The Pension Schemes Bill, which began its second reading this week, continues some sensible reforms which should tidy up the industry and boost returns for savers. However, these have been overshadowed by a pointless row over plans to direct more investment towards “private assets”.
Most strikingly, in an interview with the Financial Times on Monday, the chief executive of Lloyds Banking Group described these plans as a “form of capital controls” and compared them to the heavy-handed state interventions which are more common in economies like China. He definitely has a point.
This needs a bit of explaining. Crucially, this is not about increasing investment in UK equities – at least, not those traded on public markets such as the London Stock Exchange. Instead, it is about unlisted private assets, such as infrastructure, property funds, venture capital (mainly aimed at start-up companies), and private equity. These alternative investments may offer higher long-term returns, but they tend to be riskier, much less liquid, and harder to value.
The UK has lagged behind here. Analysis by the Pensions Policy Institute (PPI) suggests that UK pension funds on average only hold 6 per cent of their portfolios in private assets, well below the 20 to 30 per cent in world leaders such as Canada and Australia.
The previous government has already begun to address this issue. Back in 2023, 11 pension funds committed to the “Mansion House Compact”. This was a voluntary agreement to allocate 5 per cent of their main defined contribution funds to unlisted companies by 2030.
However, the Labour Government has taken this idea much further. Under the new “Mansion House Accord”, confirmed in May, 17 managers including Aegon and Legal & General pledged to invest 10 per cent of their workplace portfolios in a wider range of private assets, including infrastructure and property funds. That additional investment could be worth around £50bn by 2030.
At least 5 per cent of these portfolios would be ring-fenced for investment in UK private assets rather than overseas markets.
Moreover, while the Mansion House Accord is still notionally a voluntary agreement, the Government will now have a “reserve power” which would allow it to set specific targets for schemes to invest in private assets, including in the UK.
This appears to trample all over a fundamental point of principle. The managers and trustees of pension funds have a “fiduciary duty” to act in the best interests of their members. They should not therefore be forced to buy particular types of assets if doing so might conflict with that duty.
A mandatory 5 per cent minimum allocation to UK private assets would indeed smack of “capital controls”.
The Government is making three counter-arguments, but none of these is convincing.
The first is that many funds are already increasing their allocations to private assets and that these can provide superior returns to savers. Indeed, some funds have already committed to allocate more than the 5 per cent and 10 per cent targets. Ministers have therefore insisted that they do not expect to have to use their new powers.
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But this defence is unsatisfactory. If these alternative investments are really in the best interests of scheme members, then fund managers and trustees can be left to make that judgement themselves – and it begs the question of why the reserve powers would ever be needed.
The second argument is some sort of appeal to the “greater good”. There may well be clear benefits for the UK economy in increasing the amount of private capital available to fund infrastructure projects, housebuilding, or start-up companies. But it would be far better to focus on creating the conditions under which these projects and companies can attract more capital on their own merits, rather than to force private pension funds to invest in them.
Mandating particular types of investment could even backfire, by diverting resources from investments that might actually be better for the economy, as well as savers. The official briefing gives the impression that up to £50bn of capital is sitting idle in pension funds and would only now be put to “productive” use. But in fact, this capital is already invested in public equities, or government and corporate bonds.
The Government’s third argument, though more implied than explicit, is that the pension fund industry benefits from a large amount of public subsidy, including tax relief on pension contributions. This might justify the Government having some more say in where the money is invested.
But this rationale only makes sense if you believe that the Government should be in the business of telling pension funds where to invest, regardless of the interests of savers. That, surely, is a step too far.
Julian Jessop (@julianhjessop) is an independent economist and fellow at the Institute of Economic Affairs
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