plan has been given up, as one of three main rating agencies threatened to downgrade the rating of Poland if the government seized assets accumulated there. The Polish government is aware that you shouldn’t mess with ruthless financial markets and it quickly backed out of such option, declaring it had never come into play. I’m in two minds about such stance, but it’s hard to deny the government the foresight in this respect. Lucky streak of low debt service costs will not last forever…

Now to the point. Pension system is an element of public discourse; several economists, politicians and, let’s speak it out, lobbyists make several statements to shape Poles’ opinions on it. The problem is some of them are not home truths. I will confine to pointing at just three most blatant… Distortions? Misleading statements? Departures from truths? Misrepresentations?

Misrepresentation 1: Money amassed in pension funds are Poles’ private savings.

The sentence above could be a nice illustration of the English idiom “pack of lies” – let’s count how many lies can you pack into one sentence.

“Money” – what money? Pension funds are a pool of assets, including two key types: government bonds – ca. 55% and shares of publicly traded in Poland companies – ca. 40% (the rest are miscellaneous assets, also cash and bank deposits). These assets are hence securities which represent either a government obligation to redeem its bonds, or ownership stakes in companies.

“Private” – further on, pension funds keep records of their participants in relevant registries, thus each participant is allocated a share in the pool of assets (recorded as number of “settlement units” allocated to them), each share has the same composition of assets. Now how come it is “private”? How come many claim those “money” belong to future pensioners, or is even owned by them? Let’s look at some facts? On 4 June 2008 the Supreme Court of Poland handed down a ruling (quoted and linked in one of previous posts) which clearly stated assets in pension funds are a part of public social security system, hence contributions to pension funds are obligatory. This should dispel all doubts – whatever assets are allocated to the account assigned to you in a pension fund, they are owned by the state. If however, just like many other people, including dr hab. Leszek Balcerowicz (interesting why everyone titles him “professor”, if Mr. Balcerowicz does not hold this academic title, it is only his position at the university I graduated from), claim this is your money, ask yourself a few fundamental questions:

If it is your money – why can’t you withdraw it and spend it the way you want?

If it is your money – why can’t you have influence on how it is invested?

If it is your money – why can’t you use this assets as a collateral for a loan you wish to take out?

If it is your private money – why are you forced to pay huge load fees to private companies managing it?

The only advantage of it “savings” in pension funds is that they are inheritable. There are of course some restrictions aimed to keep “money” in the system, but indeed there are case when contributions, depleted by fees charged by management companies, can come out of system in real cash. Unfortunately the only such circumstance is death…

“Savings” – peculiar are savings funded by debts run up by the Polish state of the taxpayers… With some “little” help of 14 useless, yet expensive intermediaries. No comments…

Misrepresentation 2: Pension funds fetch high profits.

Remember the adage there are “lies, damned lies and statistics”? You could add financial reporting tricks to that list. Here the trick is simple and only recently somebody bothered to analyse its impact on returns brought by pension funds.

The mechanism is very simple – what in all statistics is presented as rate of return is a growth in value of “settlement unit” – a book record representing market value of some portion of assets in a fund. Example: let’s assume now your contribution to a pension fund is 100 PLN. The moment you make a payment one settlement unit is value at 10 PLN. 100 divided by 10 is 10, so you should have allocated 10 settlement units to your account. And here’s the catch! Because load fee for each contribution is 3.5%, only 96.50 PLN out of 100 PLN is invested in assets in the pension fund, the rest goes to oil the wheels of the pension system, majority of which to private management companies. Now let’s assume the value of funds’ assets rose by 4% over the reporting period, so the end-of-period value of one settlement unit is 10.40 PLN. Now recall you bought 9.65 settlement units. Value of assets allocated to you is 9.65 times 10.40 = 100.36 PLN. Your rate of return is 0.36%! Surprised? Now let’s face some other facts: I omit management fees, as they are included in valuation of settlement units, at the reform inception load fee was 10%, then 7% and some 3 years ago it went down to 3.5%. Imagine then break-even rates of return, i.e. by how much market value of funds’ assets had to increase to let their participants earn at least a nominal return (answer: they are respectively: 11.11% and 7.53%), let alone above-inflation one. To recap, given that yields on government bonds run near inflation rate and returns on stocks are very volatile, this system cannot (has a built-in inability to) generate profits to future pensioners. The only beneficiaries are private companies administering it.

Misrepresentation 3: Obligation of the state in form of issued bonds, purchased by pension funds, better secures future pensioners’ interests than promise in form of book record in state social security fund.

Giving lie to this statement takes very little. Let’s look at the example of Greece on the verge of bankruptcy. Bondholders had to accept 53.5% face value haircut, which means out of each single Euro they recover 46.5 Euro cents. Most pensioners have not seen their benefits declining by such percentage, usually in nominal terms their benefits fell by 30%. Media reported single cuts by 60% or 70%, however these hit most privileged Greek pensioners. Moreover in November 2012 Greek Supreme Court declared pension cuts unconstitutional. The same, under the current legal framework, would probably happen in Poland, if it, heaven forbid, was nearing default. Get real! Promise on form of bonds has no higher value than constitutionally protected right to participate in the social security system!

One more misrepresentation is in the calculation of state’s liabilities towards future pensioners. Pension funds advocates claim thanks to existence of pension funds, they become explicit, while in the state-run social security fund they are hidden. They also calculate book record of sum of liabilities on technical accounts with social security fund. They only forget about one detail – these are all contingent liabilities – the state does owe that much to people, as this worst-case scenario comes to a pass only if all people reach pension age. Once somebody dies before retirement, liability towards them is erased. There is no indecency in it, as social security system in Poland functions as insurance – if you pay contributions, you may, bit not have to get the benefit.

Hope it has given you some food for thought, and not for the last time.

The pension debate - part 2

A follow-up to the previous post.

Issue 3: the reform is to crack down on budget deficit and avoid reforms in the election year.

Me: sad, but true. The pension system is overhauled because public finances are in a pitiful state, if they had not been, status quo would have been maintained.

JR: state expenses on infrastructure, education and reduction of public debt contribute to development.

Me: When I look at how private universities and private-run motorways function in Poland I can go along with this.

JR: There is no difference between government bonds and accounts in ZUS.

LB: In ZUS there is nothing, but politicians’ promises. Real securities are kept in pension funds.

Me: A very important point in the discussion in which both LB and JR are partly right. Both government bonds and promises in ZUS are promises of money made by the government. If things go bad, pensioners will have their benefits cut before the government goes officially insolvent and bondholders will be paid off. If things go very bad, both pensioners and bondholders will lose. If things went really bad, the state would probably take over all assets from pension funds (they belong to the state!) to protect itself from bankruptcy! Changing promises in ZUS into government bonds is like buying insurance policy against political risk. The problem is, for me, that insurance premium (fees paid to pension funds and costs of higher interest paid by the state on government bonds) is much too high and hence the whole insurance is not cost-effective.

JR: After the new reform, state-run ZUS will be balanced in the long run, i.e. contributions will cover benefits and the government will not have to subsidy it.

Me: I cannot check, I have no data.

LB: Pension funds will offer higher pensions, because they contribute to economic growth.

JR: Reduction of payments to pension funds will contribute to economic growth, through lower public debts.

Me: At the end of the day both effects of both moves are more or less the same…

Summary:

LB: Pension funds will offer higher benefits because they propel economic growth. Scrapping pension funds undermines the trust citizens put into the state.

LB: Pension funds create huge public debt. Higher public debt means higher costs of servicing it and higher taxes (interests paid on government bonds are taxpayers’ expenses). Means in state-run ZUS are protected by the constitution, hence safe and can offer high pension.

Me: Both guys have annoyed me. Dear Mr Balcerowicz, I do not trust state that secures revenues of 14 private companies owned by multi-national corporations, when other companies struggle to compete on free market! Dear Mr Rostowski, you are promising the moon. The Polish state cannot afford to revalue balances of personal accounts in ZUS at rates you suggest and cannot afford to let part of the money paid into ZUS to be inherited!

The debate however, did not touch upon some other important issues.

A) Nobody called into question that investments on stock markets fetch higher returns than other investments. In the past it was true, but in the era of deregulation, speculative capitals flowing and ebbing, reckless monetary policy, cycles of boom and bust I would not be sure this old rule will be true. It might not be true for the same reasons for which the pension system would collapse – demography…

B) Nobody brought up the issue of real (issued securities) and hidden (obligations towards future pensioners) public debt. Mr Balcerowicz wants the to convert hidden public debt into real one, Mr Rostowski wants to increase hidden debt at the expense of real one. Both types of debts have to be settled, however hidden debt can be redeemed (for example if someone dies before pensioning off) and does not have to be refinanced on ‘ruthless’ financial markets and hence increases the state’s flexibility.

C) Both advocates and opponents of the current pension reforms cited their calculations to prove which variant offers higher benefits. Why has nobody mentioned on what assumptions were these calculations based?

D) “Last but not least” – costs of pension funds, not those borne by taxpayers as higher costs of servicing public debt, but fees paid to pension fund managers. PTEs charge a distribution fee of 3.5% deducted from each contribution and management fee of 0.6% per year. Round the total figure down, and you will get costs of a pension fund standing at around 4%. It means if you pay 100.00 PLN into a pension fund only 96.50 PLN is invested, from the rest management fee is charged over the year. Let’s calculate it. If we assume inflation is at Polish central bank’s target of 2.5%, the rate of return brought by a pension fund has to be 6.5% to break even in real terms! Can pension funds offer a rate of return averaging out 6.5% in the long term? Honestly speaking the rate until now averaged out 9%, so maybe they can. But despite this most people (me too) have less money in ‘their’ accounts in pension funds than they have paid in, because sky-high fees have eaten up the profits! Now the distribution fee stands at ‘only’ 3.5%, but in first five years (1999 – 2003) it was 10.0% and from 2004 to 2009 it was 7.0%. With such fees breaking even in nominal terms was barely feasible (interest of government bonds was high at that time). Returns of pension funds are shown in ‘accounting units’ which is another distortion, because ‘accounting units’ are not purchased by the whole sum paid into a pension fund, but by what remains after charging all fees. So all those arguments about high profits brought by pension funds to future pensioners are a spoofery. Profits are, but for companies that manage funds…

And the winner of the debate was:
- in my, my parents’ and colleagues’ opinion – Mr Rostowski,
- in fellow students’ opinion and according to polls – Mr Balcerowicz
- the ultimate winner was one of the moderator – Tadeusz Mosz, for saying a few times there is as shortage of money in Poland.

As you can see, both parties have their own “truths” (a propos truths – one of the best articles about pension reforms I have read), assumptions and calculations. But this is still a positive dimension of the dispute. Unfortunately, I want to share two unsettling observations:

Firstly, there is an old rule, dated to ancient times, saying no-one should be a judge in their own cause. In the case of pension funds this rule has been broken, as many times those who stand up for status quo draw measurable financial benefits from the reform, by having cushy jobs in supervisory boards of PTEs or being in charge of organisations funded by PTEs. It is quite clear that if the flow of money into pension funds is stemmed, their revenues (secured by the state, not earned on free market) will drop. I actually do not want to deny them the right to defend their own interests (lobbying can be civilised as well), but I would prefer if they did not hide their true intentions. PTEs do not give a damn about benefits of future pensioners, but care about their own profits. This absolutely normal and rational in business, if I were in their shoes, I would also try to preserve the current system, but I would not go overboard with resorting to feigned care about future retirees. This hypocrisy should be finally condemned.

If the punch line of the paragraph above is not clear yet, let’s illustrate it with another example. I work at a bank. The government is planning to introduce a bank tax. It is also quite obvious that if the bank tax is levied, my income can decline, as my bank will have less money for bonuses. Should I voice my disapproval and take part in the debate about the new tax? There is no clear answer to this question, but I would personally deny myself the right to do it. For sake of integrity and decency I would keep my mouth shut. And if, for any reason, I decided to raise an objection, I would stress my personal interest before stating any opinion.

Secondly, sides of the discussion have been beforehand categorised into better (for pension funds) and worse (against them). The consensus about pension funds can be compared to situation in Polish politics in 2007. Then it was ‘cool’ to vote for PO and ‘not cool’ to support PiS. The same trick has been done about pension funds. It is generally acceptable to be for them, and those who say something is amiss about the shape of pension reform are hailed as ‘cranks’ (oszołomy). Thus I have joined (long ago) the group of cranks, whose views are too controversial to be reckoned with. The most powerful detractor of the current pension system is the ultra-liberal think tank Centrum Adama Smitha, which has come up with a proposal to take a leaf out of Canadians’ book and reshape our pension system, so that the state would guarantee a low pension benefit (enough to scrape along by, funded from taxes) and for the rest taxpayers would have to take care on their own. This would mean scrapping both state-run ZUS (in fact only its part responsible for collecting pension contributions and paying out pension benefits) and obligatory contributions to pension funds.

The determination defenders of pension funds display is enviable. In the wake of the government’s decision Krzysztof Rybiński announced he would file a class action against the government. Alas, he did not read the new class action law carefully and did not notice the basis for filing a class action is a measurable loss incurred by each member of the class, not an estimation. The problem is that before someone retires, they cannot measure their loss. There is, nevertheless, somebody who can sue the government under that law. Those are companies that manage pension funds and charge sky-high fees. Their unearned revenues are measurable and are a solid basis for lawsuit against the Polish state…After all these companies and people affiliated with them (some of them are authors of the reform) are the key beneficiaries of the reformed pension system…

The saddest thing in the whole case is that many people believe (usually because they have been misled) assets (i.e. mainly government bonds and stocks) pooled in pension funds are their money, which is a big departure from the truth, for a single, yet meaningful reason – the ruling of supreme court, dated 4 June 2008, the money obligatorily paid into pension funds is not owned by the person who pays it

W 1998 r. ustawodawca wybrał określony model ubezpieczeń społecznych. Państwo ma zaś konstytucyjny obowiązek zapewnienia środków na zabezpieczenie społeczne każdego obywatela. Nie można się zatem powoływać na normy konstytucyjne o ochronie własności prywatnej, bo podlega ona ograniczeniom. Składka odprowadzana do OFE ma charakter publicznoprawny, zaś świadczenie z II filaru jest gwarantowane przez państwo. SN zwrócił uwagę, iż w praktyce będzie dochodzić do sytuacji, kiedy pewne osoby będą żyły dłużej niż środki zgromadzone na ich kontach, przewidywane na określoną długość życia; w takim przypadku oczywiście ich świadczenia będą musiały być finansowane ze składek innych osób. Z tego wynika, że ta składka nie jest prywatną własnością ubezpieczonego

In practice it means assets in pension funds are owned by the state and managed by private companies under public-private partnership. After all benefits from pension funds are guaranteed by the state (if the worst comes to the worst and the reform turns out to be a big flop). It also means citizens do not have any influence on investment portfolios of pension funds, nor can use the money at their discretion. Opponents of government say prime minister Tusk and finance minister Rostowski want to deprive us of our money and here is the catch. They indeed can do what has been done in Hungary or Argentina, where all assets kept in private-run pension funds under state-owned systems have been taken over. In Poland this or another government can do the same, because the law allows for it. Therefore I am against compulsory payments into pension funds. The contributions there are not safe, as my savings in stocks, bonds, bank deposits, investment funds are and assertion that transferring money into pension funds under state-owned system increases security of our pensions is a daydream…

While the government, deemed to be liberal, dismantles the reform which has been said to be pro-market one (I would call it into question), opposition parties, deemed to be rather statist, struggle to take a line on the reform. Both PiS and SLD spite the government, just for principle. PiS puts forward that each Pole should be given the freedom to decide whether to save in ZUS or in pension funds. This proposal does take my fancy, but I could not find any technical details of its implementation. Technically transferring huge amounts of money between ZUS and pension funds is barely feasible. Leftist SLD should, in principle opt for state-run social security rather than private funds, but this time their reasoning does the other way round. At the end of the day the left-wing party organised a public hearings and suggested that share of contribution paid into pension funds by citizens born after 1980 should be higher than paid by those born earlier. Those born from 1949 to 1968 should be able to return to state-run insurer. Both counter-proposals seem to make sense, but unfortunately we have too think pragmatically here and pragmatism has its painful limitations…

Is the whole current reform a good move? I have long been in two minds about it, but all things considered I am for the current reform. Given the choice, as put forward by PiS, between ZUS and pension funds, I would after all opt for the former, even if I had to put all my eggs into one basket, have a lower pension benefit and believe in promises rather than in real assets. The social security system in Poland is bound to collapse, so it the reform can postpone the moment it happens, may it be. May at least my parents get their pensions before they die, I do not expect much from the state. Obligatory payments into private companies in the way pension system in Poland is arranged are a typical example of privatising profits and socialising losses and it stands at odds with my values. Pension funds are too expensive (in terms of fees they charged) and hence cannot, as I pointed out earlier, in the long run, offer me a high rate of return. And after all I considered the failure of pension funds to be a government failure, not a market failure. Pension funds are so stringently regulated that the environment in which they operate is far cry from free market. Form of ownership is not the only determinant of a company’s efficiency.

The biggest pity about the whole issue is that most Poles do not understand what actually is going on and what is at stake…